Canadian Economic Update: Uncertainty in the Face of Low ...

Canadian Economic Update: Uncertainty in the Face of Low Oil Prices

ECONOMICS I RESEARCH

Nathan [email protected]

March 25, 2015

ECONOMICS I RESEARCH 2

On a global basis, lower oil prices mean a lower cost of production/consumption

Global GDP growth remains modest, but improving

3.73.53.33.3

-2

-1

1

2

3

4

5

6

7

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016

Year-over-year % changeWorld GDP growth

Source: International Monetary Fund, RBC Economics ResearchSource: International Monetary Fund, RBC Economics Research

IMF Forecast


EA growth still sluggish, although at least positive. UK surprisingly solid

Euro area (EA) still struggling, UK doing significantly better

-5.0

-4.0

-3.0

-2.0

-1.0

0.0

1.0

2.0

3.0

4.0

5.0

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

Euro area GDP

UK GDP

Annual percent changeEuro area and UK GDP Growth

Source: Eurostat, RBC Economics Research


China growth lower, but still solid. Gov’t has lots of reserves (~$1.3 trillion of U.S. government debt). Low oil prices will also help

Some concerns about china, but demand still growing

7.4 7.1 6.8

2

4

6

8

10

12

14

16

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016

ProjectionChina real GDP

Annual percent changeChina GDP Growth

Source: IMF, RBC Economics Research


Monetary Policy Has Provided Support

1

2

3

4

5

6

7

Jan-

1999

Dec

-199

9

Nov

-200

0

Oct

-200

1

Sep-

2002

Aug-

2003

Jul-

2004

Jun-

2005

May

-200

6

Apr-

2007

Mar

-200

8

Feb-

2009

Jan-

2010

Dec

-201

0

Nov

-201

1

Oct

-201

2

Sep-

2013

Aug-

2014

Canada U.S. Euro area UK

%Central Bank Policy Rates

Global economy still operating with spare capacity, monetary policy still highly stimulative.


In Canada, Falling Oil Prices have Raised ConcernOil prices have fallen almost 60% since June, to close to 2008/09 recession lows. Price decline broadly-based by region (including western Canada)

20

40

60

80

100

120

140

160

Jan-

07

Aug-

07

Mar

-08

Oct

-08

May

-09

Dec

-09

Jul-

10

Feb-

11

Sep-

11

Apr-

12

Nov

-12

Jun-

13

Jan-

14

Aug-

14

Mar

-15

West Texas Intermediate (WTI)BrentWestern Canadian Select (WCS)

U.S. $/bblOil Prices

June 2014


Reason for Oil Price Decline ImportantOil prices falling because of increased supply, not falling global demand. Increased U.S. production and OPEC’s non-response are large factors. U.S. production now roughly the same as Saudi Arabia!

1000

2000

3000

4000

5000

6000

7000

8000

9000

10000

1985 1987 1989 1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015

United States

Canada

Thousands of bbl/d crude oil productionU.S. and Canada Crude Oil Production

3.5M bbl/d total production

Increase of ~4M bbl/d since 2007

Source: Statistics Canada, EIA, RBC Economics Research


Takes time for production to slow

950

1000

1050

1100

1150

1200

1250

2010

M01

2010

M06

2010

M11

2011

M04

2011

M09

2012

M02

2012

M07

2012

M12

2013

M05

2013

M10

2014

M03

2014

M08

2015

M01

1000

1200

1400

1600

1800

2000

2200

2400

2600

U.S. Crude stockpiles (LHS)

North American oil & gas rig count

Millions of bbl/d

U.S. Crude Stockpiles and O&G Rig CountsNumber of rigs

Source: Baker Hughes, Energy Information Agency, RBC Economics Research

U.S. crude stockpiles have continued to rise despite cutbacks in drilling activity. Partial price rebound likely (current prices below MC for new investment) but not until H2/2015 or 2016 .

