Econowatch - Macleans.ca

Econowatch

Rising confidence is essential for the economy to recover, but too much optimism too soon may be the biggest threat to this rebound

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EconowatchAfter worrying for months that confidence would never return, now financial gurus find themselves dealing with an overabundance. For the past several weeks, experts and authorities have been doing their best to dampen optimism, and step on a few of the celebrated “green shoots” that have dominated the discussion on Wall Street since March. There was Mark Carney, governor of the Bank of Canada, last week warning that this recovery is still weak and fragile. “We shouldn’t underestimate the scale of the challenge,” he told a gathering of business leaders and academics in Montreal. Not to be outdone, UBS surveyed central bank managers around the world who collectively manage US$5.5 trillion in assets and found they are highly skeptical of the idea that we’re in the late stages of this economic slump. They expect interest rates to stay grounded for at least six months and consider rising unemployment a huge and continuing threat.

But for those who make their living swapping stocks, bonds and contracts, none of that skepticism matters as long as momentum remains in their favour. Consumer confidence is up. Stocks have been rising for four months now. Long-term bond prices have begun to fall. Commodity prices are recovering. And all of this is happening despite the fact that economic activity is still feeble.

This is the root of a perverse dilemma: rising confidence is essential for the economy to recover, but too much optimism too soon may be the biggest threat to this nascent rebound. The higher the market climbs, the more extended stock valuations become and the more difficult it gets for central banks to hold down interest rates. All that makes the market more vulnerable to disappointments and surprises. Like aftershocks following a killer earthquake, another relapse would be as devastating as the original event, hitting a fragile and shell-shocked public still reeling from last autumn’s crash.

The risks were laid bare on Monday, when Canadian and U.S. stocks tumbled by almost three per cent in a single day for little apparent reason. That kind of volatility is quickly becoming a fact of life on world markets, as traders keep a finger poised above the panic button, ready to flee the market at the first sign of real trouble. Trouble like continued job losses, another round of mortgage defaults or dismal corporate earnings, for example. For now, all the central bankers and economists can do is try to keep a lid on the gathering optimism without snuffing it entirely.

GRAPH OF THE WEEK: Inflation goes negative
According to TD Economics, Canadian consumer price inflation went negative in May for the first time in 15 years. This marks the first year-over-year decline in the price of a basket of commonly purchased goods since 1994, and many expect the deflationary trend to worsen, despite the rising price of oil.

Inflation goes negative

THE GOOD NEWS

Us versus U.S.

A study by CIBC found per capital disposable income in Canada is rising twice as fast as in the U.S. As of the first quarter this year, incomes here were up more than 11 per cent, or $2,600, from 2004. In addition to gloating about the past, CIBC says we should expect the gap to widen even further after the recession ends.

Tiny spenders

The hunt for signs of life among consumers continues. In May, U.S. retail sales inched up 0.5 per cent, ending a three-month decline. Steep discounts on car prices have lured shoppers back into showrooms. (A similar trend is playing out in Canada, where auto sales were flat in April, following a big jump in March, providing more evidence that the ailing car business hit bottom last December.) Unfortunately for consumers, part of the retail sales gain was due to higher gas prices at the pumps.

Chin up

No doubt U.S. consumers are spending more because they’re feeling a little less devastated these days. The Reuters/University of Michigan Surveys of Consumers found confidence rose to a nine-month high in June. The index hit 69, up from 68.7 in May. Still, economists had been hoping for a reading of 69.5.

THE BAD NEWS

How fast things change

Just two months after the World Bank came out with a dire forecast that the global economy would contract 1.7 per cent this year, things have deteriorated substantially. It now says the world economy will likely shrink nearly three per cent in 2009.

Big Five blues

They may be hailed the world over for their strength, but Canada’s biggest banks are still feeling the pinch from the recession. An analysis by Bloomberg found that last quarter, Royal Bank of Canada, Bank of Nova Scotia and Bank of Montreal axed nearly 4,000 jobs in a bid to cut costs. Still, things are far worse in the U.S. where Bank of America Corp. alone has cut 46,150 jobs since 2007.

