Watch out for rising debt levels, bank warns

By Michael Lewis | Thu Dec 9 2010

As shoppers cram the malls this holiday season, the Bank of Canada has a Scrooge-like warning for consumers: Step away from the credit card and think about your ability to pay if borrowing costs rise or you lose your job.

In its twice-a-year economic assessment Thursday, the bank warned that heavily indebted consumers are in the danger zone as the uneven global recovery makes them vulnerable to financial shocks.

In its Financial System Review, the bank said economic risks have increased over the summer on worries about European sovereign debt, the widening global trade imbalance and consumer credit levels that surged during the recession and the early stage of recovery.

It said household debt has risen to 145 per cent of disposable income, with Canadians taking advantage of record low interest rates to buy homes and consumer goods on credit.

Issued two days after the bank held its key interest rate unchanged at 1 per cent, and after Ottawa said the economy contracted in September, the report urged institutions to use caution in issuing loans to Canadian consumers.

The bank said that while there has been moderation in the pace of debt accumulation since June, credit continues to grow faster than incomes.

And while the household sector’s debt-service ratio edged down in the second quarter and remains below the historical average thanks to low borrowing rates, the bank said mortgage and credit card loans in arrears were well above pre-credit crisis levels in the quarter.

Sal Guatieri, senior economist at BMO capital markets, noted that consumer spending has propelled growth in Canada this year, but debt levels will force spending to cool in 2011.

He said households could face the prospect of selling assets to meet credit obligations if interest rates rise and employment falls, a development that would hurt Canada’s finance sector as consumers struggle to make payments.

In a report earlier this month, however, BMO Capital Markets said it does not expect consumers to cut off spending entirely to focus on reducing debt.

It said savings levels remain healthy, while a 12 per cent gain in the value of the TSX main index this year and increased home values, have lifted household net worth to about six times disposable income, up from five times in the 1990s.

“While we are not blasé, we think the singular focus on debt portrays an overly negative picture and therefore an overly negative take on consumer spending,” BMO deputy chief economist Doug Porter said in a roundtable discussion last week.

“We think households can boost spending by 3 per cent next year and while we see a mild slowdown, the emphasis is on mild.”

The central bank review, however, said that “the risk of a system-wide disturbance arising from financial stress in the household sector is elevated and has edged higher since June. This vulnerability is unlikely to decline quickly, given projections of subdued growth in income.”

The central bank also cited threats from trade imbalances that fuel protectionism, arguing that a trade war could not be ruled out, and said sovereign debt impacts may spill over into Canada. It said market concerns over the debt could force countries to reduce deficits more rapidly, resulting in slower global growth.

“A key concern is that acute fiscal strains in peripheral Europe and weaknesses in the European financial system could reinforce each other and have adverse effects on other countries,” the bank said.

Despite its assessment that the domestic financial system remains comparatively sound, the bank said “global financial stability could be undermined by an adverse feedback loop between weak economic activity, fiscal strains and the financial system.”

It said progress was made to ease trade imbalances between consumer and producing nations during the recession, but the gap is widening again as China and other emerging economies continue to fix their currencies at depressed values to encourage exports and discourage consumption of foreign goods.

The bank said governments can reduce risks by acting on plans to rein in deficits, by moving to floating currency exchange rates and by closely monitoring consumer debt.

OTTAWA – The Bank of Canada today announced that it is maintaining its target for the overnight rate at 1 per cent. The Bank Rate is correspondingly 1 1/4 per cent and the deposit rate is 3/4 per cent.

The global economic recovery is proceeding largely as expected, although risks have increased. As anticipated, private domestic demand in the United States is picking up slowly, while growth in emerging-market economies has begun to ease to a more sustainable, but still robust, pace. In Europe, recent data have been consistent with a modest recovery. At the same time, there is an increased risk that sovereign debt concerns in several countries could trigger renewed strains in global financial markets.

The recovery in Canada is proceeding at a moderate pace, although economic activity in the second half of 2010 appears slightly weaker than the Bank projected in its October Monetary Policy Report. In the third quarter, household spending was stronger than the Bank had anticipated and growth in business investment was robust. However, net exports were weaker than projected and continued to exert a significant drag on growth. This underlines a previously-identified risk that a combination of disappointing productivity performance and persistent strength in the Canadian dollar could dampen the expected recovery of net exports.

Inflation dynamics in Canada have been broadly in line with the Bank’s expectations and the underlying pressures affecting prices remain largely unchanged.

Reflecting all of these factors, the Bank has decided to maintain the target for the overnight rate at 1 per cent. This leaves considerable monetary stimulus in place, consistent with achieving the 2 per cent inflation target in an environment of significant excess supply in Canada. Any further reduction in monetary policy stimulus would need to be carefully considered. 

