Economists have been warning for more than a year that the commodities super-cycle was coming to an end, and it wouldn't be pretty for Canada.
Just how ugly wasn't apparent to many Canadians until this past week, when the price of crude crashed through the $50-(U.S.)-a-barrel mark on its way to an uncertain bottom.
The consequences have been swift and brutal: Mass layoffs in the oil sands, mothballed investments, a stock market rout, a tumbling currency and a gaping revenue hole for the governments of Canada and Alberta. Citing "market instability," federal Finance Minister Joe Oliver said Thursday that he's delaying the government's budget to April, or after the start of the new fiscal year.
A housing price correction, starting in Alberta and moving eastward, could be the next casualty.
And on Thursday, there was collateral damage as retailer Target Corp. announced it was pulling out of Canada, shuttering 133 stores and laying off its entire work force of 17,600. The U.S. retail giant's exit is mainly a story of failed strategy, but the shaky economy and falling Canadian dollar may have hastened the move.
Blame it all on the commodities super-cycle, which has powered the Canadian economy for the past 15 years and carried it through the dark days of Great Recession.
Canada prospered as the world price of oil and other commodities soared. That's because we happen to produce in abundance many of the basic raw materials that China, India and other fast-growing emerging economies needed as they integrate into the global economy – from oil and coal to fertilizer, iron ore, copper and nickel.
Between 2007 and 2013, China's economy doubled. And so did its thirst for oil, turning the country into the second-largest consumer of oil in the world.
Canada sells virtually none of its oil outside Canada and the U.S. But surging Asian demand caused a quadrupling in the world price of crude from the late 1990s to last summer.
And that led to a massive supply-side response, including massive investment in the relatively high-cost oil sands. As Bank of Canada deputy governor Timothy Lane pointed out in a speech Wednesday, oil sands production grew fivefold between 1993 and 2014. Oil sands investment doubled to $30-billion (Canadian) between 2006 and 2013.
Mr. Lane said the drivers of the commodity demand are still at work. China's economy is still growing at roughly 7 per cent a year, pushed by urbanization and the emerging middle class.
The super-cycle isn't over, it's just shifted into a lower gear since the recession, he said. "These underlying forces still have a long way to run," Mr. Lane insisted.
The problem for Canada is that all its new oil production is predicated on much higher prices. The Bank of Canada estimates that production costs in the oil sands range from $60 (U.S.) to $100 a barrel, well above the current market price.
The response has been predictable. Companies are already slashing investments. Suncor Energy Inc., the largest oil sands producer, announced this week that it's slashing 1,000 jobs and $1-billion (Canadian) in investments. All told, Canadian publicly traded energy companies have announced roughly $12-billion of capital spending cuts since November, according to data compiled by Bloomberg.
Oil extraction represents a relatively small percentage of the economy – just 3 per cent. But it's a much larger share of investments (roughly one-third) and exports (14 per cent).
That explains why economists are rushing to downgrade their forecasts for the Canadian economy. Merrill Lynch said Thursday that it now expects gross domestic product growth of just 2.1 per cent this year, down from 2.4 per cent.
The Bank of Canada will almost certainly do the same next week when it releases its latest quarterly forecast and makes its interest rate announcement. In mid-December, when oil was at $60 (U.S.) barrel, Bank of Canada Governor Stephen Poloz said lower prices would shave about 0.3 percentage points off economic growth, then expected to reach 2.4 per cent this year.
The Conference Board of Canada warned this week that Alberta could tumble into recession.
As bad as conditions get in Canada, it's worth remembering that cheap oil is a actually a good thing for the global economy, and particularly the U.S. – the main market for Canadian exports.
Yes, Canada is facing the prospect of slower growth, but it's occurring against a backdrop of an expanding U.S. and global economy. And historically, that's been good for Canada.