The Canadian economy: What’s next for manufacturing and distribution?

In December, Richter LLP hosted an informative breakfast discussion focusing on the future of Canadian manufacturing and distribution (“M&D”). Leading the presentation was David Hogan, Partner and Chief Economist with Richter LLP. Given the current economic climate, and the uncertainty ahead, the topic was of great interest to attendees and advisors alike. David presented the findings, and ultimately opened the floor to a discussion as to how the potential implications could affect those in the M&D sector. Here we present an overview of those findings.

What happened in 2015?

Overall, major markets (Canada, the U.S., China and the Eurozone) showed a downturn in inflation through 2015, in particular in the U.S. and the Eurozone. No major forecasting institution surveyed was calling for further price deflation going forward, however the risk still remains. In fact, central banks, the European Central Bank for one, openly stated and reinforced the notion that it will do whatever is necessary to avoid deflation whenever possible. The real GDP story in 2015 was dominated by the economic slowdown in China, in stark contrast to that country’s growth rate over the past few decades. In Europe, persisting challenges such as the Greece debt crisis, have translated to uninspiring real GDP growth for the economic union. On the other hand, in the United States, despite the globalization headwinds, the economy has continued its economic recovery and posted above 2% real GDP growth for the fourth consecutive year.

Closer to home, the last year brought with it a recession in Canada, as real GDP declined slightly in Q1 and Q2. Leading the contraction in the last half of 2015, Canada experienced a decline in “Gross Fixed Capital Formation” – meaning plants, machinery, equipment and infrastructure construction. This does not come to much surprise given the current economic landscape which has been dominated by falling energy prices. However, Q3 numbers rebounded, with positive growth of 2.3% annualized in real terms. It will be worth monitoring whether this rebound can be sustained given the persisting economic headwinds facing the Canadian economy. Overall, the story in 2015 was one of asymmetry. While key sectors such as mining and oil and gas performed poorly, other sectors, housing in particular, did very well.

Economic outlook for 2016 - opportunities for the M&D sector

Currency and interest rates

Having already cut rates twice in 2015, the forecasts at the time of publication revealed that the Canadian banks anticipated the Bank of Canada to maintain the overnight rate at 0.50% over the next few quarters. Further, banks were also forecasting general increases in both Canada and the U.S. for long-term interest rates, which showed optimism that economic activity will eventually return to growth in the medium term. The banks maintained their reservations that these forecasts can, and often do, change as new economic realities manifest.

In the currency realm, the energy-dependent loonie has fallen steadily over 2015, in line with falling energy prices and against a globally strengthening USD. The general consensus amongst the surveyed banks is that the loonie is expected to rebound from recent lows through 2016, but it will be worth monitoring given its prolonged and swift depreciation observed in 2015. On the other end, the CAD/EUR exchange rate forecasts paint a far more uncertain picture, with forecasts for the currency pair creating a far wider range than for its USD/CAD counterpart. With the uncertainty in Europe surrounding future growth and a divide on the anticipated actions of the European Central Bank, the CAD/EUR forecasts, as published by the major Canadian banks, continue to lack a consensus.

Richter surveys currency and interest rate forecasts as presented by the Canadian banks on a monthly basis. Subscribe to this survey, here.

Canadian GDP and trends

Falling energy prices and a particularly robust housing market are impacting the Canadian GDP figures in different ways. While the fall in oil prices largely hurts the energy sector and associated industries, it also affects consumers positively, as they shift what would be typically spent on energy to other preferences, products and necessities. In order to offset the challenges in the energy sector, the Bank of Canada responded by cutting the overnight rate twice in 2015, from 1.0% to 0.50%. Therefore, lower energy costs, reduced interest rates, and a weakening Canadian dollar are primed to stimulate the Canadian economy in 2016.

