Monthly Economic Letter
What the U.S. election means for Canadian entrepreneurs
The U.S. presidential election on November 3 is dominating media attention. The candidates and their respective parties are proposing very different economic visions whose impact will go well beyond their country's borders.
In this economic letter, we look at the state of the race to date, the different positions defended by Donald Trump and Joe Biden and their implications for the Canadian economy.
The state of the race
Since winning the Democratic nomination, Joe Biden has led Donald Trump in national polls by an average margin of 7.3% (9.7% as of October 8). Biden also holds a substantial lead in a majority of swing states, but a bias in the polls in one direction or the other, as was the case in the 2016 election, remains a possibility. Taking this into consideration, poll aggregator FiveThirtyEight gave the Democratic candidate an 85% probability of victory as of October 9, compared to 15% for the President.
The race for control of the Senate will also have an impact on the economic direction of the country. A victory by a sufficient number of Republicans to hold the Senate majority would hinder a Biden administration from advancing its political agenda, helping to maintain the status quo until midterm elections in 2022.
As of this writing, FiveThirtyEight gave the Democrats a 68% probability of controlling the Senate after the election. Senate races in Iowa, Maine, Colorado, North Carolina and Arizona will be decisive. The Democrats are expected to retain control of the House of Representatives in the election.
Victory by opposing parties in the White House, the Senate and the House of Representatives would likely lead to numerous political deadlocks in the coming years and favour the status quo. Sweeping victories by one party would lead to a greater impact on the economy.
Canada vulnerable to a protectionist tide
Trade remains crucial for the Canadian economy. In 2019, exports accounted for 32% of Canada’s GDP. Each month, our country exports approximately $50 billion in merchandise, thus, stable trade ties are a priority for Canada. Trump's election in 2016 presented a risk for the abrogation of the North American Free Trade Agreement and led to the Canada-U.S.-Mexico Agreement in 2018. Despite signing that deal, the current administration is not shy about imposing tariffs on individual Canadian exports, as was the case for aluminum this summer. Despite the Trump administration's retreat in that case, this type of dispute remains likely if the President is re-elected.
Regardless of whether Biden or Trump is president, a tense relationship between the United States and China is expected to continue, posing a risk to export-oriented economies such as Canada’s.
But the stakes may be different. One of Trump's first actions in 2017 was to leave the Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP), a trade pact of which Canada is a member. One of the aims of the agreement is to counterbalance China's regional hegemony. (Despite the U.S.' withdrawal, the agreement has survived, and the trading bloc will eventually cover 500 million consumers.)
In the event of a Biden victory, it’s likely that the U.S. will enter into negotiations to rejoin the CPTPP. This would give renewed impetus to international multilateralism, which has been sorely tested in recent years as Trump has repeatedly signalled his misgivings about organizations such as the World Trade Organization and NATO.
Regardless of the winner, we expect the current economic crisis to provide momentum for a protectionist "Buy America" trend. Canadian exporters will therefore face this challenge in the coming years.
Taxes: Canada's relative competitiveness in decline
The U.S. election will also have an impact on taxation south of the border. Tax cuts enacted by the Trump administration in 2017 have reduced Canada's relative competitiveness on this front. The U.S. corporate tax rate has fallen from 35% to 21%. In 2018, corporate taxes in the U.S. were 1.1% of GDP compared to 3.7% in Canada.
Now, the Republicans are considering further tax cuts to help stimulate the economy in 2021.
By contrast, Joe Biden proposes cumulative tax increases of $4 trillion over 10 years, aimed at wealthy individuals and corporations. (The corporate tax rate would rise from 21% to 28%.) Such a hike would increase the relative competitiveness of Canadian businesses.
On the other side of the ledger, Biden has pledged to increase spending by a similar amount as the tax increases, targeting education, health care and infrastructure.
The Democratic program would generate 4.5% higher GDP in 2024, according to Moody's, a non-political consulting firm (see report). Higher government spending would offset a private sector weakened by the pandemic crisis, Moody's says.
However, the Democrats need a majority in the Senate to achieve their agenda, otherwise compromise would be needed.
