For Now, Global Turmoil will not Phase Canada’s Economy

Canada’s economy has avoided the effects of global financial turmoil thanks to a hot housing market and the end of some temporary economic shocks.

GDP is set to have its strongest quarter since the fourth quarter of 2010, offsetting the temporary weakness from the second quarter. Growth in July and August was quite solid, and September may be even stronger. Retail sales and manufacturing showed strong month-over-month gains last month. Furthermore, September had an unexpectedly large trade surplus – the first since January. In general, nearly all indicators for the third quarter are very favourable. Based on a strong September growth rate, Canada’s economy likely grew at a clip of 3.2 to 3.5 percent annualized in the third quarter of 2011.

On the goods-producing side of the economy, manufacturing sales have soared. Transportation manufacturing finally turned a corner with the end of supply disruptions related to the devastating Japanese tsunami and earthquake. Aerospace manufacturing, which can vary quite a bit month-to-month, has also seen strong gains. Crude oil production is also likely to see higher output, because production has restarted near Fort Mcmurray when the threat of forest fires eased midsummer. Early construction indicators are strong as well. Housing starts have been hovering above 200,000 new units, well above expecations. It seems that homebuilders continue to expect interest rates to remain at historic lows.

The service side of the economy is also showing strength. Lower new car prices has led to more retail trade. Housing sales have been soaring this quarter which has led to more mortgage and finance activity. Trading volumes on the TSX look particularly strong as well due to high volatility. Wholesale sales have been weak through the quarter, but this is a result of lower demand for new machinery which is mostly imported. Higher manufacturing and mining output will result in more transportation and warehousing services.

Canada’s economy can expect a return to reality next quarter. Inventories are now higher than before the recession. Furthermore, a lot of growth in the third quarter was concentrated in industries rebounding from temporary economic shocks. In fact, at least one new negative shock is in the cards for the fourth quarter; the floods in Thailand have led to temporary shutdowns at Honda’s vehicle plant in Alliston, Ontario. Consumer confidence has been sliding for months in Canada. Building permits, a good leading indicator of construction, have also been down the past 2 months. The U.S. and european debt crises continue to deepen as the U.S. government remains deadlocked on a solution and the ECB remains unwilling to prop-up beleaguered economies. With sagging international demand from Canada’s biggest customers, it is hard to see how Canada’s export oriented industries can expand. On the upside, low interest rates might help prop up the housing market and consumer demand for cars and appliances. But Canadian consumers are financially stretched and feeling insecure about the economy. In the fourth quarter, growth in Canada’s economy will depend on the unlikely end or easing of the financial turmoil in the rest of the world.