Information note:

The next scheduled date for announcing the overnight rate target is 18 January 2011. A full update of the Bank’s outlook for the economy and inflation, including risks to the projection, will be published in the Monetary Policy Report on 19 January 2011.

<http://www.financialpost.com/news/business-insider/China+reveals+secret
+gold+hoard/3917975/story.html>

Early this year, people speculated that China, which does not regularly
reveal gold data, was a key force driving the market higher this year
<http://www.businessinsider.com/is-china-secretly-stealth-buying-gold-20
10-6> . It turns out they are.                       The Shanghai Gold
Exchange revealed today it had imported nearly 500% more gold in the
past ten months than it did in all of last year, according to Bloomberg
<http://www.bloomberg.com/news/2010-12-02/china-gold-imports-jump-almost
-fivefold-as-inflation-outlook-spurs-demand.html> . That’s 209 tonnes of
gold already, compared to 45 tonnes last year.
Chinese are buying gold as a check against rampant inflation. Moreover,
it’s a way to check inflation while keeping the yuan low and continuing
the currency war
<http://jessescrossroadscafe.blogspot.com/2010/12/currency-wars-chinas-g
old-imports-soar.html?utm_source=feedburner&utm_medium=feed&utm_campaign
=Feed%3A+JessesCafeAmericain+%28Jesse%27s+Caf%C3%A9+Am%C3%A9ricain%29> .

The Canadian Press, 2010  OTTAWA – The federal bankruptcy office says
more Canadian households and businesses became insolvent in September
than in the month before. The office says bankruptcies rose 9.6 per cent
– 9.9 per cent for consumers – in September from the August numbers.

Insolvencies, which combine bankruptcies and proposals to refinance
debt, rose 7.6 per cent overall.

The increases reverse a trend toward declining insolvencies since the
recession, but the Office of the Superintendent of Bankruptcy says it’s
not unusual to see an increase in the month of September.

Insolvencies for the third quarter overall are down 9.2 per cent, the
office says, and bankruptcies are 11.4 per cent lower. From last year,
September’s insolvencies dipped 26.5 per cent and bankruptcies fell 36.6
per cent. http://news.therecord.com/article/823732

Claire Sibonney, Reuters * 

TORONTO – The Bank of Canada is unanimously expected to keep interest
rates on hold next week, but the uneven economic recovery has primary
dealers and global forecasters divided on the timing of the next hike in
2011.

The Reuters poll, released on Thursday, showed 93% median probability
that the Bank of Canada will keep its key rate at 1% at its next policy
announcement date on Dec. 7, with all 44 forecasters polled predicting
no move.

Among the 42 that forecast the central bank’s next hike, the majority
saw it happening in the first half. The median forecast for the May 31
policy date has the rate rising to 1.25%.

But among the 12 Canadian primary dealers – the institutions that deal
directly with the central bank to help it carry out monetary policy –
the majority forecast rate hikes in the second half with a median
prediction of a first hike in July.

When compared with a similar poll taken in October, the more recent
survey showed rate hike forecasts had been moved deeper into 2011.

Thirty of the 44 forecasters surveyed say the central bank will still be
at 1 percent after March 1, a more pessimistic view than the last poll.

“Given that the Bank of Canada had indicated that they didn’t want to
see that great a divergence with U.S. rates and the Fed was actually
doing quantitative easing, it made sense to push out the Canadian rate
hike as well as opposed to adamantly defending a Q1 move,” said David
Watt, senior fixed income and currency strategist at RBC Capital
Markets.

“We’ve had a lot of recovery and we’re seeing some fade at the present
time, so you get that caution that maybe the domestic side of the
economy is not strong enough to offset the still sizable trade hit and
currency strength.”

A report out on Tuesday showed Canada’s economy disappointed in the
third quarter with the weakest growth rate in a year, while the economy
shrank outright in September, adding pressure on policy makers to
safeguard the patchy recovery.

Bank of Canada Governor Mark Carney in October gave a blunt assessment
of the global and Canadian economic recoveries, saying the central bank
would plot its next move with extreme caution.

Massive new monetary stimulus by the U.S. Federal Reserve to support a
flagging U.S. economy also prolongs low rates south of the border, and
Canada is seen not wanting to race too far ahead of its largest trading
partner.

Mr. Watt noted that a concern for the central bank has been a Canadian
dollar strengthening near parity without having seen a strong rebound in
oil and natural gas prices.

“Sluggish Canadian growth and an elevated exchange rate will keep the
Bank of Canada on hold until well into 2011 if, as we expect, core
inflation readings return to their more muted earlier monthly trend,”
said Avery Shenfeld, chief economist at CIBC World Markets.

