Forecasts point to Goldilocks economy in 2014
After almost six years of being overlooked, 2014 is shaping up to be the year where the developed economies regain their mojo.
That includes the United States, Europe and even Japan. Canada will benefit from growth south of the border but because of a slowdown in the developing world, which will affect global commodity prices, economic growth in this country is not poised for spectacular gains this year.
After managing 1.7 per cent growth in 2013 — the second consecutive year of sub-two per cent growth — the forecasts for Canada’s economy in 2014 range from 1.5 to 2.9 per cent.
The developing world — which many argue has benefited from low interest rates in western countries, thanks to the huge amount of government stimulus — is going to encounter some headwinds as a result of the decision by the U.S. Federal Reserve to scale back its quantitative easing program.
In simple terms, it means investors are anticipating a rise in interest rates in the United States — with the result the currencies of developing countries have weakened, causing dollars to flow out of emerging markets and back into countries where returns are better.
In other words, the fixation on economic growth within the socalled “BRIC” countries — Brazil, Russia, India and China — is done.
In fact, with the exception of China, there isn’t much to cheer about in any of those economies in 2014. Brazil is looking at growth of 2.5 per cent, Russia at 1.8 per cent despite high oil prices and India at 5.5 per cent. China’s growth is forecast to be between seven and 7.5 per cent in 2014, which, in the context of an economy worth about $10 trillion US, is very important and more sustainable than the double-digit growth of prior years.
Investors and economists are turning their attention to the po- tential growth in places such as Mexico, South Korea, Indonesia, Malaysia and Africa.
But the real story is going to be the U.S. economy.
After wandering in the desert since markets crashed in 2008, with economic growth averaging just over two per cent ever since, the U.S. is poised for more growth. Housing prices have bottomed, new construction is on the upswing and the Fed has begun the weaning process from the quantitative easing program that enabled businesses to survive the aftermath of the financial collapse.
Add to this the competitive advantage that is developing in the manufacturing sector due to the natural gas bounty — which consulting firm, McKinsey & Co. forecast could add between two and four per cent to GDP in 2014 — and there is cause for optimism, despite persistent challenges in the labour market.
Also important in this analysis is the end of government cutbacks at local, state and federal levels.
No one should underestimate the impact this has had on economic growth in recent years; in 2013 it is estimated this so-called fiscal drag shaved close to two percentage points from GDP growth. Lastly, the fact a budget has been approved will also boost business confidence and is expected to translate into higher levels of investment by businesses.
This improved growth in the U.S. economy is going to benefit Canada — as demand for exports rises. It’s important to note the Canadian dollar has fallen more than 7.5 per cent in the last year, conferring a modest advantage to the export sector that has not been in evidence in the last few years.
Still, as a country dependent on demand for commodities, it’s going to be a modified Goldilocks scenario — not too hot, not too cold, but not quite just right.
The challenge for Canada is the big consumers of natural resources — China and other developing countries — are going to continue to scale back consumption. While we don’t sell directly into those markets, Canada remains a price taker; hence if demand is softer, prices will follow suit and Canada will feel the pinch as a result.
And, in as much as the economic growth picture is a bifurcated one on a global scale, with the developed versus the developing economies, the same holds true in Canada as some provinces are set to do better than others.
That means Alberta, British Columbia and Ontario.
There are some who hold the view that, irrespective of the slowdown in the emerging markets, the commodity “super cycle” still has legs. At this time last year, no one would have believed natural gas would be the top performing commodity in 2013, with AECO C closing up 32.6 per cent on the year at $4.03 thousand cubic feet. Meanwhile, the WTI benchmark gained 7.2 per cent to end the year at $98.42 per barrel.
The biggest questions, when it comes to Canada, natural resources and more specifically, oil and gas, are security of demand and market access.
The continuing growth in U.S. oil and gas production, in the absence of a diversified customer base, means there will be downward pressure on prices although the cost of production has put an implicit floor on oil prices. The good news in recent months is that in the absence of pipeline ac- cess, oil is finding its way into the U.S. refining complex — through pipeline extensions and rail — which has resulted in the narrowing of the differential between Canadian oil production and the U.S. oil benchmark.
The problem — as derailments in Lac Megantic, Que., North Dakota, Alabama and outside Edmonton illustrate — is the more barrels travelling by rail, the greater the probability of accidents.
Perhaps the biggest change on the energy front comes from Mexico, with new legislation being signed to allow the private sector to become involved in developing the country’s oil reserves. It will still be a few years before this comes to fruition but given the dynamics of the energy sector, it’s reasonable to expect dollars that might have come to Canada’s energy sector may be allocated to opportunities in Mexico.
Still, as countries industrialize and middle classes grow, so too does demand for energy. That remains the long-term story for Alberta; investment decisions needed to meet that future demand must be made — and are being made — today.
It’s these business investments in the energy sector that will continue to fuel growth in the province — on everything from the number of people moving to Alberta, to housing construction and consumer spending. When the year closed the books, the province’s unemployment remained at 4.7 per cent — the lowest in the country despite the highest level of in-migration since 1982.
Even with the lack of pipeline access, every economic forecast shows Alberta leading Canada in economic growth this year — 3.9 per cent in 2014 and 3.8 per cent in 2015. If there is to be a pipeline approval or two during the year, expect that number to be revised one way: Upwards.
British Columbia is the other western province set to have a good year. The prospect of LNG projects being developed — as long as the B.C. government establishes a fiscal structure that is globally competitive — will underpin business confidence in the province. Economists are expecting growth to reach 2.4 per cent.
A marginally weaker dollar, in addition to a stronger U.S. economy, is forecast to boost Ontario’s economic growth to the national average of 2.6 per cent. The challenge for both the Bank of Canada and federal Finance Minister Jim Flaherty, remains balancing fiscal and monetary policy in 2014 in a country where the economic prospects are uneven.
It’s been a while since Canada’s economy has benefited from stronger growth south of the border. What’s interesting is that the rate of growth expected in the U.S. — forecast between 2.8 and 3.2 per cent for the year — was a “ho hum” number a decade ago; today it’s almost cause to pop the champagne.
Perhaps the way to look at 2014 is that it will mark a return to levels of growth around the globe that will tick off at a reasonable rate — something that is sustainable and unlikely to fuel inflation as a result of the persistent output gaps.
That means added confidence for investors, businesses and consumers, which is something that has been largely absent for the last five years. Whether that means another record year for U.S. stock markets is one for debate but what is safe to assume is that fundamentals heading into 2014 are much stronger than they were at this time last year; the angst of the last five years is a thing of the past.