MNI INTERVIEW: Canada Firms Resilient as BOC Hikes-Chamber

Canadian firms are showing resilience against recession threats seen across the U.S., Europe and China, giving the central bank scope to take the highest interest rates in the G7 even further to brake inflation, a former government economist now with the national Chamber of Commerce told MNI.

Almost seven in 10 companies are optimistic about the outlook over the next year according to a recent Statistics Canada survey developed in tandem with the chamber, where Steven Tapp is chief economist. Despite a series of markdowns this year for global growth, Canadian firms benefit from high prices for exported commodities, pent-up demand for services locked down longer than in the U.S., and higher labor force participation than in the U.S., Tapp said.

“This survey at least on its own would not suggest that we are looking at recession levels of business sentiment," said Tapp, who has worked at the central bank and finance department. "It’s certainly not strong growth here, but it’s not a year where you worry all that much that growth is going to completely stall out.”

Bank of Canada Governor Tiff Macklem's 100bp rate increase in July may be followed by another 50bp or 75bps at a Sept. 7 decision according to the market consensus, pulling further ahead of the Federal Reserve and other G7 peers. While inflation has likely peaked in Canada and the U.S., outsized rate hikes may be needed until inflation moves below 5% and core prices move lower too, Tapp said.

QUITE A BIT OF FIRE

Inflation that's now at 7.6% will likely linger around 7% into the fourth quarter of this year, Tapp said. The BOC's own forecasts show prices may not return to 2% within its two-year mandate, which is “quite a bit of fire to be playing with," he said. Inflation may drop around April when the impact of the jump in gasoline prices falls out of 12-month CPI, he said, but the bigger problem is that core inflation is still accelerating, reaching about 5%.

The rate of companies seeing inflation as an obstacle is unprecedented against other types of problems, even recent reports of labor shortages, Tapp said.

“The hardest part to stamp out inflation will be to get core inflation measures back below say three, three-and-a-half percent,” he said. “Rates are going to have to continue to go up and get into a territory where they are more restrictive.”

Canada's economic growth will slow significantly in the second half of this year and into 2023, when the real pressure from a weaker global economy will likely bite, Tapp said. He's more optimistic than RBC and Desjardins who see a mild recession early next year, a view another government adviser told MNI is more likely than a wage-price spiral.

BIGGER CRYSTAL BALL

“The bigger crystal ball problem is what happens next year if the U.S. is struggling, and Europe is struggling, and China is struggling,” he said. Canadian spending may soften as the housing market drops off and governments seek to avoid adding to inflation pressures, Tapp said.

The pressure to shift away from tight policy will intensify in 2023 as growth slows, inflation may slip below 5%, and the Fed may step back.

“Once headline inflation breaks down below 5%, then probably there will be some people saying OK we’ve gotten the problem under control,” Tapp said, adding that this will “test the resolve of the Bank. Will they continue to tighten?”

“If the Fed is still going gangbusters and inflation is still over 5%, it’s pretty hard for the Bank to sit on its hands and say we’ve got things under control,” he said.