Management Discussion & Analysis
This section of the annual report providing management’s discussion and analysis (MD&A) of the consolidated results of Credit Union Central of Manitoba (CUCM) should be read in conjunction with the audited consolidated financial statements and notes as at and for the year ended December 31, 2019. The consolidated financial statements are reported in Canadian dollars and have been prepared in accordance with International Financial Reporting Standards (IFRS).
This MD&A is dated February 3, 2020 and provides comments regarding CUCM’s core strategies, financial operating results, risk management and business outlook.
This MD&A is dated February 3, 2020 and provides comments regarding CUCM’s core strategies, financial operating results, risk management and business outlook.
Caution Regarding Forward-looking Statements
This report includes forward-looking statements. By their very nature, forward-looking statements require that management make assumptions involving a number of factors, many of which are beyond management’s control and which may cause actual results to differ from the expectations expressed in the forward-looking statements. These factors include, but are not limited to: changes in general economic conditions; interest rates, currency exchange rates and liquidity conditions; the effects of economic conditions on the Manitoba credit union system; legislative or regulatory developments; changes in accounting standards or policies; and CUCM’s success in anticipating and managing the risks inherent in these factors. Readers are cautioned that the foregoing list is not exhaustive. CUCM does not undertake to update any forward-looking statements contained in this annual report. Readers should not place undue reliance on forward-looking statements, as actual results may differ materially from expectations.
This report includes forward-looking statements. By their very nature, forward-looking statements require that management make assumptions involving a number of factors, many of which are beyond management’s control and which may cause actual results to differ from the expectations expressed in the forward-looking statements. These factors include, but are not limited to: changes in general economic conditions; interest rates, currency exchange rates and liquidity conditions; the effects of economic conditions on the Manitoba credit union system; legislative or regulatory developments; changes in accounting standards or policies; and CUCM’s success in anticipating and managing the risks inherent in these factors. Readers are cautioned that the foregoing list is not exhaustive. CUCM does not undertake to update any forward-looking statements contained in this annual report. Readers should not place undue reliance on forward-looking statements, as actual results may differ materially from expectations.
Manitoba Credit Union System
Deposits in the Manitoba credit union system (the “System”), which excludes associate members of CUCM, grew by 8.8 per cent, up from 5.5 per cent in 2018. Deposit growth is the primary funding source for System asset growth. System assets grew 8.6 per cent in 2019, up from 5.8 per cent in 2018. System loans grew by 3.7 per cent in 2019, down from 6.8 per cent in 2018. As a percentage of total credit union members’ deposits, System deposits held at CUCM ended the year at 15.4 per cent (2018: 11.3 per cent). Member deposits at CUCM grew 44.9 per cent in 2019 and, excluding the impact of mark-to-market valuations, ended the year $1,489 million higher than 2018. Year-over-year, excluding the impact of mark-to-market valuations, short-term member deposits (original term less than 13 months) increased by $1,493 million, while longer term member deposits fell by $4 million.
Credit unions continue to keep virtually all of their liquidity deposits in short terms. At year-end, 99.3 per cent of deposits matured within 13 months, up from 98.3 per cent at year-end 2018. Many members of Manitoba credit unions have locked in their borrowing costs (e.g., mortgages) at today’s low rates. The shorter terms for liquidity deposits help credit unions manage their interest rate risk, as does booking interest rate swaps. Additionally, after including the financial margin distributions, short-term deposits provide credit unions with a higher return than what they could earn on long-term deposits (see Returns on Members’ Deposits, below), so there is little incentive for credit unions to extend term on their deposits.
A recent survey of credit unions indicates they expect little change in the level and composition of their liquidity deposits over the coming year.
Deposits in the Manitoba credit union system (the “System”), which excludes associate members of CUCM, grew by 8.8 per cent, up from 5.5 per cent in 2018. Deposit growth is the primary funding source for System asset growth. System assets grew 8.6 per cent in 2019, up from 5.8 per cent in 2018. System loans grew by 3.7 per cent in 2019, down from 6.8 per cent in 2018. As a percentage of total credit union members’ deposits, System deposits held at CUCM ended the year at 15.4 per cent (2018: 11.3 per cent). Member deposits at CUCM grew 44.9 per cent in 2019 and, excluding the impact of mark-to-market valuations, ended the year $1,489 million higher than 2018. Year-over-year, excluding the impact of mark-to-market valuations, short-term member deposits (original term less than 13 months) increased by $1,493 million, while longer term member deposits fell by $4 million.