53 .0

77.0

2 6 .1

3 1.1

4 1.4

56 .5

6 6 .1

72 .4

9 9 .6

6 1.7

79 .4

9 5.1 9 4 .29 7.9

9 3 .3

20

40

60

80

100

120

2002 2004 2006 2008 2010 2012 2014 2016

WTI oil price per barrel

Forecast

Current spot price

Average $US/bblRBC WTI Oil Price Forecasts

Source: IEA, RBC


Impact of Lower Oil Prices: Summary• Impact of lower oil prices depends on whether shock is supply or demand driven. Current bout

of weakness appears to be largely due to increased supply (with any demand factors occurring outside of the U.S.)

• As a result, impact on global economy likely positive reflecting a lower cost of production/consumption

• Net oil consumers (eg. UK, Europe, China, U.S.) should all benefit. Net oil producers more likely to be negatively impacted although not 'unambiguously.’ (slack in many economies implies little monetary policy offset)

• Canada is a net oil producer. Weakness in the oil & gas sector will weigh on growth in 2015 but offset from a few key factors:

1) Spill over from stronger growth in our key trading partner (the U.S.)

2) Weaker Canadian dollar improves competitiveness of Canadian exports

3) Lower gasoline prices boost household purchasing power and lower business costs.

• As a result, national impact potentially small although with more significant offsetting regional impacts (weaker SK, AB, and NFLD&L, stronger growth in net oil consuming provinces)

• Although national production not necessarily significantly impacted, real national income growth and nominal revenues will be lower due to deterioration in the Canadian terms-of-trade.

• Larger impact on corporate profits and government revenues with less spill over into household incomes.


Canada is a net exporter of oil so, all-else-equal, lower oil prices should be a negative

Knee-jerk reaction suggests lower oil prices should be a clear negative; however, all else is not equal.

-3

-2

-1

0

1

2

3

4

5

Q1-

1981

Q4-

1982

Q3-

1984

Q2-

1986

Q1-

1988

Q4-

1989

Q3-

1991

Q2-

1993

Q1-

1995

Q4-

1996

Q3-

1998

Q2-

2000

Q1-

2002

Q4-

2003

Q3-

2005

Q2-

2007

Q1-

2009

Q4-

2010

Q3-

2012

Q2-

2014

Percent of GDPCanadian Crude Oil Trade Balance

Source: Statistics Canada, RBC Economics Research


Clear signs of weakness in Canadian oil & gas sector emerging… In Canada and U.S., drilling activity down to levels similar to those observed during the 2008/09 financial crisis.

100

200

300

400

500

600

700

2000

M01

2000

M11

2001

M09

2002

M07

2003

M05

2004

M03

2005

M01

2005

M11

2006

M09

2007

M07

2008

M05

2009

M03

2010

M01

2010

M11

2011

M09

2012

M07

2013

M05

2014

M03

2015

M01

0

500

1000

1500

2000

2500

Canada (LHS)

U.S.(RHS)

Number of rigs, seasonally adjusted by RBCNumber of Oil & Gas rigs running

Number of rigs

Source: Baker Hughes, RBC Economics Research

~-40% since December


…which will have a significant impact on oil producing regions… Company announcements pointing to a ~25% drop in O&G capital spending in 2015

2

4

6

8

10

12

14

16

18

AB NFLD SK Rest of Canada

Percent of GDP in 2013Investment in O&G by Province



… although national impact not necessarily that largeSupport activities and oil & gas construction likely to see the largest immediate impact. Extraction and output from refineries could actually rise in 2015

Canada Oil & Gas Shares of GDP

Based on 2011 Input-Output tables

% of GDPOil & Gas Extraction 5.3

Support activities for O&G extraction 0.8

Oil & Gas Engineering Construction 1.1

Petroleum Refineries 0.5

Crude Oil Pipeline Transportation 0.2

Total 7.8

Indirect impact (from Natural Resources Canada) 3.5

Source: Statistics Canada, Natural Resources Canada, RBC Economics Research


BoC already responded with surprise ‘insurance’ rate cut in JanuaryMarkets caught off-guard, longer-term rates have also declined. We think rates will drift higher, although questions remain as to whether the BoC is finished easing.

