Below is a mashup of "FRED" charts on Velocity of Money and the Probability of Deflation. The Bank of Canada does not publicly publish those metrics.
M1 Money Velocity has been trending down since 4Q 2007 (the "Great Recession") as unemployment rates have been rising (the 10 year change in unemployment in Canada is up 38.4% on the May 2020 data chart). The unemployed consume less; hence they save more. As consumption rates fall, GDP drops: (from 4Q 2008 to 4Q 2009, GDP dropped 1.9% and with the Covid 19 shutdown the March 2020 GDP print is down 6.8% since 4Q 2019).
M2 Money Velocity was trending up until 3Q 1997 and both employment and greater consumption (inflation) increased. The first hit to consumption came with the DotCom crash in 1Q 2000 and the Consumer Price Index began to drop and then plunge into the March 2009 Great Recession. By 2011 the commodity super cycle peaked (see the Deflation Probability chart below and the TSX Indexes chart)
The Bank of Canada's 2% CPI target and their policy framework (ZIRP & NIRP) is to "avoid a persistent drop in inflation". The most recent CPI print (April 2020) was negative at -0.2% via pandemic repricing.
Theses are still early days in the pandemic. New deaths from the novel coronavirus today (June 28, 2020) are the highest in Mexico. The U.S. is ranked 7th and Canada is ranked 72nd (Worldometers). Trade wars are intensifying, supply chains are being disrupted and cash flows are being diverted towards turning debt into equity. Let's take a look at Greg The Analyst's argument and the charts he used:
Argument Bullet Points: Why Greg's view is that this cycle is deflationary, not inflationary.
Canada is a country of consumers of U.S. production and services and as the USD rises in value so will our cost of living.
For the moment total CPI remains at 2.2% (StatsCan) but the Canadian Yield Curve warning mounts and as Chris Kimble notes below, a U.S. Dollar breakout "...would likely effect the portfolios of investors around the world".
Is King Dollar Creating A Bullish Head & Shoulders Pattern? by Chris Kimble June 28, 2018
King Dollar is a major player in the financial markets. And its moves are especially important to commodities and emerging markets.
Well, portfolio managers and traders in those markets may want to pay attention to today’s chart because the US Dollar may be setting up for a big move. Back at the end of February, we highlighted why the US Dollar was ready to bounce.
That post was written just as King Dollar was testing a confluence of support and nearing resolution from a bullish falling wedge pattern (point 1 on the chart below). Here’s an excerpt:
FROM A TECHNICAL VIEW, THE DOLLAR IS ATTEMPTING TO POKE ITS HEAD ABOVE A BULLISH FALLING WEDGE PATTERN. THIS ALL OCCURRING AFTER HITTING A CLUSTER OF PRICE SUPPORT.
Well, the Dollar did bounce higher. And if today’s chart pattern is a precursor, King Dollar may be ready to morph this bounce into a full-blown rally.
We are testing lateral resistance at the November 2017 highs (point 2). Could this resistance prove to be the neckline of a bullish inverse head and shoulders pattern? It’s currently an incomplete pattern, but even the slightest pullback could form the right shoulder.
In any event, a breakout here would be very bullish for the Dollar (NYSEARCA:UUP). And this would likely effect the portfolios of investors around the world. Stay tuned!
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The CoreLogic Home Price Index Forecast suggests U.S. home prices will rise less than 5 percent this year, but if some 2018 mortgage rate forecasts pan out the mortgage payments homebuyers face could increase closer to 15 percent.
Andrew LePage, CoreLogic, February 15, 2018
But as I noted in my previous post; in December 2017 the Canada 10yr less 2yr metric, which is a measure of a recession threat, narrowed to only 32bps away from negative inversion where the 2 year yield would be greater than the 10 year.
But the new U.S. Fed chairman Jerome Powell pitched their congress yesterday with:
"recent data has strengthened his confidence on inflation." and
"yield curve has been a problem in past when Fed got behind and had to raise rates quickly; that's not the case now"
The Fed's is planning on three rate hikes in 2018, but after the announcement yesterday futures traders reacted and began pricing in a 1/3 possibility of a fourth rate hike! Zoom zoom.
