Interest Rates

Worst consumer spending in a decade might give Bank of Canada pause on rates

By: Lisa Coxon on February 7, 2019

Canadian consumer spending is on track for its slowest year since 2009, according to a report from the National Bank of Canada. And the news comes as we’re one month away from the Bank of Canada’s next rate announcement, on March 6.

Economists at the National Bank are predicting that “real consumption growth,” which is calculated after the impact of inflation is removed from the equation, will fall to 1.3% in 2019. This would be the lowest since 2009, when real consumption growth fell to 0.2% just one year after the 2008 recession.

“Canada’s economy is decelerating in synch with a softening housing market and related fading wealth effects which are curtailing consumption spending, the latter already under pressure from rising interest rates and a low household savings rate,” Krishen Rangasamy, senior economist at National Bank, writes in the report. “Barring fiscal relief from the federal government in 2019, consumption growth is on track for its worst year in a decade.”

How might these findings affect the Bank of Canada’s decision next month? Well, the forecast has been somewhat unpredictable as of late. In 2018, economists were predicting at least three rate hikes in 2019, but citing concerns over the U.S.-China trade war, low oil prices, “dampened” household spending, fewer investments in the housing sector, and slower gross domestic product (GDP) growth, the Bank maintained its overnight interest rate at 1.75% at the last two announcements, on January 9, and on December 5, 2018.

National Bank is forecasting in its report that the overnight interest rate will hit 2.25% this year and drop to 2.00% in 2020 — meaning they’re predicting at least two 25 basis point hikes this year. The overnight interest rate affects financial products tied to the prime rate, such as variable-rate mortgages and loans.

Those increases could hurt consumer spending even more.

“Also hurting the ability of households to spend are higher interest rates,” Rangasamy writes. “Note that personal bankruptcies shot up last quarter in all of the country’s four largest provinces.”

Bank of Canada deputy governor Timothy Lane is confident that the loonie will come to Canada’s aid. He said in a speech on Wednesday that, “The lower Canadian dollar, in turn, will help support the economy through this period.”

Still, some economists aren’t confident that consumer spending will bounce back anytime soon.

“Fiscal relief from the federal government, a distinct possibility given that we’re in an election year, could temporarily give a boost to households,” Rangasamy writes. This could help stimulate the economy.

“But considering elevated household debt and a low savings rate, it’s difficult to imagine a scenario other than smaller and smaller contributions to GDP growth from consumption spending going forward.”

What this means for the Bank of Canada’s next rate announcement is still unknown.

Royce Mendes, Director and Economist at CIBC, says the bank is anticipating one rate hike in 2019 to come later in the year. In a note at the end of January, Mendes wrote: “Overall, it appears that, while the Bank did adopt a significantly more dovish tone recently, they are still expecting that the next rate move to be a hike, something we have penciled in for the second half of 2019.”

Benjamin Reitzes, BMO’s Canadian Rates and Macro Strategist, says that Canada’s tough economy might actually have the opposite effect on the Bank’s approach. In a note at the end of January, Reitzes referenced a report from Statistics Canada that indicated retail, wholesale and manufacturing activity declined in November 2018. “Indeed, this report changes little for the BoC,” Reitzes wrote, “but reinforces that they’ll be extremely patient with policy.”

At the beginning of this month, Reitzes expanded on this prediction, saying, “...we’ve pared our BoC call. We’re now looking for just one more hike from the Bank in December 2019. The lengthy pause is driven by sluggish domestic and global growth, along with benign inflation through this year.”