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Hello everyone and welcome to this February 20th Economic Impact video, which will actually be my last one as I will soon be a new retiree from National Bank. But do not worry, the production of these videos will continue with our star, our chief economist, Stéfane Marion. Hello Stéfane.

Hi Martin.

So, Stéfane, we've talked about it, but we are now seeing it, definite deceleration of inflation. As we had expected. What do you think?

Well, some people actually noticed that we see deceleration in inflation Martin, and we're at 6.4% down from 9%, so clearly going in the right direction, we've been claiming this for many months. However, some people thought it would be decelerating faster at this point in the cycle, which has yet to be confirmed. But notwithstanding the fact that central banks continue to say that they might continue to hike interest rates, the bond market doesn't believe it anymore, Martin.

No. And we're watching this very, very carefully, this famous fed fund versus 2 years, what's going on?

Well, the 2-year Treasury yield in the US and same thing in Canada, Martin, is below the overnight rate or the policy rate of the Central bank. So clearly what the market is saying right now, central banks have gone far enough. You could, you might expect even a pivot in the coming months and if we're lucky, perhaps a rate cut by the end of the year.

And what happens when we see this inversion?

It's market expectations. Never forget that the financial markets run on expectations. And once you see this inversion, which has happened last December, December 15th to be more precise, Martin. Historically, the stock market does well during the period where you see the inversion of the curve until the first rate cut. And historically there's a delay of seven months and over those 202 days to be more precise, the stock market tends to deliver positive returns around 8% Martin.

So, we did in about 60 days, what we usually do in about 200 days.

Well, that's the thing, let's not be too greedy at this point in time. What is quite peculiar in this rebound is that we've done it really, really quickly. So, people are expecting the Fed to pivot really quickly, and the Fed has yet to commit to that pivot. So, in my opinion, it is normal to see that the markets are becoming a little bit more nervous until you confirm that the Fed is changing its forecast, which it has yet to do.

And the market is anticipating what kind of earnings?

Positive and that's troubling because if you think you're going to get a significant deceleration of economic growth, you should be bracing yourself for negative profit growth. But at this point in the cycle, and the reason we did so well, is that the market saying we're going to get significant deceleration, but profits are going to remain positive on a year over year basis. However, Martin, we're seeing an erosion of profit margins on both sides of the border and that will be critical with respect to the reaction functions of corporations in the face of an erosion in their profit margins, which means Martin - what will they do on the hiring cycle? That's critical.

So, employment is the key, and we're already in stagnation for full time employment in the States.

Employment is always key in determining whether or not there's going to be a soft landing or recession. And yes, US job market has surprised with its resilience in recent months. But Martin, full-time employment has been stagnating for the past few months, so already you're seeing corporations being a little bit more nervous on the hiring pace. So. In Canada, we've stagnated. We've done really well over the past 2 months. But I do believe that we'll also be stagnating because we're starting to see an erosion in the profit margin. So, at the end of the day, that will determine the shape of the economic cycle.

And Stéfane, what's the relationship between the stock market and recessions?

The stock market is in asymmetric in terms of leading indicator for the economy or stock market. So basically, Martin, the stock market is very good at predicting the end of recession, but it never calls a recession. So, basically the stock market always calls a soft landing. And when they see the first rate cut, they say, hey, wait a minute, why are rates being cut, what's happening here? And then it gets a little bit more volatile. So, this time around, I think the volatile could come even faster just because of the geopolitical backdrop.

Yeah, we're actually in the first year anniversary of the war in Ukraine. So, lots of uncertainty there.

And the uncertainty comes, Martin, from the fact that if there is a very specific infrastructure that are destroyed in the coming weeks related to food production or energy production, you could see global inflation turn a corner and start accelerating again. So again, let's not be too greedy at this point in time. Let's play defense because we have yet to see what happens at the end of the month on the Ukraine-Russia conflict, which is still very important from a global perspective.

