Clear As Mud

This morning at 8:30 we got a lot of data out about the health of both the Canadian and US economy. First things first, the US inflation number was out, and it came in right where expected at 2.7%. it was the PCE which is the US Federal Reserve’s preferred inflation gauge. The 2.7% was right where markets expected, and shows that inflation is still above the magical 2% mark, but it is slowly ( very slowly ) stabilizing and dropping South of the border.

However, Canada released the GDP numbers and what a gong show, shit soup we have to look through. Now instantly on the news release of the GDP we saw odds of a rate cut next week shoot up to around 86%. So, to the un-experienced broker or realtor, they can now take to their Tik Tok account and start broadcasting the news. However, for some of us older, more seasoned professionals, let jump in and see why a rate cut isn’t exactly a sure thing.

Canadian GDP came in at 1.7%, well below the market expectation of 2.2%, and well below the BOC guess of 2.8%. So, based on that – Uncle Tiff cuts 25 bps right? Not so fast. Also during the same release, Statistics Canada revised down the Canadian Q4 GDP from 1.0% to .10%. Are you fucking serious? Stop calling them Statistics Canada, and start calling them Best Guess Inc. How do you miss the mark by that much and still have a job? Anyways, so revising Q4 GDP lower shows that Canada was really in the shitter in the last 3 months of 2023 ( in case you didn’t look around and see it ). Thank god the government agency was there to tell us how bad things were 8 months ago. Perhaps at their next report they can tell me the winning lottery numbers for the March 7th 6 49 draw? However, this is exactly why its complicated for Tiff.

GDP heading into 2024 was basically .1%, and now it is 1.7% ( assuming the 1.7% reporting this morning is accurate of course ), so that means GDP is actually accelerating!! A central bank should not be cutting rates into an accelerating economy now should they? Now of course 1.7% is still well below the 2.2% forecast, and certainly lower than the BOC had used to calculate their monetary policy for 2024. However, it is more about momentum than direction. If GDP is accelerating, inflation shouldn’t be far behind. Arguments could be made that a rate cut on top of accelerating GDP is akin to pouring gasoline on a fire.

But let’s set that aside and break down the GDP report for Q1. Inside the report there are a lot of little nuances that go toward the final number. Much like inflation is a reported number, but the inner workings can really change the feeling or affect of the final number. In the GDP calculations they always look at 2 main drivers, and they are inventory builds, and final consumer purchasing. Inventory is exactly that – companies stocking up inventory. For example, if a company went and purchased 1 billion dollars worth of widgets to stock up their warehouse because they thought a massive sales surge was coming, that would be classed or considered as inventory build. Yes, the company bought it, and if every company did that, then the GDP number would be a monster print of like 6.2%. It doesn’t however mean they actually SOLD the product, it simply means they bought the product EXPECTING to sell it. Then, on the flip side we have the final consumer purchases. This is the value of all goods and services the end consumer – me and you – bought.

When heading into a recession or out of a recession, it is not abnormal to see companies stocking up on things and not being able to sell them. It is called inventory build in the industry, and it will often be called than in the GDP reports as well. However, the Canada Q1 GDP report saw the exactly the opposite – companies were trimming inventory ( selling things and not replacing them as quickly), but final consumer demand was crazy. If we take out the inventory drain from business, then GDP actually advanced at a 2.9% clip!!. 2.9% is more than 2.2% and certainly more than the BOC 2.8% prediction. As far as I am concerned the end consumer is the best gauge of actual GDP. Just because a company stocked up on something does not mean it will get sold. It could be written off, scrapped, thrown out, reduced to clear, the list of possibilities are endless. Consumer like you and me buying things is what really drives the GDP in a country.

So far we have a lower than expected GDP, and also a higher than expected GDP if you strip out the components. You have accelerating GDP now vs. a reduced GDP in the last 3 months of last year. We are simply adding ticks to each of the columns of why Tiff should or shouldn’t cut rates next week. So far we are tied. So let’s keep going and see if we can find the tie breaker.

As I mentioned, right after the release of the GDP report, bond yields plummeted, especially the 12 month and 2 year notes. The bond market instantly took odds of a rate cut up well over 80% next week. However, at the exact same time that was going on, the Canadian dollar rallied higher and closed near the highs of the day vs. the USD. Again, nothing but mixed signals. Typically the bond market and currency markets share notes and copy each others homework, so the fact they are now at odds with each other is a bit mysterious to me. One is calling for a rate cut, while the other is calling for a hold. Perhaps it is just hedging and traders building positions before next week, but it leaves me with a bit of an uneasy feeling none the less.

All of this is on top of the fact that the GDP per capita number sunk back to 2014 levels. I guess Canada has now officially experienced the lost decade!!! GDP per capita provides a basic measure of the value of output per person, which is an indirect indicator of per capita income. Canadians earn less per person in 2024 than they did in 2014. The population is growing faster than the value of goods and services is growing, and much faster than income per person is growing. This is a very serious concern, and is it’s own topic, but the per capita GDP is always released with the GDP so it gets an honourable mention in this post. It is never good to see an entire country moving backwards financially for 10 years. That usually happens in third world countries – not G7 countries.

Today was a mixed bag, and provided no clarity on anything economically other than to let us know that the average Canadian is not doing so well. There were really no indicators that 100% tell us where rates go next week. There was no silver bullet that Uncle Tiff could load up and fire at interest rates on June 5th.

For what it is worth though, after seeing today’s data, and seeing the charts and moves throughout this week, my guess is that Tiff holds rates where they are, lets another month or so of data roll in, and if a cut is warranted it will happen in July. There are too many conflicting indicators right now to justify a 25 bp reduction. Inflation is still higher than they would ultimately like, GDP is accelerating, cost of living is still higher than it should be, the population is still growing, the government is still running deficits, and everyone is just waiting to jump on a rate cut.

Should the BOC cut rates, they risk fanning the inflation flames, and undoing all of the work they did over the last 28 months to try and cool things off. Of course, the odds I am wrong are also strong, and they cut rates in June. If that does happen, don’t get lulled into a sense of the ‘ new cycle’. If we do somehow get a rate cut, it will be one and done for the next few months. One cut, re assess, and possibly look at cutting in September, or November. This is not a new cycle where rates get cut back to COVID levels. A little 25 bps trim of rates here, and maybe one late in the year, but certainly not enough to re-ignite the housing bull market.

Housing will be a tough slog, and it will, as I have said before, go in fits and starts for a year or two. We have been seeing this all year where all of a sudden it is busy, and then with no warning the entire market dies. This will be the playbook for 2024 and a good chunk of 2025. Learn to not get too excited during the good commission months, and put plenty away for the bad commission months. Regardless of what the financial overlords have in store for us next week, the housing market is going to be different going forward. That is something I want to make a lot clearer than mud.