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Another day, another dire outlook for the Canadian economy. The steady drumbeat of negativity on the domestic economy is reaching a point where the accuracy of the predictions themselves may not matter all that much – the change in sentiment alone is likely to affect both the level of manufacturing activity and the Canadian dollar.
Bond Dad, a Canadian estate planning lawyer and blogger, is only the latest expert to predict a severe slowdown for the economy and even suggests that shorting Canadian assets may be the right trade in the months ahead. The usual culprits are dutifully cited – household debt, a stronger currency that limits exports, U.S. oil production and a struggling mining industry – as Bond Dad joins the OECD, the Bank of Canada and economist Walter Kurtz in advocating a migration of investor assets from Canada to the United States.
In the medium term, economic data will either verify or refute the predictions. Right now, investors should be aware that, right or wrong, the predictions themselves will affect domestic growth.
Day by day, month by month, exchange rates for the Canadian dollar are determined by flows – the amount of foreign currency exchanged into Canadian dollars in order to purchase Canadian assets. This includes the U.S. dollars converted to Canadian to purchase the more than two million barrels of crude that cross the border each day. You might think the fiscal health and interest rate policy of the Canadian government are the only factors in determining the value of the loonie, but in the short term, flows are crucial.
The amounts of oil, natural gas and Chrysler minivans that move to the U.S. are reasonably stable, but some inflows like foreign purchases of Canadian bonds and equities can be volatile, dependent on the economic outlook. As more and more economists question Canada's growth prospects, the less likely foreign investment becomes. This lowers buying support for domestic equities, but more importantly, reduces the attractiveness of Canadian government bonds, and puts upward pressure on interest rates.
So when will it kick in? It's already here. A recent report from Statistics Canada suggests that declining optimism on the Canadian economy is already having an effect on investment:
"Canada's net liability position on securities declined $12.6-billion to $428.3-billion in the fourth quarter. Canadian acquisitions of foreign securities exceeded foreign investment in Canadian securities for the second time in more than four years at the same time as most of foreign stock markets outpaced those in Canada in the quarter."
Scott Barlow is a contributor to ROB Insight, the business commentary service available to Globe Unlimited subscribers. Click here for more of his Insights, and follow Scott on Twitter at @SBarlow_ROB.
Scott Barlow