0.0

1.0

2.0

3.0

4.0

5.0

6.0

7.0

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016

%Canadian Government Bond Yields

Forecast

10-year rate

Overnight rate

Source: Bank of Canada, RBC Economics Research

5-year rate


A number of potential offsets to lower oil prices: 1) Falling prices still likely a positive for the U.S. economy…

0.0

0.5

1.0

1.5

2.0

2.5

Consumer spending on gasoline Business investment in oil & gassector

percent of GDP, 2013

U.S. gas consumption and O&G investment

Source: Bureau of Economics Analysis, RBC Economics Research

U.S. still imports close to half of the crude used in its refineries. Consumer spending on gasoline still more than twice the size of business investment in the oil & gas sector

2000

4000

6000

8000

10000

12000

14000

16000

18000

1985 1988 1991 1994 1997 2000 2003 2006 2009 2012

Crude oil production

Crude oil U.S. refineryinput

Thousands of bbl/dU.S. crude oil production and consumption

Source: EIA, RBC Economics Research


Not so good in 2008/09 but serving us better now

… and what’s good for the U.S. is usually good for Canada

75.2

4.6 3.6 2.2 3.6

10.810

20

30

40

50

60

70

80

U.S. UK EU ex-UK Japan Other OECD Other

Percent of total merchandise exportsas of Q3/14

%Canadian exports by destination region



Already clear signs of life in the U.S. Weak U.S. demand clearly not behind lower oil prices. 3.3 million new jobs created the 12 months through February are the strongest since 2000. Employment growth even more impressive given demographic backdrop

-8000

-6000

-4000

-2000

0

2000

4000

6000

1988 1991 1994 1997 2000 2003 2006 2009 2012

U.S. payroll employment

February 2015 pace

Year-over-year difference

U.S. Payroll Employment Growth

-50

50

100

150

200

250

300

1982 1985 1988 1991 1994 1997 2000 2003 2006 2009 2012

Population aged 25-54Population aged 16+

Average monthly increase in thousands

U.S. Population Growth by Age

Source: U.S. Census Bureau, RBC Economics Research


Unemployment rate approaching “full employment” levelsDecline in unemployment rate largely due to stronger labour markets, undercounting of discouraged/part-time workers dissipating

-2

2

4

6

8

10

12

14

16

Aug-

2007

Mar

-200

8

Oct

-200

8

May

-200

9

Dec

-200

9

Jul-

2010

Feb-

2011

Sep-

2011

Apr-

2012

Nov

-

Jun-

2013

Jan-

2014

Aug-

2014

+ 'excess' part time for economic reasons+ other 'excess' marginally attached+ 'excess' discouraged workers'official' unemployment rate

%U.S. Unemployment Rate

Source: Bureau of Labor Statistics, RBC Economics Research Calculations

2

4

6

8

10

12

Jan-1990

Aug-1991

Mar-1993

Oct-1994

May-1996

Dec-1997

Jul-1999

Feb-2001

Sep-2002

U.S. rate

Canada rate, adjusted to U.S. definition

%

Source: Bureau of Labor Statistics, RBC Economics Research

U.S. vs. Canada Unemployment Rate


Interest rates to rise, but slowly …

Canada rates lower due to oil price concerns as U.S. rates getting set to begin to rise. Fed sounding cautious tone recently

0.00

1.00

2.00

3.00

4.00

5.00

6.00

2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016

BoC overnight Rate

Fed funds rate

%Canada and U.S. Policy Rates


…and only if, as we expect, the economy continues to growGDP growth has rebounded solidly after weather-related disruption in Q1 last year year. Lower oil prices, less fiscal drag, and still highly stimulative monetary policy to provide further support in 2015