Excellent. So, in conclusion, we're remaining prudent. We're going to see the impact of higher rates in the coming months. And we've already priced a lot in the last two months. Lot of good news. Yeah.

Yeah, lots of good news

So, thank you very much, Stéfane. Thank you everybody for having been listening to us for the last couple of years. It was a pleasure to be doing this. We learned a lot in communication. And let's remember Doctor Weiss telling us in October 2020 that we would be back to normal in 2024. So, it's been a great ride. Thank you for listening and there will be more of these short videos. Do not worry. Thank you. Take care. Bye, bye.

Hello, Everyone, and welcome to Economic Impact. Today is January 9 and I want to take the opportunity to give our best wishes to friends and family of National Bank of Canada. Hello, Stéfane.

Happy New Year, Martin.

Same to you. Stéfane, a couple of weeks ago we talked about 2022, and it's important to look at it with the final numbers. And, it was the worst year ever for a balanced portfolio.

Yeah, Martin. I can make easy claim. No one alive has ever seen a bad year like we saw in 2022, with the combination of the stock market being down 22% and the bond market being down roughly 15%, you can see on this chart that it had never been observed on this magnitude. And, Martin, what was stellar also for 2022 or very telling for 2022 is it was the first time since 1958-1959 that the bond market had two consecutive years of drawn down. So, not a good year for fixed-income holders in both 2021 and 2022.

And, Stéfane, if I look quickly at all the dots, the bond market has never been down two years in a row.

No, Martin, and I don't think it will be. And, that's important. And the reason I don't think it will be, is because we are looking at a slowdown in 2023. It is actually the most anticipated recession of all times. Never before have we seen such a large portion of professional forecasters calling for contraction of the U.S. economy this year.

And, Stéfane, despite all of the gloom and doom that we read in the media over the Holiday season, yet the markets are up strong to start the year.

Yeah, so it's a large proportion of forecasters that are calling for a recession, Martin,  but it's around 50-50% as we stand right now. So, it's not surprising if you call a recession that the bond market would do well, start the year relatively firmer. But, what's surprising, Martin, it's been outpaced by riskier assets. So, stock market up everywhere around the world --- emerging markets, commodity producers, the tech sector. Every sector is up this year and that is quite surprising. It's a really great start to the year!

And, Stéfane, to explain that we can look at fresh news on the inflation and specifically on supply chains.

Yeah. I think the expectation we've been, we were trading on inflation all through 2022. I think it's still a story for 2023. And, what the market is seeing right now, if you look at the manufacturing sector, supply delivery times, import prices, new orders are all coming down suggesting a very rapid decline in inflation for goods. Martin, we had already started to see this, it's just being confirmed even more. And, I think that's really important from an inflation perspective. 

And you just said we had already seen this, but not on the service side, which was a real surprise.

Yeah, well, that's the big thing, as we start 2023. The central banks have been saying that it will take probably almost a full year for inflation to come down in the service sector. But what we saw in the latest data, no later than December of 2022, we saw a big drop in activity, economic activity, in the service sector, which is 65% of the economy. And the drop in December, it was the second largest in over a generation. So, Martin, that does suggest less economic activity in services. And, as you know, inflation is a lagging indicator on activity. If activity comes down, then inflation is likely to come down also in the coming months. So, I think that was the key development to encourage markets that inflation would come down probably faster this year.

And, Stéfane, everybody talks about the recession, but the key is the labour market.

Well, there's the thing, Martin. You don't want to overdo it. If economic activity comes down too quickly and then you start to impact the jobs market, then purchasing power is eroded, there is de-leveraging, and not a pleasant outcome for financial markets, particularly for equity markets. So, what we are seeing, Martin, at this time is that the possibility of a soft landing is still there. Yes, total employment was up at the end of last year in the U.S., but we are seeing that full-time jobs are stalling right now, for a few months. So, that does suggest that corporations are being careful, hiring full-time, which means less wage inflation, and which also suggests that the possibility of a soft landing is still there, Martin. I think it's a 50/50% call.