The energy sector
The U.S. election could also have an impact on the Canadian oil sector. The expansion of the Keystone XL pipeline, which would eventually bring 830,000 barrels per day of oil from Alberta to refineries in the Gulf, was not particularly supported by the Obama administration (when Biden was Vice President). The project, which still faces logistical and economic barriers, would be more at risk in the event of a Democrat in the White House.
On the other hand, a Biden administration would rejoin the Paris accord on climate change and advance significant investments in renewable energy with the goal of making the U.S. economy carbon neutral by 2050. Canadian companies working in this sector could benefit.
What it means for Canadian entrepreneurs
- Although the Democratic candidate currently has a lead in the polls, the race remains competitive in several swing states. The race for control of the Senate also remains tight and could limit the implementation of the eventual president's policies in the event of a division of power.
- Canada would benefit in several ways from a Biden victory. There would be less trade uncertainty and our tax disadvantage would be reduced. Multilateralism would benefit, an important factor for an export-oriented economy like ours. Renewable energy companies would likely gain in the medium term from attractive opportunities south of the border.
- Canada's oil sector, which would face fewer obstacles under a Republican administration in Washington, would be a winner in the event of Trump's re-election. However, Canada would continue to face an often unpredictable administration and our relative competitiveness would remain weakened.
Economic recovery runs into the second pandemic wave
Employment and economic activity continued to rebound over the summer. However, as we enter the fourth and final quarter of 2020, a significant increase in COVID-19 infections is putting the brakes on the recovery.
The initial rebound was strong
GDP grew by 3% in July after a record 6.5% increase in June. That brought the Canadian economy to 94% of its pre-pandemic level of activity.
Each of the 20 sectors posted growth in July, the first time that’s happened since the publication of these data began in 1997. Sectors that have already returned to their 2019 levels are agriculture, utilities, financial and insurance services, retail trade and real estate services.
The manufacturing sector was particularly strong, posting growth of 5.9%. Manufacturing of motor vehicles (+10.5%) and motor vehicle parts (+38.6%) led the way. On the non-durable goods side, the strong performance of plastics and rubber products manufacturing (+17.9%) was noteworthy.
Accommodation and food services reported a 20.1% increase, as restaurants and bars continued to reopen across the country. However, this sector still showed a 33% decline from its February level, and the potential for further gains to the end of 2020 remains limited.
In Quebec and Ontario, the partial closure of bars and restaurants for four weeks provides a taste of what may await this sector elsewhere until a vaccine is developed.
The recovery also remained limited in the arts, entertainment and recreation, as well as in the transportation and warehousing sectors.
The phase of rapid recovery now seems to be behind us. Preliminary data suggest growth of 1% in August, according to Statistics Canada. This new "recuperation" phase will be much slower than the rebound of recent months. Canada's GDP is expected to reach new highs only in 2022.
The labour market still improving
In September, 378,200 jobs were added to the Canadian labour market. This brought net job creation since May to 2.29 million, or 76% of the 3 million jobs lost in the spring lockdowns.
As a result, the unemployment rate continued to fall from 10.2% to 9%. Taking into account the underutilized labour force, which includes involuntary part-time workers as well as discouraged job seekers and those awaiting recall, the unemployment rate would remain elevated at 11.2%. However, this rate is lower than the peak of 18.2% recorded in May.
The level of employment was still 3.7% lower than its pre-crisis level. The job market is generally expected to improve during what’s left of the economic recovery. However, progress is likely to be choppier due to partial lockdowns. In general, the labour market is not expected to recover all the jobs lost for about two years.
The second wave at our door
By the summer, the number of daily cases of COVID-19 infections had declined to as low as 10 to 15 per million people across the country. This allowed the vast majority of sectors of the economy to reopen.
The situation worsened in September and October. Daily cases of infection have now surpassed the spring peak of 45 per million people (57, as of October 8). Deaths, however, remain lower than those observed in April and May with infections being more prevalent in younger cohorts, which are lower-risk groups. The increase in cases is particularly significant in Quebec, Ontario and Alberta. Other provinces are containing the spread better, including the Atlantic provinces.
