miniseries
With the holiday shopping season underway, the Canadian consumer is still showing a willingness to spend. However, Maria Solovieva, an Economist at TD, says high inflation is weighing on sentiment. She discusses the economic implications with MoneyTalk’s Greg Bonnell.
Transcript
Greg Bonnell: The latest Canadian retail sales report suggested the consumer is still spending despite the higher cost of living. So how does this set us up for the entire holiday shopping season? We’ve entered it now. Joining us now to discuss, Maria Solovieva, economist with TD. Maria, great to have you back on the program.
Maria Solovieva: Thank you for having me back.
Greg Bonnell: All right. So we keep getting all these reports about how the Canadian consumer is holding up. And it’s sort of been remarkably well, I guess at least on the headline numbers, considering what we’ve been going through. What are we really seeing here?
Maria Solovieva: Well, if you look at the recent retail sales report, it was primarily driven by auto sales and also sales at gas stations. If you remove those effects, then core measures were actually quite weak, and especially on the volumes basis – so removing the price effects as well.
Consumers are really feeling the pinch and not feeling that great. And the major reason is inflationary pressures. Not everyone wants to spend more and buy less. So I think this is really driving the sentiment of the consumer, and we are expecting it to persist, because that pressure is not going away completely, at least for the time being.
Another reason consumers are a bit pessimistic, I guess, is the fact that the cost of borrowing is rising. And in Canada, it’s particularly affecting the mortgage holders, somebody who purchased houses and have a mortgage.
And that’s been driving the sentiment as well, because consumers are seeing the impact. About 50% of consumers will actually see the impact of higher interest rates by the end of this year, and another 50% will see it gradually over the next three years. So in anticipation for rising costs, they also are cutting back on spending. And we can’t blame them for that.
Greg Bonnell: So this is the month that, as we head into December, where we’re expected to spend, right? The holiday season. Obviously, the households are in a bit of a tough situation. Does it make it hard, though, heading into December to try to gauge exactly how the Canadian consumer will react? Because I mean personally, I’ll say discipline, rein it in this year, and then you lose your mind every year.
Maria Solovieva: Yeah. Well, you do want to spend for your loved ones. I think Canadians are going to be looking for the bargain. So fancy ties and Granny’s pies – maybe more Granny’s pies, but fancy ties at a discount, potentially.
So I think we will see, probably after coming out of Black Friday and Cyber Monday with some of the discounts, I’m sure retailers will be gauging where consumer is spending, potentially increasing those discounts as well. But I think the sentiment is that you will continue to spend, but not at the same pace as before.
Greg Bonnell: Yeah, I splurged on a $25 scarf for the Black Friday sales. And it’s only because it got really cold in Toronto in the past couple days. So that’s the Canadian situation. We know we have high household debt. We know we have higher borrowing costs and some concerns. What about the US? I mean, there seems to be a bit more resilience in that economy when it comes to the consumer.
Maria Solovieva: Yeah, so there is definitely more resilience in the US. I would say if you look at the holiday spending, which basically excludes autos and trade at gas stations but does include e-commerce, those sales have been fairly strong – stronger, much stronger in the US. Even in the last couple of years, they were almost twice as strong as in Canada.
So I think the US consumer typically spends a little bit more, and we are expecting more momentum in sales for the US consumer going forward in Q4 as well. Year-on-year, we’re expecting about 4.5% growth, whereas for Canada, roughly half of that in terms of the expectations for the Q4.
And that’s typically what the case is as well, the difference between Canadian and US consumer. But you’re right to say that there is more pressure on the Canadian consumer in terms of the cost of borrowing, just because they have the impact. Canadians feel the impact of rising interest rates much sooner. And the higher levels of debt also will suppress spending going forward.
Greg Bonnell: So if household debt and those higher levels keep us a little tighter with our cash this holiday season, what does it mean for the overall economy heading into 2024?
Because if I’m not persuaded to spend big next month in December into the holidays, I definitely know I’m not going to be spending big through the first couple of months of the year. It’s usually the shelter-at-home kind of months.
Maria Solovieva: Yeah, so the expectation is that Q1 of 2024 will be fairly weak, actually, both in Canada and the US, but in Canada, that much weaker because of those debt levels. And we think that the higher cost of borrowing plus the higher levels of debt will drive that difference between Canada and the US consumer.
If you look at the very common measure of leverage debt-to-income ratio between Canada and the US, Americans have been deleveraging since the global financial crisis, whereas in Canada, we saw those levels drive up. And now because we have elevated costs of borrowing as well – well, it’s the same factor for the US. But the sensitivity is a little bit more for Canada just the way the mortgage market is.
So that, if you deduct it from incomes, and it drives the denominator lower, it keeps the levels of the leverage ratios elevated. And that’s the major reason we have that wedge between Canadian and US consumer as well going forward.
Greg Bonnell: How do we bring it all back to monetary policy? I mean, obviously, it’s been a year and a half or more of aggressive rate hikes trying to tame the economy. The Canadian consumer seems to be tapped out, seem to be holding on to their cash. That’ll have an economic flow through, as you said, into next year.
I guess two-part question. Is the Bank of Canada done-done, like really done? And if they are, when do they start cutting next year?
Maria Solovieva: We do think that they are done. First of all, this slowdown in consumer spending is quite obvious, and it’s what the Bank of Canada wanted to see.
We also do have changes in the labor market. So the number of unemployed has increased from the lowest level by about 175,000. Also, job postings declined by about 25%. So those are kind of things that the Bank of Canada will be looking at.
Inflationary pressure still remains. It hasn’t cooled to the same level as the Bank of Canada would like to see. So there is still more work. So the Bank of Canada will remain hawkish in their tone.
So they want to keep those financial conditions fairly restrictive. But at the same time, there is no reason to have another hike, in our opinion. We do expect the Bank of Canada will start cutting in the second quarter of 2024, so pricing in for that.
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