-10

-8

-6

-4

-2

0

2

4

6

2007 2008 2009 2010 2011 2012 2013 2014 2015 2016

Source: Bureau of Economic Analysis, RBC Economics Research

U.S. real GDP growthQuarter-over-quarter annualized % change Forecast:

Annual Growth Rates20132.2Real GDP

2014f2.4

2015f3.1

2016f2.9

Bad weather


2) Lower oil prices also mean a weaker CAD…Canadian dollar has weakened significantly relative to the U.S. dollar (-12% y/y, -13% since June/14) reflecting lower oil prices as well as Bank of Canada policy easing alongside a nearing Fed tightening cycle.

0.55

0.65

0.75

0.85

0.95

1.05

1.15

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

$US/$C exchange rateForecast (end of quarter)

$US/$C exchange rate

Canada vs U.S. dollar exchange rate

Parity


…which, along with stronger U.S., should boost exports…Already signs that support is emerging, expect further gains in 2015

0.1

0.9

-3

-2

-2

-1

-1

0

1

1

2

2

1990

1991

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1995

1996

1997

1998

1999

2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

Net trade contribution

Contribution to annual real GDP growth (percentage points)Canada Net Trade


Increasing oil prices,

strengthening Canadian dollar

-10

-5

5

10

15

20

25

Jan-

10

Jul-

10

Jan-

11

Jul-

11

Jan-

12

Jul-

12

Jan-

13

Jul-

13

Jan-

14

Jul-

14

Jan-

15

Energy

Non-energy

Year-over-year percent change, chained 2007 $CCanada Energy and Non-energy Exports

Strong CAD, weak U.S.

GDP growth

Weaker CAD,

stronger U.S. GDP

growth


Drop in manufacturing share of GDP over the “aughts” decade likely related to CAD appreciation over the period

…and exchange rate sensitive industries like manufacturing…

8

10

12

14

16

18

20

1981 1984 1987 1990 1993 1996 1999 2002 2005 2008 2011 2014

0.6

0.8

1.0

1.2

1.4

1.6

1.8

Manufacturing share of GDP (LHS)

C$/US$ (RHS)

Percent of GDP (2012 and 2013 projected) Manufacturing GDP Share and C$

C$/US$


20 40 60 80 100

Beverage and Tobacco ProductPrinting and Related Support Activities

Non-Metallic Mineral ProductFabricated Metal Product

Railroad Rolling StockTextile Product Mills

Petroleum and Coal ProductsOther Transportation Equipment

FoodMotor Vehicle Body and Trailer

MiscellaneousFurniture and Related Product

ClothingShip and Boat Building

Plastics and Rubber ProductsTotal

Leather and Allied ProductWood Product

Electrical Equipment, Appliance and ComponentMotor Vehicle Parts

Textile MillsPrimary Metal

ChemicalPaper

MachineryAerospace Product and Parts

Computer and Electronic Product

Exports as percent of total manufacturing sales by industry, 2014

Manufacturing Export Intensity

Source: Statistics Canada, Industry Canada, RBC Economics Research


CAD weaker for three consecutive years likely responsible in part for stronger manufacturing output in 2014. Despite decade and a half of decline, industry still big enough to make a difference

…which is already showing some signs of life

-10 -8 -6 -4 -2 2 4 6 8

Miscellaneous

Electrical Equipment, Appliance & Component Mfg

Printing and Related Support Activities

Petroleum and Coal Product

Paper

Chemical

Computer & Electronic Product

Fabricated Metal Product

Plastics and Rubber Products

Machinery

Beverage and Tobacco Product

Furniture and Related Product

Primary Metal

All mfg industries

Wood Product

Non-Metallic Mineral Product

Food

Textile\Clothing & Leather Prod

Transportation Equipment

2014

10-year average

Percent change

Manufacturing GDP by Industry: 2014


2

4

6

8

10

12

O&G & related industries* Manufacturing

% of GDP (based on 2011 input-output tables)Share of GDP: Manufacturing and O&G

*includes oil & gas extraction, support activities for o&g extraction, oil & gas engineering construction, petroleum refineries, and crude oil pipeline transportation


