Economic Data Better Than Headline Figures Suggest
On a hot summer Friday morning, Canadian and U.S. data gatherers posted GDP figures. The numbers look pretty bad and both countries, but fortunately, digging deeper, they were not as bad as at first glance.
Canadian GDP Data
The May figure for Canadian Gross Domestic Product by Industry posted a decline of 0.6 percent, but the weakness was largely the result of the Fort McMurray wildfire and evacuation. The mining, quarrying, and oil and gas extraction sector fell 6.4 percent, as the output of the non-conventional oil extraction industry recorded a whopping 22 percent plunge. This took down the overall output of the goods-producing industries. Excluding the decline in oil extraction, real GDP edged down 0.1 percent in May–much better, but still no great shakes.
Manufacturing activity declined 2.4 percent. About one-third of the decline was the result of a larger-than-expected 15 percent drop in output from oil refineries, reflecting the fall-off in oil sands production. In coming months, the recovery from the Fort McMurray disaster will boost the GDP figures as rebuilding commences and oil extraction resumes. The weakness in manufacturing was also the result of a drop in transportation equipment manufacturing that “resulted partly from supply interruptions associated with the earthquake in Japan.” This weakness should reverse going forward as well.
Construction activity was also weak in May, falling 0.7 percent following a flat number in April, taking the year-over-year figure down to a 3.7 percent decline. Statistics Canada reported that residential building construction fell 1.2 percent in May as fewer single-family dwellings were built. The real estate and rental and leasing sector edged up 0.1 percent, partly as a result of higher output from lessors of real estate. The sector’s rise was tempered by a 2.4 percent decline in the output of real estate agents and brokers, as home resale activity dropped in most markets, led by those in British Columbia and Ontario.
Many have pointed out the irony of the timing of this week’s introduction of a 15 percent land transfer tax on foreign purchases of residential real estate in Metro Vancouver. Home resales appear to have slowed in this region, although house prices continue to surge.
The output of service-producing companies rose 0.3 percent, led by wholesale trade and public administration. Finance and insurance as well as arts, entertainment and recreation also posted gains. Retail trade was also up in May, bringing the year-over-year increase in this sector to 4.3 percent. Regional data for wholesale and retail sales indicated weakness in Alberta related to the wildfires, although it was offset by strength elsewhere in the country.
Bottom Line: Today’s report was roughly consistent with the 1.0 percent GDP decline in Canada currently projected for the second quarter of 2016 by the Bank of Canada. With indications that oil sand production has returned to levels prevailing prior to the wildfires, this weakness should be fully reversed and is consistent with the Bank of Canada’s third-quarter 2016 growth projection of 3.5 percent. Expect the central bank to remain on the sidelines, maintaining the overnight rate at the current 0.50 percent awaiting confirmation of growth rebounding strongly in the current quarter.
U.S. Q2 GDP Disappoints
The U.S. economy expanded less than forecast in the second quarter after a weaker start to the year than previously estimated as companies slimmed down inventories and remained wary of investing amid shaky global demand.
The second quarter growth in the U.S. economy came it at a less-than-forecast 1.2 percent gain despite a sizable 4.2 percent jump in consumer spending as declines in business investment and inventories provided offset. Economists had expected a 2.5 percent second-quarter increase. The report raises the risk to the outlook at a time Federal Reserve policy makers are looking for sustained improvement, Where consumers were resilient last quarter, businesses were cautious — cutting back on investment and aggressively reducing stockpiles amid weak global markets, heightened uncertainty, and the lingering drag from a stronger dollar. On a positive note, leaner inventories could set the stage for a pickup in production later this year should demand hold up.
Weakness in business investment was highlighted in this week’s Federal Reserve statement. Corporate spending on equipment, structures and intellectual property, decreased an annualized 2.2 percent after a 3.4 percent fall in the first quarter. Outlays for equipment dropped for the fourth quarter in the last five. Spending on structures — everything from factories to shops to oil rigs — has increased in just one quarter since the end of 2014.
Also holding back U.S. economic growth in the second quarter was a decrease in residential investment, which fell at a 6.1 percent pace. That was the most since the third quarter of 2010 and marked the first decrease in two years.
Government spending also shrank last quarter, declining 0.9 percent, the most in more than two years as outlays for the military fell. States and municipalities also cut back.
The GDP report also showed price pressures remain limited–another factor keeping the Fed on the sidelines. The Fed’s preferred measure of inflation, which is tied to consumer spending and strips out food and energy costs, climbed at a 1.7 percent annualized pace compared with 2.1 percent in the prior quarter.
Bottom Line: Inventories and the trade gap are two of the most volatile components in GDP calculations. To get a better sense of demand in the U.S., economists look at final sales to domestic purchasers, or GDP excluding inventories and net exports. That measure increased 2.1 percent last quarter after a 1.2 percent gain in the first quarter. The strengthening in consumer spending was encouraging, and households should continue to contribute to growth amid an improving labour market and low interest rates.
In this contentious political season, there is no doubt the Trump forces will highlight the negatives in this morning’s report to support their erroneous assertion that the U.S. economy is in dire straits.