Canadian economic growth slowed in the first quarter of 2022, but accelerating demand showed why the Bank of Canada is unlikely to veer off course for a rapid rate hike.
GDP grew at an annualized pace of 3.1 percent, slowing from 6.6 percent in the fourth quarter of 2021, Statistics Canada said on Tuesday, after adjusting for inflation. While this growth was in line with the central bank’s expectations, it fell short of the average Estimated by Bay Street analysts, who called for 5.2 percent growth.
The weak spot in Tuesday’s report was international trade, as both exports and imports declined. However, economists have been largely upbeat about other details – in particular, that consumers and businesses continue to spend amid very high inflation. Final domestic demand rose 4.8 percent year over year, with huge gains in household spending, business investment, and residential property purchases.
The Canadian economy also held up better than other major economies during the first quarter that was shaken by the Omicron variant of COVID-19. For example, the United States and Japan recorded a decline in GDP at the beginning of the year, while growth was weak in the Eurozone.
“The relative resilience of the Canadian economy in the quarter may be a broader theme for 2022, buoyed by the heavy goods component and greater ability to recover in the services sector after two years of severe restrictions,” Doug Porter, chief economist at the Bank of Montreal, wrote in a note to clients.
Financial analysts said the GDP report is unlikely to redirect the Bank of Canada from the fastest pace of policy tightening in decades. The central bank is widely expected to raise the benchmark interest rate by half a percentage point on Wednesday, raising that rate to 1.5 percent, as part of its attempt to slow inflation, which recently reached a 31-year high of 6.8 percent.
Porter added that the bank’s policies are “now almost exclusively geared towards increasing inflation – so a failure of modest growth will not turn upcoming price hikes one iota.”
In many ways, the Canadian consumer looks pretty good. Employee compensation increased 3.8 percent in the first quarter in nominal terms, after a 2 percent rise in the fourth quarter. This was the largest compensation growth since 1981, with the exception of the third quarter of 2020, when the country was recovering from the first wave of COVID-19.
Canadians also stuck to more of their money. The household savings rate rose to 8.1 percent of disposable income from 6.9 percent—well above the quarterly average of 3.4 percent during the 2000s.
Families have amassed the most savings during the pandemic, particularly in the higher-income groups, and this helps them keep spending amid high inflation. Household spending rose at an annual rate of 3.4 percent, with strong purchases of durable goods.
The flip side is that since people are able to keep spending, this helps fuel the rapid rise in consumer prices. After Wednesday’s rate decision, many analysts expect the Bank of Canada to raise another half a percentage point in July – a fast pace of increases that some households may struggle to adjust to.
This monetary tightening cycle has already led to poor sales and lower prices in many of Canada’s crowded housing markets.
However, that shift has yet to materialize in Tuesday’s GDP report. Investment in residential real estate jumped 18 percent, year on year, driven by expenses on renovations and costs associated with buying homes.
“It is clear that another significant positive contribution from residential investment will not be repeated,” Andrew Grantham, chief economist at CIBC Capital Markets, said in a note to clients.
While trade declined during the early months of 2022, Canada’s terms of trade – the ratio between the price of exports and imports – jumped to a record high, due to the recent surge in commodity prices, such as crude oil and timber.
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