Credit unions continue to keep virtually all of their liquidity deposits in short terms. At year-end, 99.3 per cent of deposits matured within 13 months, up from 98.3 per cent at year-end 2018. Many members of Manitoba credit unions have locked in their borrowing costs (e.g., mortgages) at today’s low rates. The shorter terms for liquidity deposits help credit unions manage their interest rate risk, as does booking interest rate swaps. Additionally, after including the financial margin distributions, short-term deposits provide credit unions with a higher return than what they could earn on long-term deposits (see Returns on Members’ Deposits, below), so there is little incentive for credit unions to extend term on their deposits.
A recent survey of credit unions indicates they expect little change in the level and composition of their liquidity deposits over the coming year.
CUCM Profile
On behalf of its members and associate members, CUCM manages liquidity reserves, facilitates clearing and settlement transactions through the Bank of Canada, monitors credit-granting procedures, and provides trade services in areas such as corporate governance, government relations, representation and advocacy.
CUCM also provides banking, treasury, human resources, research, communications, marketing, planning, lending, procurement, product/service research and development, and business consulting services to its members.
Costs for providing these services are passed on to the users of the services, mainly in the form of assessments and fees-for-service.
On behalf of its members and associate members, CUCM manages liquidity reserves, facilitates clearing and settlement transactions through the Bank of Canada, monitors credit-granting procedures, and provides trade services in areas such as corporate governance, government relations, representation and advocacy.
CUCM also provides banking, treasury, human resources, research, communications, marketing, planning, lending, procurement, product/service research and development, and business consulting services to its members.
Costs for providing these services are passed on to the users of the services, mainly in the form of assessments and fees-for-service.
CUCM Year in Review
The messages from the Chairman of the Board and the President & CEO, as well as other items earlier in this annual report, contain highlights and major developments, internal and external, that affected CUCM in 2019.
The messages from the Chairman of the Board and the President & CEO, as well as other items earlier in this annual report, contain highlights and major developments, internal and external, that affected CUCM in 2019.
Operating Results
Returns on Members' Deposits
CUCM’s weighted average cost of funds rose to 1.883 per cent from 1.642 per cent in 2018.
The average cost of funds paid on short-term liquidity balances (Canadian and U.S. balances, combined) was 178.16 bps on current accounts and 190.53 bps on short-term deposit balances, for a combined average cost of 188.34 bps. Financial margin distributions equated to an additional 100.79 bps on short-term deposits (both current accounts and short-term deposits) in the year, resulting in a total average payment of 289.13 bps.
The average cost of funds paid on longer-term deposits was 188.42 bps. An additional distribution of financial margin of 3.02 bps was paid on these deposits (reflecting the additional income earned from the bond investments matched to these deposits), for a total average payment of 191.42 bps on longer-term deposits.
Finally, the incremental income earned on lending to members is distributed in proportion to excess liquidity deposits. In 2019, the high levels of liquidity deposits meant this component of financial margin earned was immaterial.
The average cost of funds paid on short-term liquidity balances (Canadian and U.S. balances, combined) was 178.16 bps on current accounts and 190.53 bps on short-term deposit balances, for a combined average cost of 188.34 bps. Financial margin distributions equated to an additional 100.79 bps on short-term deposits (both current accounts and short-term deposits) in the year, resulting in a total average payment of 289.13 bps.
The average cost of funds paid on longer-term deposits was 188.42 bps. An additional distribution of financial margin of 3.02 bps was paid on these deposits (reflecting the additional income earned from the bond investments matched to these deposits), for a total average payment of 191.42 bps on longer-term deposits.
Finally, the incremental income earned on lending to members is distributed in proportion to excess liquidity deposits. In 2019, the high levels of liquidity deposits meant this component of financial margin earned was immaterial.
Financial Margin
Credit union liquidity deposits and share capital are managed as separate portfolios. Investment earnings are distributed in the form of financial margin distributions and dividends, respectively.
