Canada: The Great White North Gears Down

Newly installed Bank of Canada Governor David Dodge confidently projected on Feb. 20 that the Canadian economy would grow 3% this year. He might have to rethink that figure.

In the following days, word came that fourth-quarter growth in real gross domestic product slowed to 2.6% after averaging 4.5% in the first three quarters, and most private analysts expect further slowing in the first half of 2001. As a result, the BOC cut its bank rate by a half-point on Mar. 6, to 5.25%, following a quarter-point reduction six weeks earlier. More cuts are expected.

The decline in fourth-quarter growth was much greater than expected, and growth in domestic demand came to a complete stop. Business investment in machinery and equipment fell sharply, and consumer spending slowed as auto sales dropped. The BOC suggested that its Mar. 6 rate cut was insurance against the U.S. slowdown cutting into Canadian growth.

But the spillover effects are already showing up. Manufacturing indicators are weakening, and labor markets are softening in the wake of cutbacks by Nortel Networks Inc. and General Motors Corp. Canadian payrolls declined unexpectedly in February, by 23,500 workers, after flattening out in January. Factory job losses so far this year total 32,000.

Economic growth will weaken further because the U.S. trade impact has not been fully felt. In fact, net trade was a big plus in fourth-quarter GDP, reflecting large energy exports to California. Also, a February survey of capital spending plans showed sizable planned cutbacks, even before the Nortel announcement. Additional inventory reduction, which was a drag on fourth-quarter growth, will be required in the first half.

The pluses in Canada's outlook are continued modest growth in consumer spending, buoyed by January's tax cut, along with construction and energy output. In addition, with core inflation low already, the BOC has lots of room to ease policy as needed, and it will likely match moves by the Federal Reserve step for step.

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