Economics can be an amazing thing – when it’s not busy being the dismal science. It can link luxury purchases in China with manufacturing in Ontario. Or capital gains taxes in China with that country’s rate of divorce. Or German exports to the very currency that its leader, Angela Merkel, has been questioning for years.
Recently, CIBC’s deputy chief economist Benny Tal touched on developments in Canada, the United States, China, Germany and elsewhere in presenting an analysis of the state of the world economy that was nowhere near dismal. He was addressing a breakfast meeting of the Canadian Friends of Beit Issie Shapiro in their “Mornings with Movers” series.
All of the worrisome speculation of a year ago has not been borne out by developments, he said. The Chinese economy experienced “a soft landing,” and not the hard crash that was feared; the U.S. economy bounced back and is on the road to recovery; the Euro was not ditched as a world currency; and in Canada, there is still some doubt as to the health of the housing market, but it is not set to collapse as it did in the United States in 2007.
All in all, 2013 proved to be “a transition year between something bad and something better – not good, but better,” Tal said.
A specialist on economic developments and their implications for North American markets,
Tal said the U.S. economy, which is growing by less than two per cent in 2013, is into a period of a “sustainable recovery. No question about it.”
Although there are factors that could “drag” the economy down, “we might see some improvement in the United States in 2014 led by a lower degree of fiscal drag, continued improvement in housing, a significant pent up demand in consumption and, importantly, the reintroduction of credit to the system.”
Likewise, the Eurozone is recovering despite the German government’s concerns a year ago about its viability and of the future of its currency, the Euro; in fact, a healthy European economy is necessary for the export-oriented German economy. In addition, “the real estate market [in Germany] is the most attractive real estate market in the universe,” Tal said.
As for China, the government is changing gears away from a high growth orientation – it could expand at 9-10 per cent “if they want,” – to one where economic power is shifting to the consumer.
Some 250 million young Chinese people, who have never known poverty, are showing “a propensity to consume that is higher than the U.S. teen,” he said.
What’s more, they’re not interested in cheap junk. “They want quality and brand names,” Tal said.
That meshes nicely with developments in the U.S. manufacturing sector, which took the opportunity afforded by the recent recession to restructure and employ its capital to increase productivity. The American manufacturing sector is experiencing “nothing short of a renaissance” after 45 months of growth. It is moving from labour-intensive companies to those that are capital intensive and which can produce the type of high-end goods sought by Chinese consumers, he said.
That could be good news for Canada, as Canadian firms “try to integrate itself into the supply chain created by U.S. manufacturing.”
Tal also pointed to a likely – and unexpected – repercussion of the Chinese move away from production to consumption. The Chinese government has imposed a 20 per cent capital gains tax on second properties for married couples, leading to lots of work for divorce lawyers.
As for the broader economy, the Chinese move from production, which supported commodity-intensive infrastructure projects, has taken some of the wind out of the “mega-cycle in commodities.”
That period is set to elapse, not collapse. Tal said he expected commodity prices to “go up in 2014 as part of a recovery, as part of a mini-cycle, not a mega-cycle.” There is support for $100 oil, he continued, but not at $150 or $170 as in the past, as demand for these goods continues, but does not accelerate.
Turning to the U.S housing market, whose collapse was at the forefront of American economic troubles in recent years, Tal said banks are again willing to lend. There is lots of pent up demand and “the matrix that banks use is total delinquencies minus those that are delinquent for 180 days or more.” The delinquency rate for 180 days is back at normal levels, he added.
As for the cost of borrowing, there was talk of the Fed slowly raising interest rates and “the market went crazy.”
Nevertheless, Tal suggested rates could climb by 40 to 60 basis points over the next year to 18 months.
On the Canadian scene, Tal said the U.S. delay in approving the Keystone pipeline, which would bring oil from Alberta to southern U.S. refineries, has led producers to search for other options.
“They’re not waiting,” he said. “I see a lot of activity, in infrastructure, pipelines, rail.”
Canada’s economy is tied to the world market, which Tal said is recovering. That’s good news as “the Canadian consumer won’t be able to lift the Canadian economy.
“Being a small open economy we need the global economy to improve. With the debt level held by households so high we cannot count on the consumer, and with the expectation that the global economy will do better, exports will do better.”
Canadian investors should focus on the global economy for investment opportunities. A portfolio should retain “high quality dividend stock,” but “high beta [cyclical] stocks will probably do better.
“I think Canadian long-term [interest] rates will move alongside the U.S. [rates] and short-term rates will not move until late 2014 or early 2015,” he said.