Energy Export Cliff Diving?

During oil's run to $150, Canada enjoyed enormous receipts from energy product exports. These receipts reached about $35 billion in Q2 and Q3 2008 and since Canada is a net exporter of energy, energy receipts greatly helped our overall trade surplus.

So what happens now that oil has fallen to $40? A (very) simple model of the elasticity of energy exports with respect to a one quarter lag of the price of crude oil (I know we export more than oil, but I already told you the model was simple) suggests that energy exports are about to fall off a cliff.


Look out below!

Canadian Quarterly Economic Forecast 2009

One of my objectives in starting this blog was to keep a record of my own economic forecasts (with the recognition that economists have a fairly pitiful forecasting record). Moreover, I haven't been quite satisfied with my initial crack at forecasting the Canadian economy in 2009. Here I present a revised quarterly forecast (though I'll stand by my original numbers for the contest).

As shown in the table, I am forecasting that the economy will be in recession for at least 3 quarters, from 2008Q4 to 2009Q2 with a real possibility of the recession extending into 2009Q3. Importantly, this forecast assumes government stimulus of 0.5% of GDP in 2009Q3 and 0.5% in 2009Q4 - that is, a stimulus package proposed in the January budget will take several months to impact the economy. This is an entirely arbitrary assumption, but one I can live with. Based on the most common number thrown around in the media I've assumed total stimulus of 2% of GDP, spread equally across four quarters (this is almost certainly wrong but maybe close enough). Without this stimulus, I would project that the recession would last through 2009Q4.

Without further ado, I present the inaugural Shock Minus Control forecast:












So how does my projected 2009 recession compare with past Canadian recessions? If my forecast is close, it should be fairly deep but perhaps not as drawn out as 1981 or 1990:

Bad sign for domestic demand?

If a severe recession is to occur in Canada, it will have to be home-made. A 1% shock to growth in the United States translates to about o.33% in Canada and so even a very severe contraction in the US may not be enough to drag the Canadian economy into a deep recession if domestic demand holds up. However, recent construction data shows that may be a big if.

Residential and Non-Residential investment in structures is clearly softening. Recent building permit data show declines in permits and housing starts have been trending sharply lower for many months. However, it is not the direct impact of the slowing construction sector that has me concerned - investment in structures is only about 10% of GDP - its the potential impact on employment, and therefore personal consumption, from a slowing construction sector. As Stephen Gordon points out, unemployment in the construction sector is at an all time low and construction currently occupies about 7% of the labour force, well above historical average levels.

Seasonally adjusted construction employment fell by 44,000 jobs from November 2008 to December 2008 - if this trend continues, and I think it will, it will be much harder for the economy to escape with only a short and shallow recession.

Is Jeff Rubin becoming a counter-indicator?

It seems to me that, in the past year or so (maybe more), investors taking the opposite trade of every idea that Jeff Rubin has had would have outperformed the market substantially.

If that is true, this may be bad news for North American equity markets

Flaherty, Flaherty, Flaherty...

After all his blustering about bank lending, Jim Flaherty has now seen the light - tight borrowing conditions in Canada are not due to reluctant banks, but rather tightness in other segments of the credit market - particularly commercial paper. Corporate paper spreads are still too high (see figure to the right), even for quality borrowers, and buyers of securitized commercial paper have lost their appetite for asset-backed products.

Until credit markets return to normal and investors have regained confidence in the quality and transparency of securitized products, the only real option for alleviating short-term funding costs may be for the Bank of Canada to begin buying commercial paper. Marc Carney seems willing to get creative so I'd hope to see this happen sooner rather than later.

Now, I'm not very political and so please don't read it that way, but why has it taken so long for the Finance Minister to figure all of this out? Moreover, it seems that he has been consistently behind the curve on economic issues. First there was the disastrous and totally out-of-touch economic update which was followed by a rapid about-face on deficit spending and then he goes and picks a wrongheaded fight (that he rightfully lost) with Canadian banks. Perhaps it is time for a cabinet shuffle?

Consensus Forecasts: Bloggers vs. Bay Street

As a follow up to the Great Canadian EconoBlog Forecast contest, I thought it would be interesting to compare the opinions of Canadian economics bloggers with the pros on Bay Street. The charts below compare the mean forecast and range of forecasts for 4 of the macro-variables in the contest made by Bloggers and Bay Street (I didn't have time to gather TSX forecasts from the Banks). The sample includes TD, CIBC, Scotia, RBC, and BMO (apologies to National Bank, I couldn't find updated forecasts on your website). The sample of bloggers includes myself, Nick and Stephen from Worthwhile Canadian Initiative, Mike Moffat, and Andrew from Stackelberg Follower. I know others made forecasts but if I couldn't see a link to a blog, you weren't included.



It is interesting that the variable that is the hardest to forecast, the exchange rate, has an appropriately large range (78 cents to 94 cents) and that this range is almost identical between groups of forecasters. Moreover, the Banks would seem to be slightly more bullish on growth, hence the BoC target close to 1%, than the bloggers consensus of only about 0.5%. Other than that, it is generally agreed that inflation will be too low and unemployment too high.

Canadian Econoblogosphere Forecasting Contest 2009

The fellas over at Worthwhile Canadian Initiative have thrown down the proverbial gauntlet - here are the rules:

1. Unconditional point-forecasts only, for 5 macroeconomic variables: CPI, Unemployment Rate, US/CAN Exchange Rate, BoC Target, TSX (My forecasts are the product of a small-scale model so I'll throw in a real GDP forecast as well).
2. Only those who have made a forecast will be allowed to laugh at others' forecasts in January 2010.
3. No prize for the best forecast (other than bragging rights).
4. "Best" forecast is defined as that which minimises the following loss function:
Loss = sum of absolute value of [(forecast-actual)/latest available end of 2008 actual].

Here is what I think is in store for 2009:

CPI Inflation: 0.6%
Unemployment Rate: 7.1%
US/CAN Exchange Rate: 94 cents (with bias downward)
BoC Target: 0.75% (just to be different)
TSX: 8780
Real GDP Growth: -1.7%

That was fun, great idea guys!