Some provinces have responded to increases in new cases. British Columbia has further limited the hours of operation of bars and restaurants. In several regions of Quebec and Ontario, provincial governments went even further, closing bars, dining rooms and other social venues completely for four weeks.
Fourth quarter: Will the momentum be enough?
A nearly 40% increase in GDP (annualized) in the third quarter will now be followed by a slower economic recovery. The arrival of a second wave, combined with the strengthening of certain health measures, risks slowing the pace of growth.
Nevertheless, the fourth quarter will see growth. Renewed containment measures will be more targeted than last spring. And the continuation of government programs, such as the revamped Canada Emergency Response Benefit, now called the Canada Recovery Benefit, should allow affected workers to maintain their income. This will help support several sectors of activity, including retail trade.
However, households could be more cautious as winter approaches. For businesses, the continuing uncertainty will undermine investment intentions, which we expect to remain weak.
What it means for entrepreneurs
- Despite a still fragile economy, the recovery has so far been stronger than expected. Nevertheless, expect a significant slowdown in the coming months.
- With the second wave on our doorstep, it's important to keep an eye on your cash flow. For advice on how to keep your business going when you’re hit by events beyond your control, consult this article.
- Be on the lookout for new measures to help businesses affected by the implementation of partial lockdowns.
- The last quarter of 2020 should nevertheless be one of continued growth. Government support measures remain significant and will limit the risk of a drastic reduction in consumption. Unfortunately, the sectors most affected to date will remain so for a few more quarters.
U.S. recovery is slowed by weaker fundamentals
As the U.S. election approached this month, the economic recovery generally remained strong, but the labour market outlook pointed to a more difficult winter.
The labour market disappoints in September
The U.S. economy added 661,000 jobs in September, which was below expectations and signalled a slowdown in the rapid growth of recent months.
The unemployment rate continued its faster-than-expected decline from 8.4% to 7.9%. However, the participation rate declined to 61.4%, as nearly 700,000 Americans exited the labour market, including those who had given up looking for work.
The U.S. regained 11.4 million of the 22.2 million jobs lost (52%) during the COVID-19 lockdowns, a lower rate than in Canada (76%). At this pace, it would take 17 months for the country to return to pre-crisis employment levels.
However, the wait could be even longer. About 60% of companies that are currently closed will not reopen their doors, estimates the digital company Yelp (see their report). It notes that 98,000 firms that appeared on its platform in March were now permanently closed.
Employment statistics also reflect these closures. A total of 3.8 million lost jobs are now considered permanent, compared to 1.3 million a year ago. These unemployed workers generally take longer than average to find a job.
In the absence of a new agreement in the U.S. Congress, the end of assistance programs that forced companies to keep employees could lead to new waves of layoffs, such as those announced by Disney and United Airlines in early October.
Therefore, the labour market is still recovering, but the months ahead are looking difficult. Further progress will depend on a settlement of the political impasse in Washington.
Decline in disposable income
A 2.7% drop in disposable income in August is also something to watch. Higher earnings (+1.3%), driven by gains in the labour market, were not enough to offset a reduction in government transfers (-15%). This situation was expected after the end of an unemployment insurance enhancement program in July, which had been in place since the beginning of the pandemic.
At the time of writing, the U.S. Congress could not agree on the terms of the next stimulus package. President Trump had even decided to suspend negotiations on new measures to help Americans until after the election. But the two parties seemed to be getting closer to an agreement. The House of Representatives, controlled by the Democrats, was proposing a $2 trillion package, while Senate Republicans seemed ready to approve a $1.6 trillion stimulus package, although several Republican Senators were reportedly not willing to vote for a plan exceeding $1 trillion.
The results of these negotiations will have a definite impact on the economy in the coming quarters. Many states cannot run deficits and could face painful layoffs in education and other public services. Such a situation slowed the last economic recovery.
The American consumer regains confidence
The sale of goods remained higher than at the onset of the crisis, as households continued to spend on purchases they deferred during the lockdowns. Car sales were particularly robust in September ($16.3 million on an annualized basis), generally reflecting renewed confidence. After a generally weak summer, the Conference Board's Consumer Confidence Index reached its highest level since March.