Meanwhile the Bank of Canada is not so sure about it's course this year:
Bank Of Canada To Take Cautious Path With Two More Hikes In 2018: Reuters Poll
The central bank has raised interest rates three times since last July, amid a robust job market and solid economic growth, but policymakers have said repeatedly they will be cautious in considering further hikes. Leah Schnurr, Reuters February 27, 2018
In a word; valuation.
In the chart above I have highlighted the Government 10 year yields for Canada, the U.S. and the Euro area as well as an overlay of the USD/CAD ratio.
Rates have bottomed in North America and Europe since April 2015, and the first leg up in repricing risk has put rates up to a potential new floor as noted by the coiling action in May.
The USD/CAD ratio has turned up this past week. A strong U.S. Dollar will mute U.S. inflation since domiciled U.S. producers will have a more difficult time setting export prices, and that leads to headlines like "HP plans to eliminate 55,000 jobs by the end of 2015".
In Canada, we can expect our main activity of consumption to be dampened by rising import prices. We may have to switch from Ikea to Craigslist to stuff our condos with.
Consumer confidence depends on where you live, what you are employed at, the availability of goods and services and the affordability and benefits of the above.
Clearly the experience is much different across the class divide.
On several occasions on this blog, as recently as the "2014 Resolution" post, I have voiced my dismay at Canada's unwillingness or maybe its inability to use its great natural resources and citizenry to produce physical and intellectual value.
The recent "Unemployment Update" and "Share of Wealth" posts underlined the educational problems. This chart mashup highlights the inflation break out in Canadian Dollar terms. A falling $CAD relative to the $USD unit is going keep Canadian exports to the U.S. attractive to U.S. buyers, but our much bigger reliance on consumption to generate an economy is going to produce a lot of inflation and consumption barriers to the Canadian Consumer (Feb 10, 2014 post) who is at peak debt levels.
Equity risk rises as inflation eats away at disposable income.
The Economist has a useful user input tool for comparing different real estate markets. This 4 pack looks at the difference between the U.S. and Canadian real estate markets from 1Q 2009 (the pit of gloom) to 2Q 2013 with respect to real values (nominal less CPI) and relative to incomes and rents.
The Canadian real estate market diverged from the U.S. market path after the 2009 interim bottom (chart below) and for the last 4+ years thanks to 1) the government price fixing of interest rates and 2) tax payer funded insurance of high ratio debt to equity financing and 3) credulous buyers willing to bid up prices on the promise of price inflation without the experience of wage inflation; Canada has extended its bull market in housing. If you are looking for negative yield, Canadian real estate fits the criteria.
The top half of this mashup is the U.S. CPI for 200 years.
Inflationists are still waiting for a big surge in prices and while they might be determined to bid up prices of real estate, collector cars and discretionary baubles bangles and beads, general price inflation is in a 1%-3% per year range in both Canada and the U.S.
In the U.S. we are seeing uptick moves to the top of the CPI range along with what appears to be a solid uptrend in wages since 2012. The wage trend also fits nicely with a definite uptrend in the USD/CAD ratio that's been on since 2011. A stronger USD helps American wage earners buy more stuff which encourages employers to hire more people.
On the Canadian side, CAD wages rose along with the strong CAD$ out of the 2009 pit of gloom and by 2011 according to the charts above, the gears shifted and as Canadian wages continued to accelerate, U.S. wages slumped until the USD/CAD ratio hit its last low in late 2012. Now for the past year the US$ has been in a solid uptrend and U.S. wages have been moving up as well with higher highs and higher lows.
A lot of global debt is priced in US$ and so the demand for US$ may not be anywhere near exhausted.
Canadian wages seem to be forming a cap (? on chart above) and in a range that might correct. If the USD/CAD ratio continues to climb the wall of worry, it is going to change a lot of portfolio construction globally and locally as Canadian real estate value perception falls against a rising U.S. dollar.
We know that overpriced Canadian real estate is a negative yield generator (case study). If the Currency markets sell the Loonie and rush to the senior currency (the US$), get ready for real estate markdowns in a Canadian neighborhhood near you.
Vancouver is the giant, and I have drawn a couple of lines on the chart where I think we will see a lot of action.
History, Charts & Curated Readings
"Progress, far from consisting in change, depends on retentiveness. When change is absolute there remains no being to improve and no direction is set for possible improvement; and when experience is not retained, as among savages, infancy is perpetual. Those who cannot remember the past are condemned to repeat it." George Santayana Vol. I, Reason in Common Sense
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