“The U.S. Fed should still be on hold at a near-zero funds rate in early
2012, and wider interest-rate differentials would push the (Canadian
dollar) to levels that would be too damaging to Canada’s export
prospects.”

Estimates of the central bank’s target for the overnight rate by the end
of 2011 range between 1% and 2.5%.

Next on the domestic data front, analysts will keep a close eye on the
monthly jobs report on Friday and inflation figures later in the month.

Read more:
http://www.financialpost.com/news/Bank+Canada+rate+hike+seen+first+half+
2011/3916924/story.html#ixzz1707v8WNk
<http://www.financialpost.com/news/Bank+Canada+rate+hike+seen+first+half
+2011/3916924/story.html#ixzz1707v8WNk>

most Bay Street economists had forecast that the Bank of Canada rate wouldn’t resume movement until July, the fixed-income market has now priced in 50-50 odds of a rate increase of 25 basis points, to 1.25%, in March

Paul Vieira, Financial Post · OTTAWA — The fixed-income market, considered among the best of forward-looking indicators, suggests the economic recovery is picking up steam in Canada and the central bank may deliver another rate hike as early as March of next year.

Yields across the curve have reached levels last seen in June and July when the Bank of Canada commenced a short-lived rate-hike campaign. And at that time, there was no talk of the U.S. Federal Reserve needing to inject hundreds of billions of dollars of additional liquidity into the U.S. economy to jump-start the recovery.

Two-year bond yields, a great indicator of where the Bank of Canada’s benchmark rate might be headed, have jumped nearly 40 basis points in barely a month since the last central bank decisions.

Meanwhile, yields on five- and 10-year government of Canada notes have moved upward 46 and 33 basis points, respectively, since the beginning of November, which mirrors activity in the U.S. Treasuries market.

“We have seen a heavy-duty selloff in recent weeks, right up and down the yield curve in Canada,” said Douglas Porter, deputy chief economist at BMO Capital Markets.

Experts say this is a combination of heightened inflation expectations and this week’s stronger-than-expected consumer price data in Canada, signs of an improving U.S. labour markets, and a realization among investors that yields are just too low.

And whereas most Bay Street economists had forecast that the Bank of Canada rate wouldn’t resume movement until July, the fixed-income market has now priced in 50-50 odds of a rate increase of 25 basis points, to 1.25%, in March.

The rise in yields also emerges as the Fed kicks off its US$600-billion asset purchase plan — designed to pull down borrowing costs — and Europe’s debt woes re-emerge, perhaps prompting investors to park cash in safer government debt, such as Canada’s.

“Clearly, the bigger issue of where the market believes the U.S. economy is going and, ultimately, Fed rate policy is going seems to have had much greater pull on bond yields — and it is higher,” Mr. Porter said.

Eric Lascelles, chief Canadian strategist at TD Securities, said Canadian bonds have, like their U.S. counterparts, sold off in recent weeks after investors bought debt in the preceding weeks leading up to Fed’s decision to pursue further easing.

“But in fairness, that sell-off in the United States has not been as large, so there certainly is a made-in-Canada phenomenon at play as well.”

In its last rate statement, in which the benchmark rate was left unchanged, the Bank of Canada made significant downward revisions to its growth outlook, and pushed back the date, by a year, as to when economic slack is absorbed and inflation is set to hit the preferred 2% target.

But October inflation data indicated consumer prices rose on 2.4% on a year-over-year basis, much stronger than expectations, while core inflation — which strips out volatile-priced items — rose 0.3% month over month, the biggest such increase since February. Core inflation now stands at an annual rate of 1.8%, which is just below the Bank of Canada 2% target and above the central bank’s forecast.

Other fixed-income watchers, meanwhile, indicate traders are growing more confident about the global recovery based on better U.S. data. There have been five straight months of private-sector job creation above the 100,000 level — with November expected to continue the trend — and U.S. initial jobless claims dropped this week to their lowest level in two years.

On top of that, annual growth in corporate profits is set to hit 30% this year, and third-quarter GDP growth, at 2.5% annualized, was above expectations.

“Housing remains a serious Achilles heel, but the U.S. consumer is in increasingly better shape in terms of wage growth and confidence, and corporations are starting to use the trillions they had set aside for the double-dip recession that never came,” said Hank Cunningham, fixed-income strategist at Odlum Brown. “So the bond market decided yields were too low.”
Read more: http://www.financialpost.com/news/features/Bonds+tell+tale+sound+recovery/3885352/story.html#ixzz16fujO52L

By Julian Beltrame, The Canadian Press

OTTAWA – Canada’s annual inflation rate jumped to 2.4 per cent in October, its highest level in two years, as Canadians were hit with price hikes for most things from gasoline to cars, shelter and food.