A recovery in spending on services has been much slower, similar to the sluggish job situation in the sector. Spending on personal care and accommodation and food services remained well below levels observed at the beginning of the year.
Both the manufacturing and non-manufacturing ISM indices suggested that the majority of companies expect the economic environment to improve in the coming months.
The manufacturing index fell slightly in September to 55.6, while the "new orders" component lost 7.4 points to 60.2. The good news is that the indicator remains in expansionary territory, having been particularly high in August, due to orders accumulated during the spring shutdowns. Hiring intentions at 49.6 remained limited, however.
Only four of the 18 manufacturing sectors continued to report a contraction in activity: Clothing, printing and related support activities, petroleum and coal products, and primary metals.
In the non-manufacturing sector (services), the indicator increased to 57.8. The employment component moved into expansionary territory for the first time at 51.8. With an increase in infections in some states and possibility of partial containment measures, hiring intentions may be tested in the coming months.
What it means for Canada
- The slowing U.S. economic recovery will limit a rebound in Canadian exports.
- Consumer and business confidence remains encouraging, but most other indicators are flashing yellow. There are worrisome signs in the labour market, and a political impasse persists over government assistance programs.
- While new cases of COVID-19 infection remain high, the risks of partial lockdowns are real, as is the case in some Canadian provinces.
- The U.S. presidential election on November 3 is another factor of uncertainty. The main article provides more details on its potential impact on Canada.
A surge in the pandemic hurts oil
Oil prices took a hit in September when an increase in COVID-19 infections in some countries signalled lower population movements in coming months. Production has increased, but high inventories may force producers to pump less in the future.
The value of crude declines in September
Prices for Brent and WTI, the main oil benchmarks, declined by 10% in the first weeks of September and are trading around US$40, their value observed during the summer.
These prices remain 20% to 25% lower than they were at the beginning of the year. The gap between Western Canadian Select (WCS)—the Canadian benchmark—and WTI has narrowed somewhat, due to smaller transportation bottlenecks in Hardisty, Alberta. This allowed the WCS to reach a post-pandemic peak of US$33.
Uncertainty surrounding the U.S. election on November 3 could contribute to market volatility in the coming weeks.
Demand projections revised downwards
Official data for June show oil demand was equivalent to 90 million barrels per day (mb/d). This level, which is 10% lower than June 2019, represented a recovery of approximately 70% of the demand lost during last spring's initial pandemic crisis.
The International Energy Agency (IEA) is still forecasting, as it has since March, that oil demand will not return to its previous peak in 2020. According to its most recent projection, the timetable for that to occur has even been pushed back to at least 2022. (Projected demand of 97.1 mb/d in the last quarter of 2021, compared to 101 in the last quarter of 2019.)
This prediction is based on energy demand following two distinct trajectories.
On one hand, China's stronger-than-expected recovery, which is dependent on massive investment by various levels of government, is pushing up the price of some commodities, including copper.
Despite a harsh recession elsewhere, China's economy could actually post an increase in GDP this year, increasing demand for oil. However, the pace of growth is expected to slow in the near term, and the drop in oil prices in September was partly due to a decline in Chinese demand for short-term delivery contracts.
On the other hand, the outlook for energy demand has been revised downward in Europe and North America by the IEA. In the short term, the increase in COVID-19 infections and the resulting partial lockdowns will reduce the need for oil.
In addition, the pandemic is accelerating certain trends already underway in the labour market, including teleworking, which will continue over time. According to the IEA, only 2% of Americans worked entirely from home last year, compared to almost 50% during the most severe phase of the lockdowns. European data shows a similar picture, while Statistics Canada estimates the proportion of jobs that Canadians can do remotely at close to 40%.
Production aligned with current needs
World oil supply in August was 91.7 mb/d, the IEA estimates, which equals current global demand.
As previously agreed, members of the enlarged Organization of Petroleum Exporting Countries (OPEC+) increased production by 2 mb/d. But compared to the level at the end of 2019, production cuts remained significant at 7.7 mb/d.