And that's really interesting, Stéfane, cause, at the moment, this tug-of-war going on, we're seeing the markets essentially not believing the Fed.

Yeah, in order to achieve a soft landing, Martin, however, it's important that the Fed stops raising rates. And what we're seeing in recent weeks is that the two-year Treasury yield is actually below the Fed funds right now. Historically, the Fed has never raised the policy rate when the two-year treasury rate was below the Fed funds. So, I think that we're getting near the point where the Fed can stop raising rates. The market has already jumped the gun on that one and saying the Fed is done, maybe 25 basis points. And, that's a lot less aggressive than what the Fed continues to send out in terms of indication guidance to markets right now. So, the bond market no longer believes the Fed that they have to hike aggressively this year.

One of the main themes of 2022 was the strength of the U.S. dollar, and that is starting to the erode, Stéfane.

Well, if you stop the Fed, Martin, you stop the surge in the U.S. dollar, which was the story for 2022, as you say. So, what we're seeing in recent weeks is the U.S. dollar is starting to come down. That's good news for emerging markets that have a lot of debt that is denominated in U.S. dollars. It means debt-servicing is easier. And also for commodity producers, such as Canada, as the U.S. dollar comes down, then it's less downward pressure on commodity prices. So, I think it's a win-win situation for the global economy, if the U.S. dollar weakens. And, I think part of that, Martin, reflects the fact that we're based on divergence in monetary policy this year. And, that a potential offset to U.S. dollar, or U.S. economic weakness, is the fact the Chinese economy is re-opening. And, I think that is the biggest surprise of recent weeks is this announcement by Chinese authorities that lockdowns are behind us and that they are re-opening to the world which will also help bring down inflation, I think.

Stéfane, in conclusion, you know, we are seeing a slowdown in 2023. There's this tug-of-war between those who claim there is going to be a recession and a strong labour market. There are a lot of elements compensating for the fear of slowdown out there. And, what is your take? It's still, it's a real tough scenario, Martin. So, I think it's still the 50/50% chance of soft landing versus recession. I need to confirm the inflation numbers in the coming months. So, I think things are looking, going in the right direction, but we need to confirm also that the central banks will pivot in the coming weeks. So, I would argue that the same conclusion that we gave a few weeks ago to our clients still stands. Let's be careful as we start the year. Yes, it's a great start for equity market. But, let's confirm that these inflation data start to come down, and that that the central banks are done hiking. And, that gives us a greater chance of achieving a soft landing, which will be more constructive for markets.

Excellent. Thank you very much, Stéfane. And, once again, Happy New Year, everybody. Thank you.

Hello, everyone, and welcome to this last Economic Impact video for 2022. My name is Martin Gagnon and, as usual, I am with our chief economist, Stéfane Marion. Hello, Stéfane.

Hello, Martin.

So, Stéfane, we will do a bit of a review of what happened in 2022 and we can say it was not a great vintage.

No, not a good one, Martin. Even though the quarter is ending on a positive note. If you can see the, you know, the blue bars on this chart, pretty good returns, so far, in the fourth quarter. But, not enough to salvage the 2022 year, which is still quite negative across all asset classes, except if you were in cash. So, a tough year, Martin. You rarely see both equities and the bond market declining the way they did in 2022. So, a frustrating year for investors.

So typically, Stéfane, we have some alternative assets that will be a bit of a safe haven and they were not.

Yeah, in a context where, you know, inflation is a bit on the high side, you would have thought that the housing market, which did well for part of the year, Martin, but in recent months homeowners are seeing an outright decline in in home prices, and something we haven't seen in quite some time. You have to go back to the last tightening cycle back in 2008-2009 to see home prices also declining.

And the new diversifiers, digital assets, didn't do it either.

