The economy: Still a slog

There comes a time in the affairs of a nation and its business leaders when the status quo, though not desirable, is preferable. Reluctantly perhaps, Canadians will take that option for the next two years or so. Readers of this article will learn what those next two years are likely to look like.

For the November/December 2009 Ivey Business Journal, I wrote an article entitled “Slogging Our Way to Recovery”.  The article argued “The reality is that the road back to normal from arguably the worst economy since the Great Depression is going to be a long slog with plenty of fits and starts.”

Exactly three years later it is useful to revisit that article.  A slog it has been and a slog it will continue to be.  Not a really bad economy but not close to what we would like either; certainly not the good old pre-crisis days.

Time spent thinking about the economy is time well spent for executives.  Getting the economy more or less right is key to high-impact decisions involving capital spending, financing, acquisitions, inventories, workforce sizing and compensation.  Of course, getting the economy right and properly connecting it to decision making is only part of performance and competitiveness.  You still have to execute but that is another story.

“Slog” is just plain the perfect word for this economy.  Curiously, a number of words that rhyme with slog could also apply to an unsatisfactory economy:  bog, fog, clog and log.

The “slog” case for the economy has not changed much in three years.  First, history is pretty clear:  the deeper the financial crisis, the slower economies bounce back.

The 2008 financial crisis was a whopper.  The bad news is that we still have a few more painful years of adjustment ahead of us.  The good news is that we are three years into the adjustment.  The light at the end of the tunnel is getting brighter but we are not there yet.

Second, Canada is one of the leading global economies but that does not change the fundamental reality that we are still very dependent on the United States.  With U.S. trade about a quarter of our economy, it could not be otherwise.  Being so tied to the biggest, richest economy in the world has served our economy well and still does, but from time to time there are bumps.  This is one of those times.

A combination of political gridlock, high household debt, low personal savings, slow wage growth, weak job creation, devastated home values, questionable competiveness and a horrific federal deficit/debt situation that is going to necessitate tax increases and spending cuts has the U.S. economy growing in the two percent real growth range.  That will take a toll on us.

A quote from a September 13, 2012 Federal Reserve Press Release confirms the expected persistence of U.S. economic weakness.  “The [Federal Open Market] Committee decided today to keep the target range for the federal funds rate at zero to one quarter percent and currently anticipates that exceptionally low levels for the federal funds rate are likely to be warranted at least through mid-2015.”  You do not make that kind of statement about economic policy over two years into the future unless you are expecting a tough economy.

Third, a major difference on the negative side from three years ago is Europe.  The European economy is a mess of recession, banking problems, fractious politics, severe financial stress in a number of countries including Spain and Italy, and very big and very complicated problems with the Euro.

Europe matters to Canada because Europe is 20 percent of the world economy, a significant trading partner of Canada and a huge trading partner of emerging economies like China that buy a lot of Canadian commodities to process for the European market.  Europe is going to be a drag on world and Canadian growth for some time.  Europe is the world economy’s biggest worry and risk,

Fourth, central bank policy interest rates are at or near historic lows in many countries including Canada, the U.S. and Japan.  For example, the Canadian overnight rate is one percent and therefore clearly negative after adjusting for inflation.

The reason central banks have kept interest rates so low for so long is to stimulate economies very much in need of stimulation and help stabilize financial systems.  But interest rates cannot stay at such abnormally low levels indefinitely, and when they rise that will dampen economic activity through the effects on spending and investment.  Using low interest rates to stimulate economies and help stabilize financial systems is sensible but what remains unclear is how to affect a smooth exit from the policy.  Weaning people off cheap money is not going to be easy; the politics are treacherous.

Finally, we have issues in Canada that will weigh on the economy for some time.  Record Canadian household debt, low savings and spotty job creation are not good for consumption spending which is about 60 percent of GDP.  It is doubtful that housing can sustain its torrid pace; the housing market is probably not a bubble but it sure looks frothy.  Federal and provincial governments are certainly not into anything that could be called austerity, but prudence and caution are increasingly the order of the day when it comes to spending.  The commodity-driven Canadian dollar is far too strong, which is bad news for our export oriented manufacturing sector.  Commodity prices face headwinds in a slowing world economy.

Executives should expect Canada to grow between 2.0 and 2.5 percent in each of 2012, 2013 and 2014.  Not great but better than most countries.

Executives should definitely not look to a strong economy to offset management mistakes and skate them back on side.  This economy is going to put a premium on management effectiveness.  A slog does not prevent you from running a good business.

About the Author

John S. McCallum is Professor of Finance at the I. H. Asper School of Business, University of Manitoba, and former Chairman of Manitoba Hydro. Contact