3) Consumers benefit from lower gasoline prices, although questions about how much of the savings will be spent

Less money spent at the pump frees up household income for other purchases or savings

Oil prices and Canadian consumer spendingbased on assumed 30% drop in oil prices $ Billions (C$)H1/14 Spending on mv fuel 48.5

Savings from lower oil prices 11.0

Amount saved rather than spent* 5.5

Increased spending 5.5

Imported content** 1.9

Net impact on GDP 3.6

Percent of GDP 0.2

*Assumes that just 50% of savings from lower gasoline prices are actually spent

**Import content of new consumer spending assumed to be 35%. Based on BoC Review, Autumn 2005



Risk to Q1 from bad weather/oil price impact, expecting stronger growth going forward

On balance, national real GDP growth to remain respectable…

2.4 2.32.5

-4.0

-3.0

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-1.0

0.0

1.0

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3.0

4.0

5.0

2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015F 2016F

Projection

Canada real GDP growth

Bank of Canada forecast

Annual percent changeCanada Real GDP Growth



Relying on the consumer and exports. Business investment likely a drag in 2015, although rebound with oil prices in 2016

…led by stronger consumer spending and net trade

-0.6

-0.4

-0.2

0.0

0.2

0.4

0.6

0.8

1.0

1.2

1.4

1.6

Consumerspending

Gov't Residentialinvestment

Businessinvestment

Net trade Inventories

2014

2015

2016

PPT contribution to annual GDP growthCanada GDP Composition



Limited impact on GDP means limited impact on nationallabour marketsO&G employment will fall, but offset from other regions/sectors. National U-rate to drift lower. Employment growth slow and participation rate falling, but largely due to demographic factors.

Employment in Oil & Gas Sector

Direct oil & gas employment* 190.2 1.1

Oil & gas construction 170.7 0.9

Total 360.8 2.0

Source: Natural Resources Canada Energy M arket Fact Book - 2014-2015 , RBC Economics Research

Thousands% of total

employment

1.0 1.00.6

6.96.4 6.3

1

2

3

4

5

6

7

8

9

10

1998 2000 2002 2004 2006 2008 2010 2012 2014 2016

-2.0

-1.0

0.0

1.0

2.0

3.0

4.0

5.0

6.0

7.0

8.0

Employment (RHS)

Unemployment rate (LHS)

Annual average percentCanada Labour Markets Forecast

Annual percent change



More significant regional implications, although oil producing provinces starting from position of strengthUnemployment rates in oil producing provinces have increased substantially early in 2015, but are still below the national average.

-1.5

-1.0

-0.5

0.0

0.5

1.0

1.5

NL&

L

PEI

NS

NB

QC

ON

MB SK AB BC

Change in u-rate ytd 2015 (datathrough February 2015)

National average

Percentage pointsCanada Unemployment Rate Changes


0.0

2.0

4.0

6.0

8.0

10.0

12.0

14.0

NL&

L

PEI

NS

NB

QC

ON

MB SK AB BC

Feb 2015 Unemployment rate

National average

Percent as of February 2015Canada Regional Unemployment Rates



Earlier strength means per-capita income higher in oil producing provinces

1

2

3

4

5

6

NFLD PEI NS NB QC ON MB SK AB BC

Average annual growth since 2000

Growth in Per-Capita Household Disposable Income


Canada average

Strong growth in household PDI per-capita in oil producing regions since 2000 have resulted in above-average income levels

15

20

25

30

35

40

45

NFLD PEI NS NB QC ON MB SK AB BC

Thousands of $CPer-Capita Household Disposable Income

Canada average


Saskatchewan not all about oil

2

4

6

8

10

12

14

16

18

Agriculture O&G extraction Potash Other mining

Percent of nominal GDPSaskatchewan GDP by Industry


Oil & gas extraction important contributor to provincial economy but other sectors also important. Other industries, like Agriculture, likely net beneficiaries of lower oil prices