Well, digital assets, some people called him digital tulips, Martin, so, it depends on the way you look at it. But, clearly not a good year for alternative investments. Bitcoins is down to 63%. The main concern there, Martin, is we're finding out that governance was not necessarily a priority for this asset classes and, under these conditions, investors are getting more nervous about alternative diversification. When you don't have good governance, it's hard to invest.

Now, let's talk about interest rates because, for sure, the big topic we will remember about 2022 is this unprecedented interest rate increases that we witnessed.

Yeah, Martin, because people will say, well, it's the highest interest rates and, you know, you have to take the Bank of Canada, for example, 4.25% on the overnight rate. And, then you'll say, well, we've seen it before in 2008. But, Martin, you're absolutely right. We've done 400 basis points in only one year, and this has never happened before. So, this is why financial markets are unnerved. The pace of which central banks have tightened is unprecedented. And, the Bank of Canada is not alone. Everyone has done it. So, therefore, it sets the stage for some economic uncertainty in the months ahead.

And, we did all of this because we needed to fight inflation. Yeah, well, that's something we haven't seen in a generation. And, you're right to point this out, Martin. So, inflation on a year-over-year basis is around 7% right now in Canada, but in recent months it has slowed to 3.5%, annualized. So, think about it, Martin. The overnight rate is at 4.25%. Inflation in the past three months is running on a 3.5% annualized rate. So, that means that monetary policy is clearly restrictive, at this point in time. So the good news, Martin, is it seems to be decelerating, enabling the banks, the central banks, to take a pause and assess the impact of prior rate hikes.

And in terms of assessment, they do have to look out east and see what's happening in China.

You're absolutely, yeah, you're right. And, and one thing the central banks are saying that we don't fully understand the inflation dynamics in 2022 where, Martin, China still had a 0 COVID policy. So, the global supply chain is not fully normalized. The good news now is that, you know, we've been talking about that for quite some time, but now they're starting to reopen the economy. There will be collateral damage on their healthcare system. However, for the manufacturing, global manufacturing, things will start normalizing. So, part of that, as China reopens, because now they're closed, as they reopen, I'm hopeful that we'll see better pricing for manufactured goods in the months ahead.

Looking at the months ahead, Stéfane, one sign that is a bit troubling for 2023 is the big yield- curve inversion that we're seeing.

Yeah, a number of economic indicators, leading economic indicators, Martin, are pointing towards a slowdown. So, the economy is still strong now but pointing to a slowdown. And, you're right to say that one of those leading indicators tends to be the yield curve. The yield curve now is the most inverted that we've seen in more than 20 years. Historically, Martin, there's only one precedent where you have a yield-curve inversion without it leading to a recession and significant job losses. So, again, close call for 2023. Clearly, there's an economic slowdown. The magnitude remains to be confirmed, but a slowdown is coming in 2023, that's for sure.

Talking about a slowdown, the real definition of a recession, Stéfane, is what happens in the labour market, are people losing their job. And, we're seeing still a very strong labour market, which is a bit puzzling. And, maybe you will be shedding some new light on this.

It, it is puzzling. And that's the definition whether you get massive deleveraging for an economy and significant layoffs. The difference this time around, so we know the slowdown is coming, Martin, but one of the options that employers have is to reduce their headcounts via attrition as opposed to outright layoffs, which depresses disposable income by significantly more than retirements. So, what you can see on this slide from a Canadian perspective, and that's true for many OECD economies, Martin, is that, right now, currently in Canada, 280,000 people are leaving the labour force every year for retirement. That exceeds the growth in the working age population. So, you see, we've never seen demographics, uh, like this before, which means that you could have a significant economic slowdown without necessarily massive layoffs, of course, depending if the central banks soon take a pause on their interest rate increases. But, if inflation decelerates, you could have economic deceleration, a significant slowdown, but not necessarily the massive layoffs because of these unprecedented demographics that we're coping with.

So, we may be arguing as to what is the real definition of a recession in 2023?

Absolutely.

Now, in terms of conclusions,  Stéfane, three quick questions. So, are we in a recession?

Not yet.

