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Global uncertainty, European crisis fuel Canadian meltdown fears

Discouraging signs for the economy are piling up in the United States and Europe, sparking worries that Canadian businesses and consumers may not be able to prop up the recovery for much longer.

Confidence among the smaller companies that account for most American hiring sank to a 13-month low in August, a report from a U.S. business group showed Tuesday, and the number of owners predicting better economic conditions six months from now plunged to the lowest since 1980. In Europe, speculation increased that Greece will default on its debt, and Italy's borrowing costs soared amid intensifying fears that European authorities cannot keep the euro-zone's debt crisis from spreading to its biggest economies and their banks.

Against that backdrop, and nagging questions about whether politicians and central bankers on either side of the Atlantic can stop the bleeding, Toronto-Dominion Bank on Tuesday joined a long list of forecasters that have downgraded their domestic outlooks.

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Going a step further, economists at the Bank of Nova Scotia said Canada may already be in a "technical recession," or two consecutive quarters of negative economic growth.

The economy's contraction from April through June may have continued into July, Scotia's Derek Holt and Karen Cordes Woods argue, because trade data from that month shows business investment – a rare bright spot in the previous three-month period – waning. Plus, they point out, companies built up inventories at a rapid pace in both the first and second quarters, adding to growth, but given the slowdown in global demand it's unlikely that continued.

TD doesn't see a recession in the U.S., Europe or Canada – yet.

Its chief economist, Craig Alexander, puts 40-per-cent odds on another U.S. downturn (up from 15 per cent at the start of 2011) and says while Canada would almost certainly follow suit, it probably would be "dramatically milder" than the Great Recession of 2008-09.

At the same time, Mr. Alexander explained in an interview, the actual growth numbers are becoming less important than the clear trend for Canada's biggest export markets, which is slower-than-anticipated growth that is already restraining the domestic economy.

TD sees Canada growing 2.2 per cent this year, 1.9 per cent in 2012 and 2.6 per cent in 2013 – compared with the 20-year pre-crisis average of 2.8 per cent.

A vexing question mark is how much businesses and consumers will adjust their behaviour out of fear about how much worse things could get.

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``That's the problem with forecasting at this moment," Mr. Alexander said. "The risk is consumers pull back on their spending because they're not feeling so good about the outlook, or businesses say, 'Let's put off hiring for a quarter, or let's put off investment for a quarter.' And then you can end up in the environment that the consumers and businesses are worried about."

As it is, TD sees Canada's jobless rate remaining above 7 per cent through 2013, and probably eclipsing the current level of 7.3 per cent by at least a few ticks.

Jay Myers, president and chief executive of Canadian Manufacturers and Exporters, said Tuesday that businesses he speaks with are becoming more concerned about where their sales are going to come from a few months from now, and that this growing uncertainty is likely to hit hiring first.

``The first area where companies will hold back is probably hiring, until things become a little bit more clear," Mr. Myers said in an interview. ``Although, if confidence begins to erode and that then translates into weaker customer demand and you see sales beginning to erode and cash flow beginning to erode, investment will also follow on."

Mr. Alexander and his team at TD argue that one way Canada could outperform their expectations is if consumers take even more advantage of "lower-for-longer" interest rates than they're expected to, and ramp up their borrowing in the face of external threats to the economy.

But an irony throughout Canada's recovery has been that while rampant domestic spending and a hot housing market helped fill the void left when exports plummeted, policy makers are worried that too many borrowers won't be able to afford their debts when rates rise.

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"That's the upside risk in the Canadian forecast," Mr. Alexander said. "If extra strength comes on the side of the consumer or real estate, it could be creating a medium-term problem."

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