21.1

32.1

15.4

0.5

5

10

15

20

25

30

35

AB NFLD SK Rest of Canada

% of GDP, based on 2011 input-output tablesOil & gas production share of GDP



Offset to O&G weakness in Sask. from stronger potash production and agriculture

200000

400000

600000

800000

1000000

1200000

2007 2008 2009 2010 2011 2012 2013 2014

Thousands of tonnes, seasonally adjustedSaskatchewan Potash Production

Source: Saskatchewan Industry and Resources, RBC Economics Research

Potash production up 30% year-over-year in Q4/14, will benefit from strengthening demand (low oil prices should be positive for int’l potash demand). Agriculture weak in 2014, assume better year in 2015.

2.14.1

-13.4

-30

-20

-10

10

20

30

40

2007 2008 2009 2010 2011 2012 2013 2014 2015 2016

Year-over-year, % changeSaskatchewan GDP by industry : Agriculture


Forecast


Greater signs of weakness in housing markets…Negative headlines have weighed on household confidence with large declines in home re-sales in SK and AB early in 2015. RBC forecast assumes some retracement later this year. Prices to fall 3% in SK in 2015, less of a decline in Alberta.

13.912.7 12.4

3

5

7

9

11

13

15

17

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

Saskatchewan annual home sales

Monthly sales (annualized rate)

ThousandsSaskatchewan Home Sales

Source: CREA, RBC Economics Research

71.8

59.360.5

20

30

40

50

60

70

80

90

100

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

Alberta annual home sales


ThousandsAlberta Home Sales



…in part reflecting higher, although still comparably low, unemployment Higher unemployment rate in 2015, although still below the national average

2

4

6

8

10

12

14

N.& L. P.E.I N.S. N.B. QUE. ONT. MAN. SASK. ALTA. B.C. CANADA

2014 actual

2015 forecast

Series3

Annual average, %Canada Regional Unemployment Rates


Provincial Forecasts

Saskatchewan forecast at a glance% change unless otherwise indicated

2012 2013 2014F 2015F 2016F

Real GDP 3.1 5.0 1.1 2.1 2.1

Nominal GDP 5.7 5.5 0.3 -1.2 7.7

Employment 2.4 3.1 1.0 0.7 1.2

Unemployment rate (%) 4.7 4.1 3.8 4.8 4.4

Retail sales 7.4 5.1 4.5 2.6 3.8

Housing starts (units) 9,968 8,290 8,257 5,600 6,900

Consumer price index 1.6 1.4 2.4 1.5 3.3

-3.0

-2.0

-1.0

0.0

1.0

2.0

3.0

4.0

5.0

ONT. B.C. MAN. N.S. SASK. QUE. N.B. P.E.I N.&L.

ALTA.

2014 forecast

2015 forecast

2016 forecast

Annual percent changeCanada Provincial Real GDP Forecast


Saskatchewan in the middle of the pack in GDP rankings for 2015 despite low oil prices. Alberta lagging, although growth still above zero and following outsized earlier gains

Alberta forecast at a glance% change unless otherwise indicated

2012 2013 2014F 2015F 2016F

Real GDP 4.5 3.8 4.2 0.6 1.1

Nominal GDP 5.6 7.1 7.2 -10.5 10.8

Employment 3.5 2.5 2.2 -0.1 0.7

Unemployment rate (%) 4.6 4.6 4.7 5.7 5.4

Retail sales 7.0 6.9 7.6 1.0 3.2

Housing starts (units) 33,396 36,011 40,590 29,300 30,800

Consumer price index 1.1 1.4 2.6 0.8 2.6


More clearly negative implications on “nominal” measures from a weaker Terms-of-TradeWeaker terms-of-trade mean reduced economy-wide income (nominal GDP) and reduced purchasing power of real GDP.