Liquidity deposits at CUCM grew at an unprecedented pace in 2019 with the timing of that growth defying seasonal patterns. The liquidity pool ended the year up $1,574 million or 41%.
CUCM’s asset swap portfolio continues to be the primary source of financial margin earnings. Asset swaps are comprised of longer-term debt instruments and interest rate swap agreements which, when combined, generate a rate of return that resets monthly or quarterly. Because the reset frequency mimics credit unions’ preference for terms maturing within three months, CUCM takes on virtually no interest rate risk. Yields earned on this portfolio far exceed those on alternative short-term investments and enhance the returns paid on credit union short-term deposits.
Asset swap maturities were relatively heavy in 2019 ($723 million). Most of the maturities occurred in the fourth quarter when market spreads had tightened. Fortunately, CUCM had begun reinvesting these asset swaps (as well as the liquidity growth) earlier in the year to take advantage of wider spreads, limiting the potential impact on returns. Financial margin returns averaged 100.80 bps in the year (2018 — 92.55 bps). After peaking in July at 106.13 bps, monthly margin returns declined to 95.85 bps in December. This declining trend is expected to continue into 2020. Under current market conditions, further liquidity growth will exacerbate that decline.
In 2020, $786 million of asset swaps are scheduled to mature, most of which will again occur in the fourth quarter. This will provide an ample supply of cash should liquidity decline. With the potential impact to global growth from uncertainty around the coronavirus and the upcoming U.S. election, we could possibly see market volatility and better asset swap opportunities in the coming months.
The longer-term nature of the assets underlying asset swaps generates some liquidity risk; CUCM monitors and manages this closely as part of its mandate to steward the System’s liquidity.
Financial Margin earned on investments funded by share capital are paid in full to credit unions via dividends. CUCM’s 2020 budget assumes the Bank of Canada would cut rates in late 2019 by 25 bps and then stabilize at that level in 2020, resulting in slightly lower returns on this portfolio than earned in 2019. At the time of writing, the Bank has not cut rates, which has had a favorable impact relative to budget.
Liquidity deposits at CUCM grew at an unprecedented pace in 2019 with the timing of that growth defying seasonal patterns. The liquidity pool ended the year up $1,574 million or 41%.
CUCM’s asset swap portfolio continues to be the primary source of financial margin earnings. Asset swaps are comprised of longer-term debt instruments and interest rate swap agreements which, when combined, generate a rate of return that resets monthly or quarterly. Because the reset frequency mimics credit unions’ preference for terms maturing within three months, CUCM takes on virtually no interest rate risk. Yields earned on this portfolio far exceed those on alternative short-term investments and enhance the returns paid on credit union short-term deposits.
Asset swap maturities were relatively heavy in 2019 ($723 million). Most of the maturities occurred in the fourth quarter when market spreads had tightened. Fortunately, CUCM had begun reinvesting these asset swaps (as well as the liquidity growth) earlier in the year to take advantage of wider spreads, limiting the potential impact on returns. Financial margin returns averaged 100.80 bps in the year (2018 — 92.55 bps). After peaking in July at 106.13 bps, monthly margin returns declined to 95.85 bps in December. This declining trend is expected to continue into 2020. Under current market conditions, further liquidity growth will exacerbate that decline.
In 2020, $786 million of asset swaps are scheduled to mature, most of which will again occur in the fourth quarter. This will provide an ample supply of cash should liquidity decline. With the potential impact to global growth from uncertainty around the coronavirus and the upcoming U.S. election, we could possibly see market volatility and better asset swap opportunities in the coming months.
The longer-term nature of the assets underlying asset swaps generates some liquidity risk; CUCM monitors and manages this closely as part of its mandate to steward the System’s liquidity.
Financial Margin earned on investments funded by share capital are paid in full to credit unions via dividends. CUCM’s 2020 budget assumes the Bank of Canada would cut rates in late 2019 by 25 bps and then stabilize at that level in 2020, resulting in slightly lower returns on this portfolio than earned in 2019. At the time of writing, the Bank has not cut rates, which has had a favorable impact relative to budget.
Assessments
CUCM’s operations are primarily financed through recoveries, from members, of the costs incurred to provide services to members. These recoveries mainly take the form of assessments to members (basic and liquidity management) and fee income charged for services to members. In 2019, members’ assessments totalled $9,876 (2018 — $9,622).