The half-percentage-point increase in the annualized consumer price index was well above what analysts had forecast, and is likely to raise some alarms with the Bank of Canada.

Statistics Canada blamed higher energy costs for most of the increase, particularly an 8.8 per cent hike in gasoline prices, but most things were noticeably higher in October.

Transportation costs rose 4.6 per cent, while shelter costs increased 2.8 per cent.

Other higher costs included food which was up 2.2 per cent, electricity 8.1 per cent, cars 4.9 per cent, car insurance 4.6 per cent, and property taxes by 3.5 per cent.

On a month-to-month basis, Canadians paid 0.4 per cent more in October for a basket of items than in September.

Economists had expected an increase to about 2.2 per cent from a recent pick-up in oil prices and the continuing impact of the new harmonized sales tax in Ontario and British Columbia — two populous provinces that can move the national needle — but the higher number suggests that inflation may be more sticky than previously thought.

Even the underlying core inflation, which excludes volatile items like gasoline, rose three-tenths of a point to 1.8 per cent, edging nearer to the Bank of Canada’s two-per-cent target.

Central bank governor Mark Carney, whose prime mandate is to guard against price spikes, is still expected to hold steady on interest rates at the next scheduled decision date next month, however.

Not all prices were higher last month. Clothing and footwear continued to be bargains as prices edged down 0.1 per cent, although the drop was less than the 2.2 per cent seen in September.

As well, mortgage interest costs retreated by three per cent, the price of computer equipment and supplies dropped 12.5 per cent and air transportation and furniture were lower than last year as well.

Regionally, the two HST provinces continued to have among the highest inflation rates in the country, with Ontario leading the way at 3.4 per cent, half-a-point higher than in September, and British Columbia at 2.9 per cent. Newfoundland’s inflation also remained elevated at three per cent.

Alberta and Manitoba had the lowest inflation among provinces at 1.2 per cent. http://ca.news.finance.yahoo.com/s/23112010/2/biz-finance-canada-s-inflation-rate-jumps-half-point-2.html

By Christopher S. Rugaber

WASHINGTON – U.S. Federal Reserve officials have become more pessimistic in their economic outlook through next year and have lowered their forecast for growth.

The economy will grow only 2.4 per cent to 2.5 per cent this year, Fed officials said Tuesday in an updated forecast. That’s down sharply from a previous projection of three per cent to 3.5 per cent. Next year, the economy will expand by three per cent to 3.6 per cent, the Fed said, also much lower than its June forecast.

Fed officials project that unemployment won’t change much this year, averaging between 9.5 per cent and 9.7 per cent. The current unemployment rate is 9.6 per cent. Progress in reducing unemployment has been “disappointingly slow,” the central bank said, according to the minutes of its Nov. 2-3 meeting.

The darker view helps explain why the Fed decided at its meeting earlier this month to launch another round of stimulus. The central bank plans to buy $600 billion US in Treasury bonds over the next eight months in an effort to lower interest rates and spur more spending.

The Fed is slightly more optimistic about 2012, in part because officials expect the bond-buying program to have a positive impact. The economy should grow 3.6 per cent to 4.5 per cent that year, a tick better than June’s forecast of 3.5 per cent to 4.5 per cent.

The economy will also grow 3.5 per cent to 4.6 per cent in 2013, the central bank said, the first time it has issued projections for that year.

The economic outlook was prepared at the Fed’s meeting earlier this month and released Tuesday. It reflects the views of the Fed’s board of governors and its regional bank presidents.

The jobless rate will be 8.9 per cent to 9.1 per cent next year, Fed officials predict. That’s much worse than June’s projection of 8.3 per cent to 8.7 per cent.

By 2012, when President Barack Obama faces the electorate, unemployment will be 7.7 per cent to 8.2 per cent, up from the previous forecast of 7.1 per cent to 7.5 per cent.

The Fed’s forecasts of a slow economy with only gradual improvement in the job market are broadly similar to those by private economists. An Associated Press survey of 43 leading economists last month found that they expect the economy to expand just 2.7 per cent next year, after growing only 2.6 per cent this year.

The unemployment rate will remain at nine per cent by the end of next year, the economists said.

The Fed said that data released since its last projections showed the economy was weaker in the first half of this year than it previously thought. The economy grew at only a 1.7 per cent annual pace in the April-June period, much lower than the first quarter’s 3.7 per cent rate.

Consumers are still holding back on their spending, the central bank said, and recent reports on housing, manufacturing, international trade and employment were all weaker than expected at the June meeting.

The central bank expects prices will remain in check. Inflation is projected to rise 1.1 per cent to 1.7 per cent in 2011, little changed from the previous forecast of 1.1 per cent to 1.6 per cent.

The Associated Press http://news.therecord.com/Business/article/818606