A lot poorer

Household wealth in the U.S. tumbled in the first quarter by US$1.3 trillion, according to the Federal Reserve. This is the seventh straight quarter Americans have seen their wealth plunge. The declines have been driven by falling house prices, despite an upsurge in the stock market. Little wonder that credit card defaults hit a record high in May.

Empty homes

There’s no shortage of green shoots in the U.S. housing market. Unfortunately, they’re the weeds sprouting up on the front lawns of all the newly foreclosed homes. In May, 321,480 homes were foreclosed, up 18 per cent from the year before, according to RealtyTrac.

SIGNS OF THE TIMES

SIGNS OF THE TIMES

  • Flying in corporate jets is still an extravagance that’s frowned upon. Cessna Aircraft Co., the largest builder of business jets in the U.S., said that customers continue to cancel orders for its planes. It was forced to lay off 1,300 workers last week. In the past seven months, it has laid off half its entire workforce.
  • Palm introduced a new smartphone, the Pre, while Apple unveiled another version of its iPhone, called the 3G S. People can’t get enough of the gadgets, even with their $300-plus price tags. Palm sold 100,000 devices in their first few days on the market and Apple started shipping new iPhones to those who had ordered in advance. It turns out that even unemployed job searchers want to stay connected.
  • For years, Canwest Global Communications has been fighting restrictions on drug advertising. This week its case was finally scheduled to be heard in an Ontario court. But at the last minute, the company said the hearing will be postponed until this fall. That will give it time to deal with more pressing matters as it struggles to avoid bankruptcy and restructure a roughly $4-billion debt load.
  • Interested in buying a car company? General Motors is searching out buyers for many of its brands, and you don’t need to be a big, multinational corporation to get in on the bidding. After unloading Hummer and Saturn, GM is said to be close to a deal to sell its Saab division to Koenigsegg, a Swedish company that was founded in 1994 by a 22-year-old car enthusiast. It still has just 45 full-time employees, who make a handful of luxury supercars each year.

LATEST INTELLIGENCE

“Buy American” has become the rallying cry for ailing industries south of the border, as desperate politicians try to ensure their billions in stimulus spending stays locked in the U.S. of A. But around the world, protectionist sentiments are rising and many experts are stepping forward to warn that political expediency and pandering to local voters could impose a steep cost on the global economy.

Michael Ignatieff“We need to remind the Americans that we’ve got a multi-billion-dollar municipal and provincial procurement market in this country. Americans have unfettered access to it right now, but if they shut down their markets, there will be consequences.” —Liberal Leader Michael Ignatieff

“The idea that, in the current crisis, we are going to take taxpayer dollars and buy Chinese or other foreign materials for infrastructure construction is absurd. Let’s stop being apologists for foreign protectionists and put Americans back to work.”—Thomas Gibson, president, American Iron and Steel Institute

Robert Zoellick“The danger in this environment is that you start to get tit-for-tat retaliation and it serves nobody’s interests.”
World Bank president Robert Zoellick

“Given the importance of organized labour to the current U.S. administration, I think we should be encouraging a little more co-operative effort by [unions] on both sides of the border.”—Derek Burney, former Canadian ambassador to Washington

“Decisive stimulus measures may have pulled us back from the abyss, but we have to remain vigilant that a protectionist backlash does not push us back to the edge.”—Catherine Ashton, European Union trade commissioner

THE WEEK AHEAD

Friday, June 19: Statistics Canada will release retail trade figures for the month of April. Some analysts are expecting a slight gain.

Tuesday, June 23: The U.S. will report the number of mass layoffs—those including more than 50 people—that occurred in May.

Wednesday, June 24: The U.S. will report the number of new home sales last month. Even though the prices of homes are down, most industry watchers expect only a modest increase in sales.

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