Regulatory Capital
Capital levels (share capital and retained earnings at CUCM) are regulated by the Financial Institutions Regulation Branch (FIRB) of Manitoba Finance. FIRB requires that CUCM maintain a minimum capital level equal to 5% of CUCM’s assets. In addition to the regulations, policies regarding capital levels have been established by CUCM’s board of directors. The board’s policy for setting the level of retained earnings is guided by CUCM’s operating principle that the system’s equity belongs with credit unions, so earnings retained by CUCM are minimized.
Balanced scorecard
The Balanced Scorecard (BSC) is a management system, as well as a measurement system, that enables CUCM to clarify vision and strategy and translate them into action. It aligns to CUCM’s goals and provides feedback on internal business processes and external outcomes, with the goal of helping CUCM continuously improve strategic results.
The BSC establishes measures of organizational success across four balanced perspectives: financial, customer focus, process, and organizational capacity. In 2019, the overall BSC result was 92.32 points out of a possible of 100.
The Balanced Scorecard (BSC) is a management system, as well as a measurement system, that enables CUCM to clarify vision and strategy and translate them into action. It aligns to CUCM’s goals and provides feedback on internal business processes and external outcomes, with the goal of helping CUCM continuously improve strategic results.
The BSC establishes measures of organizational success across four balanced perspectives: financial, customer focus, process, and organizational capacity. In 2019, the overall BSC result was 92.32 points out of a possible of 100.
Economic Outlook
The trade war between the U.S. and China that started in 2018 continued and became even worse in 2019. The U.S. has imposed tariffs on more than $360 billion worth of Chinese goods, and China has retaliated with tariffs on more than $110 billion of U.S. products.
Washington delivered three rounds of tariffs in 2018, and a fourth one in September 2019. The impact of the trade war was negative globally, not just to the U.S. and China. It also reduced real global growth of Gross Domestic Product (GDP). In its latest economic outlook, dated November 2019, the Organisation for Economic Co-operation and Development said that world GDP growth for 2019 is expected to fall to 2.9 per cent — “its lowest annual rate since the financial crisis” — and is expected to hover around that level through 2020 and 2021. In 2017, right before the beginning of the trade war, global GDP growth was slightly above 3.7 per cent. Most countries had to adjust their economic forecasts for 2019 and 2020.
The World Economic Outlook prepared by the International Monetary Fund (IMF) in January 2020 shows the same growth rate for 2019 and indicates that world trade volume, which in past years has grown by more than 3.5 per cent, increased by only 1.0 per cent in 2019. The IMF is somewhat optimistic about 2020 and 2021 as their report includes some optimistic expectations from trade negotiations between the U.S. and China. Growth expectations for 2020 and 2021 are 3.3 and 3.4 per cent, respectively. However, growth in advanced economies was only 1.7 per cent in 2019 and is expected to be even lower in 2020 and 2021 (1.6 per cent in both years). China is still expected to be a growth leader, with growth of 6.0 per cent in 2020, regardless of the impact of trade wars. However, the forecast may be adjusted downward due to the spread of the coronavirus across China and measures taken by the Chinese government to stop or slow its spread. Most of the other growth will come from India and the Association of Southeast Asian Nations (ASEAN) countries, continuing the trend seen in the last few years.
Japan, the European Union (EU), and the United Kingdom (UK) are expected to have low growth, between 0.7 and 1.3 per cent. In the case of the UK, growth may be even slower than currently forecasted if the government exits the EU without a formal agreement.
In this challenging economic environment, growth forecasts for the U.S. economy of close to 2.0 per cent looks fairly promising. The White House hopes that the signing of the first phase of the trade agreement with China, which defines Chinese obligations to import $200 billion of American products over the next two years, will spur growth. However, forecasters are not too optimistic about the first phase of the agreement as many things remain undefined, and even if China agrees to import all these goods, it is not clear what will be imported. The U.S. will try to limit trade of advanced technologies and look to offer more agricultural products. This may cause problems for Canada and the EU, as it could limit their exports to China. In addition, there is an expectation that the administration may use the “good news” from negotiations with China to open a new trade war with Europe. President Trump needs some high profile successes in the international arena to compensate for any effect that the impeachment process may have done to his re-election campaign. The domestic political environment in the U.S. may bring more divisions between the White House and Congress, which may lead to some risks for economic growth. Federal Reserve officials are also cautious in their expectations and, on October 31, 2019, reduced the interest rate from 2.0 per cent to 1.75 per cent. All statements after the last rate reduction hint that rate changes will not happen until late in 2020.