•Terms of Trade = ratio of export to import prices

•Lower oil (export) prices mean lower CPI and GDP inflation which means lower ‘nominal’ GDP even if the volume of production is unchanged (ie. lower economy-wide income)

•Corporate profits and government revenues significantly impacted

•Likely more moderate impact on household incomes

•Weaker terms-of-trade implies fewer imports can be purchased with a given volume of exports (ie. lower purchasing power of real GDP)

•Not much policy makers can do about international commodity prices

•Terms of trade gains over the last 15 years represent a sizeable windfall in terms of domestic purchasing power. Declines expected will only partially reverse prior gains with a partial recovery likely as oil prices strengthen.


CPI inflation will fall, but ex-energy strongerConsumer savings from lower gasoline prices (and resulting increased spending) and a weaker currency could actually cause an increase in underlying inflation trends. Reduced retail competition could also play a role.

10

20

30

40

50

60

70

80

90

1995

1997

1999

2001

2003

2005

2007

2009

2011

2013

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

4.0

Diffusion index* (LHS)

Core CPI (RHS)

Index levelCanada Core CPI and Diffusion Index

Year-over-year


Effect of increased retail

competition?

*The dif fusion index measures the percentage of 28 sub-components of the core CPI that are growing at a 2% or faster pace

-1.5

-1.0

-0.5

0.0

0.5

1.0

1.5

2.0

2.5

3.0

3.5

4.0

Q1-

2005

Q1-

2006

Q1-

2007

Q1-

2008

Q1-

2009

Q1-

2010

Q1-

2011

Q1-

2012

Q1-

2013

Q1-

2014

Q1-

2015

Q1-

2016

'Headline' CPI

Core CPI (excludes 8 most volatile components, including gasoline)

Year-over-year percent changeCanada CPI Inflation


BoC Target

Forecast


Household disposable income not likely significantly impacted, even in Saskatchewan

-20

-15

-10

-5

5

10

15

Q1-

2000

Q3-

2001

Q1-

2003

Q3-

2004

Q1-

2006

Q3-

2007

Q1-

2009

Q3-

2010

Q1-

2012

Q3-

2013

Q1-

2015

Q3-

2016

Terms-of-trade

Household disposable income

Year-over-year percent changeCanada Terms-of-Trade and Household Incomes


Direct negative impact on corporate profits and lower government revenues (lower royalties provincially and lower corporate income tax provincially and federally); however, little correlation between terms-of-trade shocks and household disposable income

-15

-10

-5

5

10

15

20

1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013

Saskatchewa real household disposable income

Canada terms-of-trade

Annual percent change

SK household income and Canada's terms-of-trade



Government Fiscal Balances Relatively GoodRegions impacted the most are also in the strongest fiscal positions. No need to take drastic short-term action but risk of political pressure forcing gov’t hands

-10

10

20

30

40

50

60

BC AB SK MB ON QC NB NS PEI NL Federal

Percent of GDPNet Debt to GDP Ratios by Region

Source: Provincial and Federal governments, Statistics Canada, RBC Economics Research


Terms-of-trade drop likely to be substantial, but measure still historically elevatedToT determined largely by international commodity markets (not much we can do about it policy-wise), and, even at its lowest, will still be about 10% above its average 1990s level according to our forecast.

70

75

80

85

90

95

100

105

110

115

Q1-

1990

Q3-

1991

Q1-

1993

Q3-

1994

Q1-

1996

Q3-

1997

Q1-

1999

Q3-

2000

Q1-

2002

Q3-

2003

Q1-

2005

Q3-

2006

Q1-

2008

Q3-

2009

Q1-

2011

Q3-

2012

Q1-

2014

Q3-

2015

Forecast

Terms-of-trade (ratio of export to import prices

Average 1990s level

Ratio of export to import prices, index=100 in 2007 Canada Terms-of-Trade


2008/09 recession


The cost of insurance?