Not yet. Your outlook for 2023? 50/50?

I think so. The labour markets are still quite strong and I've just spoke to the demographics which is unprecedented. I think most of it will depend on the path of inflation, Martin, and whether these central banks are now able to take a pause. So, hopefully, the Bank of Canada is done right now with interest rate increases, and let's see what happens elsewhere in the world.

So, you just answered my second question.

The third one is what should we do in terms of asset allocation?

Well, let's play defense, Martin. The reality is we have to confirm that the Federal Reserve, or, I say, other central banks beyond the Bank of Canada, are willing to take a pause. We need inflation to decelerate. Until we confirm that the central banks are willing to do a pivot, I think let's play defense because we know the slowdown is coming. Now, I need the central banks not to exacerbate the slowdown in the coming weeks.

Excellent. Thank you very much, Stéfane. Thank you for listening to us. I hope you enjoyed all of those videos in 2022. Thank you for listening. Happy holidays. We'll see you next year.

Hello, everyone and welcome to this November 7th Economic Impact video for the National Bank of Canada family. As usual, I am with our chief economist, Stefane Marion. Hello Stefane.

Hi Martin.

Stefane, we have some pretty good numbers from the stock market for the fourth quarter.

Yeah, after a dismal few weeks, we are seeing a decent rebound so far this quarter as of November 4th. The quarter is not over Martin, but the message that we see is equity markets are doing well across the world and the bond market has been struggling again this quarter. There might be hope for a better performance in the coming quarters, but important to note that the S&P TSX is doing well. Of course, these are markets quarterly performance in Canadian dollars.

And let's take a look at the US dollar to see the impact of maybe a little bit of a slowdown from the Fed.

Yeah. And the reason the stock market globally, most, most regions are doing well, Martin, is because U.S. dollar is finally stabilizing. I think this is an anticipation that the Federal Reserve might take a pause in the not-too-distant future, although that has yet to be confirmed, but markets tend to anticipate in the future, right, so US dollar stabilizing, that means that the hopes are that the Fed will be able to take a pause in the not too distant future and then assess its situation. That would be good news for the global economy because what we're seeing right now is a very tangible slowdown. And if you look at the manufacturing, global manufacturing activity we're talking about contraction, Martin, and for the second month in a row So clearly a deceleration is happening, or contraction is happening in certain sectors of the economy.

And Stefane, that's for the business side, but on the consumer side, some worries on the horizon.

Yes, but Martin, if the Fed hopes to cool inflation, consumer inflation, CPI, clearly you have to see some cooling on, in certain indicators. And what we're seeing now is that consumer confidence is at a record low across the OECD. And that reflects the fact that consumers are hit left, right and center with higher interest rates, higher food prices, higher energy prices and also certain asset classes are coming down in prices such as the housing market. So clearly not, not a very joyful mood for consumers across the world.

And in order to go by, actually we've seen the US consumer digging in their pockets.

Yeah. Even though that's interesting because even though the gross domestic product, so economic activity surprise in the third quarter after two contractions, it was a rebound in US GDP that was achieved on the back of consumers who had to lower their savings rate in order to consume. And savings rate in US is back to the lowest level that we've seen since 2007. So, less firepower on that front for sure Martin in the coming months.

And another element affecting the consumer is housing prices.

Yeah, so if you want to reduce consumer spending in order to reduce inflation, drop in confidence, lower savings rate, but on top of it, you have a negative wealth effect coming from home prices that are dropping, falling, Martin. We've seen a drop in Canada in recent months, but this is also happening in US and note on this chart, that home prices increased more than in Canada during the pandemic, 56% versus 48% on this side of the border. Both countries will show a drop. We're expecting 15% in Canada and between 15 to 20% in the US. So, the wealth effect will not contribute to more spending. Quite the contrary.

