Housing market drives October's GPD growth

Canada's economy posted a second straight month of growth in October, as spinoff effects from the hot housing sector help solidify the country's rebound from recession.

Thanks to rock-bottom interest rates, sales of existing homes are surging. The buying spree is helping fuel broader domestic spending needed to power the economy until foreign demand picks up.

While the October gross domestic product increase of 0.2 per cent was less than the 0.3 per cent economists anticipated and half of the 0.4-per-cent expansion registered in September, it capped the first back-to-back monthly gain since late 2007.

And economists said the effects of monetary and fiscal stimulus – cheap mortgages and tens of billions in stimulus programs that have helped companies start hiring again – provide reason for optimism.

"The performance in October may not tell that story, but we do think that there's significant momentum in the Canadian economy," Millan Mulraine, an economics strategist with TD Securities in Toronto, said in an interview.

"When someone buys a house, they go out and buy furniture for it. The real-estate sector drives consumer spending, due to the other things that people buy after they purchase a home."

Consumer spending and auto sales were behind October's GDP gain. The retail industry's 0.3-per-cent gain in the month provides further evidence of the rebound in consumer spending that Bank of Canada Governor Mark Carney says he's counting on amid tepid sales for Canadian exports. Mr. Carney said last week that he expects the emergence from recession to be "more protracted and more reliant" on domestic demand than usual.

The October GDP numbers also got a boost from cold weather that spurred higher demand for electricity and natural gas in some parts of the country, leading to a 2.4-per-cent increase in utilities.

October kicked off a quarter for which most economists predict growth of about 3.3 per cent on an annualized basis – which would be the fastest in more than two years – after an anemic 0.4 per cent between July and September and three straight quarters of contraction before that.

On a year-over-year basis, gross domestic product was down 3.2 per cent in October, indicating the ground the economy still needs to gain to get back to pre-recession levels.

Indeed, not all economist see clear sailing ahead. Douglas Porter, deputy chief economist at BMO Nesbitt Burns in Toronto, said the smaller-than-expected monthly gain indicates it may be tough for the economy to post growth above 3 per cent in the fourth quarter. He cautioned that sectors such as manufacturing and resources, neither of which fared well in October, carry "huge weight" in terms of economic growth.

Canada's battered manufacturing industry was largely unchanged in October after a 1-per-cent gain the month before, Statistics Canada said. Meanwhile, industries that declined in October included finance and insurance – even as residential mortgage loans rose – and the mining and energy exploration sector.

Crucial to a sustained Canadian recovery is a rebound in U.S. consumer spending. Reports yesterday showed American consumers' spending and incomes climbed last month, as the U.S. labour market showed signs of reaching a bottom. At the same time, the 0.5-per-cent gain in spending was less than forecast and sales of new homes unexpectedly dropped 11 per cent, reminders that recovery south of the border will take time.

"The U.S. consumer remains bogged down and isn't going to come riding to the rescue for the global economy as it has in most other recoveries," Mr. Porter said, meaning Canada's rebound will be "half-speed."

Nonetheless, gains in Canadian home prices are boosting sentiment among consumers across the country, and Mr. Porter acknowledged the housing boom could mean more spending on furniture, appliances and renovation projects over the next few months.

That helps explain why some economists are urging a measured approach to cooling the housing market if it starts to look as if a bubble might take shape.

******

POTENTIAL PITFALLS

The vast majority of forecasts agree the recession is past and normal times are around the corner. What could go wrong? From interviews with Canadian and U.S. economists, the five most dangerous pitfalls:

Inflation: Printing presses have been busy flooding financial markets with money, and governments have been spending like drunken sailors. "I don't see how we can increase the money supply the way we are increasing it and avoid inflation," says James Gillies, professor emeritus at Schulich School of Business. "I can see it happening everywhere around the world, and with heavy, heavy inflation, we'll see rapidly rising interest rates."

Policy makers get it wrong: The flip side to real inflation is that the fear of inflation will cause governments and central banks to stop stimulating the economy too soon. The growth in many economies is due to unprecedented levels of government spending, bailouts, super-low interest rates and money-market liquidity infusions. Nobody knows when the private sector economy will be ready to stand on its own and how it will react when the public sector crutches are removed.

The U.S. economy suffers a repeat pratfall: America is going great guns now, but again that's based on temporary government largesse and the need to refill empty warehouses. That doesn't mean anyone will buy the products. Bank of Nova Scotia vice-president of economics Derek Holt believes the U.S. economy will slow to about 2-per-cent growth in the latter half of next year, and if the inventory restock is too aggressive, a double dip is not out of the question.

Global imbalances: Buyer economies such as the U.S. are transferring unsustainable amounts of wealth to seller economies like China. The recession was supposed to help resolve that, and to some extent it has. U.S. exports are up and imports have fallen; one reason Canada fell into a slump. But the U.S. still imports far more than it exports.

Financial market shock: The collapse of Wall Street's Lehman Brothers is credited, or blamed, for being the straw that broke the global economy's back. Nothing of that magnitude has occurred since, but Peter Morici, former chief economist at the U.S. International Trade Commission, says there are enough ghosts in the closets of the U.S. financial sector to keep policy makers awake at night. "The banks are back to their old tricks."

(prepared by Jeremy Torobin/Globe & Mail)