Waning confidence and rising rates likely to curb spending - 1% hike
would add $18 billion in interest costs
TORONTO, Aug. 5, 2014 /CNW/ - Canadian consumers have continued to carry
the economy in 2014, but rather than borrow to fuel spending, Canadians
have increasingly been cracking open their piggy banks and dipping into
their savings, finds a new report from CIBC World Markets.
"Though Q1 wasn't a barn burner, nominal household spending was still up
by 4.2 per cent, year-on-year," says Avery Shenfeld, Chief Economist at
CIBC. "Furthermore, its contribution to GDP growth continues to remain
in line with its long-term average and Q2 looks poised to see an
acceleration. It wasn't borrowing, but until recently, elevated
confidence and its impact on savings, that provided the fuel."
The report, co-authored by Benjamin Tal and Nick Exarhos, notes that
weak disposable income gains have been offset by strong increases in
net worth driven by healthy equity markets and climbing home prices. As
a result, Canadians stabilized their savings rates at around 5 per cent
in the first quarter of the year, a drop from levels seen in early
"With the asset side of consumer balance sheets allowing Canadians to
reduce how much they squirrel away, more money has been temporarily
available for spending," says Mr. Shenfeld. "Falling rates on
pre-existing debt—which lowered both the incentive to save and
debt-servicing costs—provided consumers with additional sources of
relief. In fact, interest payments as a share of disposable income fell
over the past year by a full percentage point to a record low of 7.1
per cent in the first quarter. Had payments and the savings rate stayed
constant since Q1 2013, household consumption would have been around a
Overall household credit is currently rising by just over 4 per cent on
a year-over-year basis—the slowest pace of credit expansion since 1995
and the slowest pace for credit growth in any non-recessionary period
over the past 40 years.
Non-mortgage loans that usually finance ongoing consumption are rising
by only 2 per cent on a year-over-year basis and have been falling
relative to income over the past two years;
Credit card balances outstanding and lines of credit have not risen at
all in the past year;
Direct loans are up by 7.5 per cent on a year-over-year basis—mostly due
to the near-18 per cent increase in car loans. Car loans are only a
small slice of total consumer credit and often offered at lower rates
than what consumers can get elsewhere and for other purchases, in some
way representing a subsidy on the part of manufacturers and dealers.
With employment picking up in the U.S. Mr. Shenfeld expects Federal
Reserve Board Chair, Janet Yellen, to start raising rates in March
2015. He is calling for the Fed to take the rate from near zero to 1.25
per cent over the subsequent four quarters.
However, he believes rate hikes will be tempered given GDP growth has
not matched employment gains stateside. His analysis suggests a
mid-cycle U.S. funds rate of only 2½ per cent. That won't be the peak
(at some later stage, the Fed will be in a tightening stance), but it's
still lower than the Fed's 3¾ per cent medium term call.
The U.S. jobs-GDP gap also has implications for the Bank of Canada. "An
earlier than expected hike by the U.S. would allow the Bank to raise
Canadian short rates here without fear of excessive Canadian dollar
strength," says Mr. Shenfeld. "But Bank of Canada Governor Stephen Poloz has been clear that he won't
see the economy on a sustainable expansion path, justifying monetary
tightening, until real exports and related capital spending supplant
households as a growth driver. It's U.S. growth, not employment, that
drives Canadian export activity. Softer U.S. trend GDP gains lean
against a quick acceleration in Canadian export volumes, which might
need some juice from a still-weaker loonie.
"As a result, we see no reason to move up the timing of the first Bank
of Canada rate hike, which could be a half year later than the Fed.
Patient Poloz will outlast Gentle Janet in the contest to see who
The report notes that while higher rates might slow or even cut into
home prices, they will likely have a larger impact on household
spending. The home ownership rate in Canada has reached nearly 70 per
cent with housing-related spending standing at almost 30 per cent of
the consumption basket. Even though household debt—including the
mortgage variety—has been building more slowly recently, it still
stands at over one-and-a-half times disposable income.
"Applying our forecasts for Canadian rates to the historical
relationship they have held with interest costs suggests that Canadians
will soon be faced with paying 100 basis-points more in interest on
existing debt by the first quarter of 2016," adds Mr. Shenfeld. "Those
higher rates would mean close to $18 billion dollars more in interests
costs at today's debt levels - over 1.5 per cent of current household
As a result, he says consumers won't be able to continue driving the
Canadian economy for much longer. U.S. GDP growth and the Canadian
corporate sector will need to take the reins.
The complete CIBC World Markets report is available at: http://research.cibcwm.com/economic_public/download/eiaug14.pdf
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SOURCE: CIBC World Markets
For further information:
Avery Shenfeld, Chief Economist, CIBC World Markets Inc. at (416) 594-7356, firstname.lastname@example.org or Kevin Dove, Head of External Communications at 416-980-8835, email@example.com.