70

80

90

100

110

120

130

140

150

160

170

1990

1992

1994

1996

1998

2000

2002

2004

2006

2008

2010

2012

2014

US measure

Canada adjusted to US definitions

Debt to income ratio (%)Debt-to-Income Comparison: Canada vs US


By the time BoC rate cuts begin to affect real activity (4-6 quarters) oil prices are expected to have strengthened. Risk of further elevating household imbalances without really doing much to offset oil related weakness

0.0

1.0

2.0

3.0

4.0

5.0

6.0

2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015

%Canadian Government Bond Yields

10-year rate

Source: Bank of Canada, RBC Economics Research

5-year rate


Despite higher debt, payments still manageable…for nowLow interest rates mean lower payments for higher debt levels. Eventually, higher rates will mean less support to growth from household spending

6

7

8

9

10

11

12

Q1-

1990

Q2-

1991

Q3-

1992

Q4-

1993

Q1-

1995

Q2-

1996

Q3-

1997

Q4-

1998

Q1-

2000

Q2-

2001

Q3-

2002

Q4-

2003

Q1-

2005

Q2-

2006

Q3-

2007

Q4-

2008

Q1-

2010

Q2-

2011

Q3-

2012

Q4-

2013

Interest paid on householddebt as share of disposableincome

%Canada Household Debt Servicing Costs



Housing affordability varies significantly by region

0

20

40

60

86 88 90 92 94 96 98 00 02 04 06 08 10 12 14

RBC Housing Affordability Measures - Canada

Two-storey

Condo

Bungalow

Ownership costs as % of household income

0

20

40

60

86 88 90 92 94 96 98 00 02 04 06 08 10 12 14

Saskatchewan

Two-storey

Condo

Bungalow


0

20

40

60

80

86 88 90 92 94 96 98 00 02 04 06 08 10 12 14

British Columbia

Two-storey

Condo

Bungalow


Affordability strained in BC and Ontario, payments share of income slipping lower in other regions.

0

20

40

60

80

86 88 90 92 94 96 98 00 02 04 06 08 10 12 14

Ontario

Two-storey

Condo

Bungalow



Despite regional weakness, national home sales to increase in 2015

481458

490

200

250

300

350

400

450

500

550

600

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

Canada annual home sales


ThousandsCanada Home Sales


Sales have been strong in B.C. (Vancouver) and Ontario (Toronto). Low oil prices, low interest rates to boost demand in those regions in 2015. Prices to rise 3% in 2015 at the national level

189 179184

50

100

150

200

250

300

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

2016

Canada annual house starts

Monthly starts (annualized rate)

ThousandsCanada House Starts

Source: CMHC, RBC Economics Research


Vehicle sales have remained strong despite bad weather and oil price impactThe pace of auto sales has moderated through Jan/Feb relative to 2014 average, but still selling at a historically strong pace

1.59 1.60

1.73

1.631.58

1.63 1.67 1.69 1.67

1.481.58 1.62

1.721.78

1.89 1.86 1.85

1.3

1.4

1.5

1.6

1.7

1.8

1.9

2.0

2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016

RBC Economics forecast

Annual new motorvehicle sales

2015 year-to-date

MillionsCanada New Motor Vehicle Sales

Source: Statistics Canada, Global Automakers of Canada, RBC Economics Research


Thank you and please visit our website:

www.rbc.com/economics


Disclaimer

The material contained in this report is the property of Royal Bank of Canada and may not be reproduced in any way, in whole or in part, without express authorization of the copyright holder inwriting. The statements and statistics contained herein have been prepared by RBC Economics Research based on information from sources considered to be reliable. We make norepresentation or warranty, express or implied, as to its accuracy or completeness. This publication is for the information of investors and business persons and does not constitute an offer tosell or a solicitation to buy securities.

®Registered trademark of Royal Bank of Canada.©Royal Bank of Canada.

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