The slower recovery in demand in the coming years will require a continuation of cooperation among the various members of OPEC+, which has remained stable since a Russia/Saudi Arabia dispute in March.
In North America, hurricanes limited production in the United States, while Canadian production increased by 130,000 barrels per day.
Overall, the balance between supply and demand means that inventories will remain high. Inventories increased slightly, by 0.44 mb/d in July, to reach 3.2 billion barrels, an increase of more than 10% compared to inventories at the beginning of the year.
What it means for Canada
Large inventories have a significant impact. Without a full recovery in demand, any geopolitical friction between OPEC+ members over production levels is likely to have a significant downward impact on oil prices.
Current prices are generally sufficient to ensure the profitability of oil development in Canada. However, they are too low to encourage new investments in the sector, which will have a long-term impact on the economies of several Canadian provinces. In light of these uncertainties, Suncor recently announced the possibility of laying off approximately 10-15% of its employees over the next 18 months.
The IEA estimates that Canadian production will end the year at 5.4 mb/d, which is 10% below its level at the beginning of the year. Forecasts for the coming months have been revised downwards as some producers have moved ahead with maintenance projects and there have been some shutdowns and slowing of drilling.
In 2021, the IEA forecasts production comparable to that of 2019. However, it is unlikely that prices will approach the levels of last year.
In the longer term, the U.S. election could have an impact on the outlook for Canadian oil exports. Our main article discusses the potential impacts of the election on the Canadian economy.
The Bank of Canada maintains its overnight rate
In early September, the Bank of Canada announced that its key interest rate would be maintained at its effective lower bound of 0.25%. It also said it intended to continue its quantitative easing program, which provides for purchases of at least $5 billion per week in Government of Canada bonds.
The central bank’s main objective is to maintain the momentum of the economic recovery, which began this summer (see their press release). Despite a faster than forecast rebound from the pandemic shock, we expect the recovery to remain slow for some time to come (see the section on Canada).
Given uncertainties about the evolution of the pandemic, interest rates are expected to remain low for a long time. In fact, south of the border, the voting members of the U.S. Federal Reserve almost unanimously expect U.S. rates to remain at their lowest level until at least the end of 2023.
The Bank of Canada will outline its scenario for growth in the Canadian economy in its next Monetary Policy Report, to be released on October 28.
The Canadian dollar weakens somewhat
After rising to nearly US$0.77 at the beginning of September, the loonie depreciated somewhat and currently stands between US$0.75 and US$0.76. This level is slightly lower than its average value posted in 2019.
A drop in global demand for oil could hurt the Canadian dollar further (see oil section). Conversely, uncertainties about the outcome of the U.S. election could give it some strength in the coming weeks (see main article).
SME confidence is stagnating
The CFIB's SME confidence index remained unchanged at 59.2 in September. This indicates that a majority of entrepreneurs continue to expect the economic situation to improve over the next 12 months. This barometer of year-over-year expectations has not increased since July, pointing to a stagnation in confidence. In this regard, the shorter-term (three-month) index remained low at 39.7.
The unevenness of the recovery across sectors is reflected in differing levels of optimism. Confidence was on the rise in all goods-producing sectors, while the situation varied on the services side, with declines in wholesale trade, transportation, finance, business services, and accommodation and food services.
Some 70% of companies across the country were fully open as of September 22, while 42% said they had rehired their entire workforce. However, only 30% of companies were reporting normal sales levels. (See CFIB's Small Business Recovery Dashboard). A partial reclosure of some industries due to a second COVID wave could have a negative impact on these indicators in the coming weeks.
Inflation remains in positive territory
The annual rate of inflation was 0.1% in August, identical to the rate one month earlier. In addition, the average of the three indicators used by the Bank of Canada to measure core inflation rose from 1.6% to 1.7%.
Year-on-year, food prices continued to rise (+1.8%), but at a slower pace than in July (+2.2%). Shelter costs, meanwhile, posted stable annual growth of 1.5%. Prices in the clothing and transportation sectors were down 1.3% year-on-year—less deflation than at the beginning of the pandemic. Gasoline prices posted their first monthly decline since April.