With a low level of fiscal support and ongoing trade wars (trade tariffs introduced in 2018 and 2019 stay in place in 2020), American manufacturing is not expected to have a very strong year. One of the big risks for this segment of the economy is the situation with Boeing and its manufacturing problems that have had a significant impact on a wide array of U.S.-based suppliers. Domestic consumer consumption is expected to be a significant contributor to growth, as it has been many times in the past, and the housing market seems to be in better shape than in the last two years.
In the spring of 2019, forecasts for growth of the Canadian economy were modest, at 1.9 per cent. According to current estimates, the Canadian economy actually grew by 1.5 to 1.6 per cent in 2019. Canada’s dependence on trade with the U.S., the impact of trade wars, the drop in international trade, and the deterioration of Canada’s relationship with China all factored into the lower growth. The aforementioned deterioration of Canada’s relationship with China led to a reduction in Canadian agricultural exports to China (canola, livestock). In addition to the factors listed, business investment has also been lower than expected due to uncertainty, first with the U.S.-Mexico-Canada Agreement (USMCA), then with other trade issues.
There is, however, encouraging news regarding trade with China. With the opening of borders to some Canadian agricultural products, Canadian producers are hoping that diplomacy will improve this relationship further. Very soon, the government will also ratify the final version of the USMCA, which should further reduce uncertainty around Canadian exports. Growth in other Asian countries may lead to more agricultural exports as well.
Looking at specific factors, exports grew by 1.9 per cent, government spending grew 1.8 per cent, and consumer spending grew 1.6 per cent. Business investment was almost the same as in 2018 and residential investment was 0.7 per cent lower than in 2018 (which, while low, was a better result than the decline of 1.5 per cent in 2018). The major driver for the negative results in residential investment is the lack of growth in major housing markets
(Vancouver, Toronto, and Calgary). Additional factors that had a negative impact on Canadian GDP toward the end of 2019 were labor disputes and strikes
at GM and CN.
As growth during the year did not meet expectations, the Bank of Canada did not change its policy interest rate from 1.75 per cent and, in the current economic climate, it is very unlikely to increase the rate in 2020. However, some economists from the major Canadian banks expect that the Bank of Canada may reduce the interest rate by 0.5 per cent in the first half of 2020.
The Bank of Canada is very cautious about its forecast for 2020. While the IMF expects to see growth in Canada of 1.8 per cent, the Bank forecasts growth at 1.6 per cent based on the expectation that consumer spending will continue to be sluggish and that uncertainty around future moves from the U.S. government might lead to a further reduction in world trade and some segments of the U.S. economy. There is also an expectation that the federal government will try to get the budget deficit under control by limiting spending, and that provincial governments will also limit their spending.
A major concern for the Canadian economy continues to be consumer debt, even if most of it is in residential mortgages and connected to tangible assets. However, stable (or declining) interest rates may bring a relative reduction in interest payments and growth in salaries will increase disposable
income and drive growth in consumer spending.
In Manitoba, the economy followed a similar pattern to the national economy. A year ago, expectations were that Manitoba would record modest growth, but still reach 1.8 to 1.9 per cent, the same as the national economy. Unfortunately, even this modest expectation was not met and the economy grew by just 1.5 to 1.6 per cent. The drivers for low growth were almost the same as those cited for the national economy — trade wars, problems with
exports to China, and uncertainty about the future of world trade. The CN strike had a negative impact on Manitoba, but not as significant as the shutdown of Boeing production in 2019; Manitoba is an important supplier in Boeing’s supply chain.
