Originally posted 18 January 2017
Part 4- Prospects
It is always difficult predicting the future at the best of times. In the world of Donald Trump with the high degree of uncertainty about trade agreements, prognostications are even more precarious. In the previous three parts we have studied the effects of employment, corporate and personal income, and mortgage financing on the residential market. Data shows that the market is holding up exceptionally well under the current circumstances.
Nevertheless storm clouds dot the horizon: (1) rising interest rates; (2) stubbornly high unemployment; (3) the real possibility of an upsurge of laid-off workers running out of severance and Employment Insurance benefits and facing bankruptcy; (4) concerns that a change in fiscal policy by the provincial government may harm the Edmonton housing market; (5) a significant change in inter-provincial out-migration; and (6) a weakening of oil prices leading to further industry lay-offs and corporate bankruptcies. Let’s examine these in turn.
Rising interest rates
The view from the Bank of Canada is highly influenced by Governor Poloz’s tenure at the Export Development Corporation. Although this is overly simplistic, his tenure has been marked by a decline in the value of the Canadian dollar viz-a-viz the greenback since he assumed the post in June 2013. His lens on the Canadian economy is informed by the importance of trade and much of that trade is not only commodities but manufacturing and services. In the Bank’s opening press conference statement accompanying its decision to hold rates steady on 18 January, the central bank highlighted critical headwinds to the Canadian economy arising from the Trump agenda: lower corporate taxes that may reduce Canada’s export competitiveness, rising interest rates coming north through transmission in bond yields, and thirdly, the relative resilience of the Canadian dollar against the U.S. dollar weakening Canadian competitiveness against third countries.
All things being equal, should the Bank of Canada maintain its stance on interest rates in the face of a Federal Reserve raising short-term rates then the Canadian dollar would likely fall, strengthening Canada’s exporters’ competitiveness. Yet this may only offset some of the destructiveness from Trump’s trade policies. Should Canada’s monetary policies and exchange rate policies attract the attention of Washington (competitive devaluation), it is probable that Canadian interest rates and mortgage rates will increase which in turn will depress real estate prices.
There has been an inexorable rise in unemployment in Alberta since May of 2014. The Chart shows both the official rate (unadjusted for seasonality) as well as rates on the duration of unemployment. Unemployment for more than a year was almost unheard of three years ago: today four per cent of the workplace have been unemployed for three months or more.
The Chart below further illustrates the ebbs and flows of members of the labour force who have not been successful in establishing or re-establishing themselves in the job market. There is some positive news at the end of 2016 but it is difficult to evaluate whether the hiring is seasonal or has been affected by the “animal spirits” arising from OPEC’s agreement to restrict output. In short it is too early to tell whether the employment outlook has turned the corner.
Upsurge of EI Claims
Alberta’s unemployment rate has increased dramatically since 2014. Employment Insurance claims likewise have risen. The Chart shows initial claims and renewal claims allowed since the beginning of 2012. Throughout 2015 and 2016 there has been a steady rise in initial and renewal claims with monthly variations. In July 2016, over 56,000 claimants were renewed consistent with changes to federal policies recognizing all Alberta as high unemployment region. This meant the extension of benefits for an extra 20 weeks for long-tenured workers. In addition an extra five weeks in benefits were accorded to workers in the 15 regions of high unemployment for a maximum of 50 weeks. Although there is room for optimism that initial claims in the past few months have trended downwards, renewals have continued to increase suggesting that permanent, longer-term employment is elusive for many.
Provincial Fiscal Policy
Provincial fiscal policy is unlikely to change materially in 2017 although the upcoming budget will hopefully reveal whether the government is going to attack the deficit or ignore it. The provincial budget is critical for the housing market, particularly in Edmonton where a large part of the workforce is employed in the public sector (public service, provincial agencies, education and health sectors). Provincial policy has been oriented to stabilizing the economy through maintaining services and employment and through its capital spending program.
The Province has received several downgrades from rating agencies over the past 18 months. It is unclear whether the Finance Minister has been persuaded that producing a clear plan to eliminating the deficit is necessary to calm the fears of bond investors and rating agencies. If Budget 2017 turns to one of restraint, then the housing market in Edmonton will weaken, particularly for new housing starts.
Alberta has seen inter-provincial migration turn negative now for three-quarters. Yet Alberta’s youthful population keeps growing as births outpace deaths and international migration has remained positive. The gap has widened but it is still too early to say that the trend will continue, stabilize, or reverse. Adverse economic growth in Saskatchewan and weakness across the country give little incentive for Alberta workers to leave the province. Edmonton has seen strong intra-provincial migration as workers from Grande Prairie, Red Deer and Fort McMurray have moved to the capital in hopes they will find work.
Oil Price Forecast
The sentiment in the oil patch has been optimistic over the past several months as OPEC reached an agreement to reduce production. Industry commentators have cautioned that the past history of such accords suggests many oil producers have an incentive to cheat. Furthermore, U.S. shale producers can bring on production quickly and this potential to ramp up in the world’s largest domestic oil market has suppressed the optimism. In Alberta’s case, the boom carrying the economy over the past decade and a half has been the construction of large oil sands mining and in-situ operations. The maintenance of these operations has been a cushion to Alberta’s economy, but the real drivers of growth have been the new capital investment dollars going into the Fort McMurray area.
Many commentators, including, it seems, the Canadian Prime Minister, are of the view that oil sands production must be phased out. While the Prime Minister is undoubtedly correct, Alberta’s economy remains perilously dependent on the investment dollars to construct new facilities. Whether the phase out is by 2030 or 2060 really does not matter. The hay days of new mega oil sands investment are gone and gains to the provincial GDP from increased oil sands production will be modest, and will be offset by declines in conventional crude production (absent a new technological revolution in drilling).
The probability of falling real estate prices, given this economic backdrop, is a real and present danger. Any acceleration in declines in values will stem from the knock-on effects of a third year of stagnation harming the retail sector (restaurants and retail merchants) and thereby the commercial real estate sectors. This vulnerability and financial stress will flow into Alberta and national financial institutions. These institutions may decide they can no longer grant debtors’ loan forgiveness causing foreclosures and corporate bankruptcies to rise. During the 1980s it was not until 1984 and 1985 that real estate and financial institutions began to experience severe loan losses. 2017 promises to be another year of stress in the Alberta economy.