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Canada: There's Less Pain up North

The U.S. may have caught a cold, but so far Canada only has the sniffles.

Although Canada sends 85% of its exports to the U.S., it is set to grow in the first half about twice as fast as the U.S. It grew at an annual rate of 2.5% in the first quarter, and monthly gross domestic product through May suggests second-quarter growth of about 1.5%.

Consumers and housing are offsetting some of the export weakness. First-quarter consumer spending grew at a 3.6% rate, and recent strength in retail sales implies a second-quarter gain of about 3%. With Canada running a budget surplus since 1998, domestic demand is benefiting from tax cuts and the fastest pace of federal spending since the mid-1980s, in addition to interest-rate cuts by the Bank of Canada totaling 1 1/2 points this year.

To be sure, economic growth has slowed. Monthly GDP through May is up only 1.7% from a year ago, after growing 4.7% in 2000. Cuts in jobs and output have been heaviest in the auto and tech sectors, highlighted by layoffs at Nortel Networks, JDS Uniphase, and other smaller tech and telecom companies. Plus, Manpower Inc.'s latest survey of hiring intentions indicates weaker hiring by yearend.

The government's July survey of manufacturing companies suggests that third-quarter production will be flat to down. Some 54% of those surveyed expect no growth, and those who expect cuts outnumber those who expect increases, by 28% to 18%.

Nevertheless, the Bank of Canada is optimistic about second-half prospects. In its latest Monetary Policy Report, it projects 2001 growth of 2% to 3%, implying second-half growth in the 2.5% to 3.5% range. Crucially, that forecast assumes second-half U.S. growth of 2% to 3%.

Given the 2001 slowdown and falling energy prices, the BOC expects inflation to drop from 3.3% in June, to 2% by yearend. Lower inflation gives the BOC room for another dose of rate-cutting, perhaps later this month. But without a healthier U.S., the BOC's medicine will have little effect.

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