U.S. Highlights
- Financial markets jitters have eased somewhat this week as concerns about emerging countries have temporarily subsided, helped in part by a lower U.S. dollar.
- Economic data was mixed. U.S. business investment remained upbeat in July, with new orders of capital goods (ex. aircraft) rising 1.4% m/m. Meanwhile, the housing market disappointed yet again in July.
- On the policy front, FOMC meeting minutes and a speech by Chairman Powell noted the recent strength in economic performance and confidence in the outlook, signaling continued gradual interest rate increases.
Canadian Highlights
- The Canadian dollar edged higher this week as dovish comments by Federal Reserve Chair Powell weighed on the greenback. A softer dollar also supported oil prices, with the benchmark WTI up close to 5% from its close last week to just shy of $70 a barrel (as of writing).
- It was a light week for economic data. Wholesale and retail sales pulled back in June. Retail sales were up strongly in May, leaving the quarterly growth profile intact.
- Real GDP data will be released next week. We expect a strong 3.5% (q/q annualized) print. Growth appears widespread in the quarter, supported by a surge of exports following production disruptions early in the year.
Aside from the political storm in Washington, this was a relatively quiet week. Data-wise, new and existing home sales and durable goods orders were on the docket. On the policy front, highlights included minutes of the FOMC meeting and the central bankers’ conference in Jackson Hole. On the trade front, new China-U.S. trade talks failed to produce any meaningful results, while the latest batch of tariffs targeting $16 billion of each other’s goods came into effect. Despite the deepening trade spat with China, U.S. business investment has remained upbeat in July, with new orders of capital goods (ex. aircraft) rising 1.4% m/m, up 8.5% from a year ago.
Financial markets’ jitters eased somewhat this week as concerns about emerging countries have temporality subsided. This was helped by the lower U.S. dollar, which has reversed some of its recent strength following president Trump’s comments that he was “not thrilled” about the Fed’s interest rate increases.
Like it or not, the latest FOMC meeting minutes have signaled that the committee continues to view gradual interest rate increases as appropriate, so long as the economy evolves in line with its expectations. For now this continues to be the case. The committee noted the recent strength in economic growth and expressed confidence in the outlook, despite downside risks stemming from trade tensions. Taken together, these comments signal another 25 bp rate hike in September, and likely one more in December. At Jackson Hole, Chair Powell reiterated his support for the gradual pace of monetary policy normalization and defended the Fed’s current approach.
While the U.S. economy, broadly, is running at full throttle, the housing market has hit a speed bump (see Chart 1). Both new and existing home sales failed to make headway in the first half of the year, and this week’s data suggests that the softness has extended into the third quarter. Existing home sales declined for a fourth consecutive month in July (-0.7% m/m), while sales of new homes slipped by 1.7% m/m, suggesting residential investment could again weigh on GDP growth in Q3.
It is hard to square the housing market underperformance amid strength in other sectors of the economy as well as rising employment and incomes. Most commentators chalk tepid sales to low inventory, particularly in the entry-level segment. While new construction has been rising, it has been skewed toward higher end of the market with houses getting progressively larger during the recovery. Square footage of the median house was 13% larger in 2017 than it was back in 2004 (see Chart 2). Rising home prices and mortgage rates, which are up nearly 60 basis points since last year, have also dented affordability. These and other headwinds are likely to persist in the near term, however, but there are also some silver linings: price growth appears to be slowing and housing inventory finally stopped shrinking in July (on a y/y basis), stabilizing for the first time since the end of 2014.
It was ho hum week for Canadian equity investors. The TSX appeared set to end the week up slightly (+0.1% as of writing). The Canadian dollar also edged higher as comments by the Federal Reserve Chair weighed on the greenback. A softer dollar also supported energy prices, with the WTI benchmark up close to 5% from its close last week to just shy of $70 a barrel (as of writing).
It was a rather light week in terms of economic reports, with just wholesale and retail sales data. Still, these marked the final pieces of the second quarter data puzzle. Both indicators pulled back in June. In the case of retail sales, the modest decline followed an upward revision to an already-robust May print, leaving the quarterly growth pattern intact. Nonetheless, the pullback in these indicators to end the quarter suggests some slowdown in economic momentum for the third quarter, in line with our expectations.
We will not have to wait much longer to find out just how well the Canadian economy performed in Q2. Real GDP data will be released next week. We expect a strong 3.5% (q/q annualized) print. Growth appears widespread in the quarter, supported by a surge of exports following production disruptions early in the year, but with household and business spending also performing admirably. Final domestic demand likely rose by over 3%, up from 2.1% in the first quarter (Chart 1).
Notably, the acceleration is expected in spite of another likely pullback in residential investment, which was held back by slow sales activity. As we outline in a report released this week , housing markets have shown resilience following the policy-related pullback in activity early in the year. Sales have rebounded in recent months (Chart 2), bringing the market closer to seller’s territory and putting a floor under prices. While growth is likely to be more subdued than it has been in the past several years and affordability will remain a constraint, the risk of a housing crash has diminished. With soft, but no-longer-declining housing activity, the Canadian economy appears on course to deliver modestly above-trend economic over the remainder of this year.
Late today, Governor Poloz will speak to reporters at the Jackson Hole monetary policy conference, ahead of a panel appearance on Saturday. These mark his final chances to comment on the Canadian economy before the blackout period preceding the Bank of Canada’s next policy announcement on September 5th. With the improvement in economic data, the chances of a September hike have increased and investors will be looking for hints as to whether Poloz favors an earlier rather than later rate hike. We suspect that if he does comment on recent events he will remain balanced between recognizing recent strength and stressing the Bank’s risk management framework. From our point of view, an October hike still remains the most likely, allowing the Bank the opportunity to reinforce its view with its updated economic forecasts.
Canadian Real GDP – Q2 & June
Release Date: August 30, 2018
Previous: 1.3% q/q, 0.5% m/m
TD Forecast: 3.5% q/q, 0.1% m/m
Consensus: 3.0% q/q, 0.1% m/m
Resurgent exports after production disruptions early in the year will act as the main driver sending second quarter growth to 3.5% (q/q, annualized). Export growth of 13.6% will likely attract many headlines, but the domestic picture looks solid as well. Final domestic demand likely grew by more than 3%, helped by a re-acceleration of consumer spending (forecast: 2.2%). Non-residential investment is expected to moderate from the first quarters scorching pace, but to a still-respectable 3% to 4% growth rate. Residential investment will likely come in negative for a second quarter, held back by the soft resale market early in the quarter, with soft construction activity also a possibility given the higher frequency data. From an income perspective, price gains across most major components should help nominal GDP hit a 5.7% growth pace for the quarter.
Industry-level GDP should post a 0.1% advance in June on a slowdown in services. Retail and wholesale sales both fell during the month and the steady grind higher in home sales will provide only a modest offset. This will leave goods sector output to drive the monthly print on strength in manufacturing sales and utilities, which are coming off an outsized pullback in May. This should provide a rather muted handoff to the Q3, which fits with our expectation for growth to slow to the low-2% range.
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