Looking further in 2016, major forecasting institutions are expecting all provinces to rebound in terms of real GDP growth. Alberta and Newfoundland, while still expected to remain on the positive growth side, will lag behind the other provinces in terms of growth overall, largely due to their reliance on energy. These forecasts will be worth revisiting, especially if energy prices continue to drop and the economic landscape remains volatile. Despite the economic uncertainty that framed 2015, GDP growth, retail sales, and housing are expected to remain steady and stable going forward.

Global GDP and trends

Global economic discussions are dominated by recent events in China, as GDP growth forecasts indicate that China’s growth will slow, as industrial output and manufacturing decline. While the reported GDP figures still remain well above other markets in terms of real growth percentage, the slowdown in China is worth mentioning as the country has one of the largest M&D sectors globally, and when it slows down, it means that buyers in other regions are slowing, and some dramatically so. As an indication of this, shipping costs from China to Europe are the cheapest they’ve been in the last 30 years. This is telling of the anemic nature of the European economy, the low oil prices, and the excess shipping capacity.

Europe and China are facing relatively paltry growth in the near future. However, the U.S. has emerged as a prime export location for Canadian merchants as transportation costs are down, and tax and trade rates and a competitively valued currency provide domestic export tailwinds. As approximately 70% of Canadian exports are derived from Canadian Manufacturers and Wholesalers, and about 80% of those exports are headed to the U.S., Canadian businesses should keep an eye on U.S. market activity. For those looking to grasp a high-level view on economic activity in the U.S. by region, the Federal Reserve Board publishes a summary of commentary on current economic conditions called the Beige Book, eight times a year.

The Beige Book provides anecdotal information on current economic conditions and is worth visiting for specific and current regional information when needed.

Lastly, there have been concerted efforts in promoting international trade by reducing trade barriers. Notably, the Comprehensive Economic and Trade Agreement in Europe (“CETA”) and the Trans-Pacific Partnership (“TPP”) look to increase international trade and activity once ratified. Such agreements can have significant impacts on business activity and are worth monitoring for future business opportunities.

Outlook for the Canadian M&D Sector

As we forge ahead in 2016, the M&D sector should note:

  • Beyond the devastation caused by energy prices, the M&D sector is in a good position. Cheap transportation and close proximity to one of the strongest economies in the world bodes well for businesses.
  • The competitively valued CAD (relative to the USD) will provide the tailwind for growth of exports into the increasingly robust U.S. economy.
  • If you’re looking to stay within Canada, focus on energy-importing provinces, Quebec, Ontario and B.C. above other energy exporters, such as Alberta and Newfoundland & Labrador.
  • Governmental focus on reductions in trade barriers (CETA, TPP) may present added opportunities for trade in the coming years; despite their immediate impacts remaining uncertain.

Each business is different and your products or services face unique and specific market conditions. Moreover, forecasts and predictions, like the above, are based only on the known issues and events at a point in time. Markets change often and rapidly. Never-the-less, it is prudent to survey what is known and expected, so as to best identify profitable opportunities when they arise.

About David Hogan: David began his career as an economist at the Canadian central bank, the Bank of Canada. David was part of the Bank’s research group that provided forecasts on Canadian trade and foreign exchange rates. David also developed large-scale computer forecast models of Canadian economic conditions and has developed macro-economic forecasts of the Canadian economy for the Conference Board of Canada, as their financial markets and international trade specialist. Subsequently, David moved to public accounting and tax advisory work in Toronto, and he has served on Canada Revenue Agency’s Large Business Advisory Committee. David joined Richter as a Tax Partner and Chief Economist in 2013, where he specializes in cross border tax services and transfer pricing.


About Richter LLP: Founded in Montreal in 1926, Richter is a licensed public accounting firm that provides assurance, tax and wealth management services, as well as financial advisory services in the areas of organizational restructuring and insolvency, business valuation, corporate finance, litigation support, and forensic accounting. Our commitment to excellence, our in-depth understanding of financial issues and our practical problem-solving methods have positioned us as one of the most important – the 9th largest – independent accounting, organizational advisory and consulting firms in the country. Richter has offices in both Toronto and Montreal.


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