Let's take a look at profit expectations and again, some worries on that side. Well, I think what's key also for central banks, to cool inflation, you want to reduce the hiring cycle, you don't want to collapse it, Martin. But what we're seeing now in the US is that the share of US corporations that are guiding upwards for their earnings per share for the coming year has come down significantly. It's actually the worst diffusion since the pandemic. Only 20% of corporations are guiding upwards and at the end of the day under these circumstances, Martin, what you're seeing across the world is that even though we've seen this rebound in equity market so far in Q4, we're waiting to see what happens with the Federal Reserve, because most equity markets are in bear market 20% or more.

But Canada is resisting.

Yes, that's interesting, down only 12% since the peak and that is a reflection of some resilience of our economy, but also the composition of the S&P TSX that is more skewed towards commodities and commodities are really helping maintain some, you know, higher levels of profits than would otherwise be the case.

And Stefane, we had some good numbers. Again, the labor market surprisingly strong.

Yeah, but there's a twist on that Martin, because yes, labor markets surprised on both sides of the border. However, with this uncertainty regarding the earnings outlook, corporations are more cautious and yes, they're adding to total employment. But note that full time jobs have stalled on both sides of the border. So, what it seems to indicate, Martin, is that corporations are more likely to go into a hiring freeze scenario as opposed to outright layoffs. That's why people that were saying that, claiming, that both Canada and US were already in recession, the last employment reports actually dismiss that view. They're saying that it's a hiring freeze, stall speed, but it's not the major contraction that we've seen in the past that would qualify as a real recession. So the jury is still out in terms of what type of slowdown we'll see.

And Stefane, we had 50 basis point, not 75, your take on this.

Ah, well, I think from a Bank of Canada standpoint, they could afford to surprise market and by being less aggressive because inflation is clearly decelerating on this side of the border, not the case in the US. I think there's a reason for that. I think people forget that when it comes time to analyze the impact of how your food and energy prices, particularly on the energy side, on the energy front, particularly as we enter the winter months where people have to heat their homes. And electricity is really important component. What we're seeing in Canada versus the US - is electricity prices are much more stable than we've seen in the US, an increase of 5% since the start of, or 6%, since the start or since 2019 versus 30% or so in the US, much more than that in Europe. So that explains why the savings rate in Canada is a little bit higher than what we're seeing in the US. But at the same time it helps explain why you have this faster deceleration of inflation.

And we have to be careful, there's a huge difference between Europe, the States and Canada on that front.

Ohh, absolutely. But the key message is that if you're trying to explain the resilience Canada versus the others on the consumer sector, while energy has been much less of a drag for household expenditures.

And another reason to explain how Canada is doing is demographic. And we talked a lot about the 500,000 new immigrants.

We're getting a lot of questions as to why are home prices, why are we expecting only 15% decline versus others that are climbing much worse than that. And the reason why we're a little bit less pessimistic is the reason that we still have these great demographics that support the housing sector. And the federal government upped the ante last week by announcing its intention to welcome 500,000 people a year, and most of those are economic immigrants. That supports the household formation, thus limiting the downside to home prices and Martin, at the same time, it increases your taxpayer base, which is really important going forward if you want to keep your social programs the way they are right now.

So Stefane, in conclusion, a similar message as last month we’re not in the recession camp. We still believe there's a slowdown but not a contraction of the economy, right?

Well. Economic slowdown for sure, Martin. Outright layoffs on a significant scale for North America that would qualify as a real recession. Again, the jury is still out on this one. But, again to get the scenario that we're forecasting, we need the central banks to take a pause. And again, I insist on the fact that it's great news for Canada. Now we need better news on the inflation front from the US so we have to play defensive for the next few weeks and or in order to confirm this slowdown on inflation.

So, we remain prudent, lots of volatility. Maybe some more interest rate hikes, but modest.

We're hoping that, come December, the central banks will be able to take a pause and that would be great news for the global economy in order to not fragilize what is already an incoming slowdown, even more.

Thank you very much Stefane. Thank you for listening to us and send us your comments. We'll be back in about a month. Thank you.

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