Demographic changes and increased immigration have been positive factors for the provincial economy in previous years. Unfortunately, in 2019, Manitobans moving to other provinces offset the number of immigrants coming to Manitoba. The result was a shrinking work force (down by 0.9 per cent) and low growth in employment. In 2019, employment increased by 1.2 per cent: although better than previous years (the average growth from 2000 to 2018 was just 1.0 per cent), this trend is expected to worsen in 2020 and 2021, with employment expected to grow by just 0.6 per cent in both years. Low employment growth will be offset by population migration to other provinces. Manitoba is expected to have the second lowest unemployment rate in 2020 and 2021, after B.C. Based on this, the Canadian Federation of Independent Businesses expects that the major factor limiting business growth in Manitoba will still be the shortage of skilled workers.
Some encouraging developments in the Manitoba economy include the ongoing construction of two major processing plants in Portage la Prairie,
although construction is expected to wrap up in 2020, and some short-term recovery in the mining sector, with an extended lifespan for the Hudbay mine in Flin Flon. And in aerospace, Magellan Aerospace and Exchange Income Corporation (EIC) both signed significant contracts. Magellan signing a contract with the Royal Canadian Air Force and EIC signing a maintenance contract with the federal government. However, the sector will not experience significant recovery until Boeing restarts production. Bus manufacturers also expect more orders in 2020 but, as is typical, much depends upon the situation in the U.S.
Residential construction is expected to slow with lower population growth. Government spending will not contribute much to growth in 2020 either, as it remains focused on deficit reduction.
With mixed news from different segments of the economy, Manitoba can expect similar growth in the next two years as the level of growth experienced in 2019.
As mentioned, the probability of interest rate changes in the U.S. is very low in 2020. However, one factor that cannot be ignored is the pressure from the White House to reduce rates. This could increase later in the year if President Trump is trailing in the polls and he reasons that a weaker U.S. dollar would enhance exports and economic activity.
If the rates of the Canadian and U.S. central banks stay unchanged, the Canada/U.S. dollar exchange rate would remain in the $0.75 to $0.77 range for most of the year. However, if Canadian rates go down and American rates stay the same — and all other conditions stay the same — we may see a weaker Canadian dollar and potential export benefits for the manufacturing and agriculture sectors.
The major risk factors for the forecasted information above are escalation of global trade issues, further geopolitical tensions including further rise in populist politics and the resulting nationalism and protectionism actions, and more climate events like Australia’s wildfires.
The trade war between the U.S. and China that started in 2018 continued and became even worse in 2019. The U.S. has imposed tariffs on more than $360 billion worth of Chinese goods, and China has retaliated with tariffs on more than $110 billion of U.S. products.
Washington delivered three rounds of tariffs in 2018, and a fourth one in September 2019. The impact of the trade war was negative globally, not just to the U.S. and China. It also reduced real global growth of Gross Domestic Product (GDP). In its latest economic outlook, dated November 2019, the Organisation for Economic Co-operation and Development said that world GDP growth for 2019 is expected to fall to 2.9 per cent — “its lowest annual rate since the financial crisis” — and is expected to hover around that level through 2020 and 2021. In 2017, right before the beginning of the trade war, global GDP growth was slightly above 3.7 per cent. Most countries had to adjust their economic forecasts for 2019 and 2020.
The World Economic Outlook prepared by the International Monetary Fund (IMF) in January 2020 shows the same growth rate for 2019 and indicates that world trade volume, which in past years has grown by more than 3.5 per cent, increased by only 1.0 per cent in 2019. The IMF is somewhat optimistic about 2020 and 2021 as their report includes some optimistic expectations from trade negotiations between the U.S. and China. Growth expectations for 2020 and 2021 are 3.3 and 3.4 per cent, respectively. However, growth in advanced economies was only 1.7 per cent in 2019 and is expected to be even lower in 2020 and 2021 (1.6 per cent in both years). China is still expected to be a growth leader, with growth of 6.0 per cent in 2020, regardless of the impact of trade wars. However, the forecast may be adjusted downward due to the spread of the coronavirus across China and measures taken by the Chinese government to stop or slow its spread. Most of the other growth will come from India and the Association of Southeast Asian Nations (ASEAN) countries, continuing the trend seen in the last few years.
Japan, the European Union (EU), and the United Kingdom (UK) are expected to have low growth, between 0.7 and 1.3 per cent. In the case of the UK, growth may be even slower than currently forecasted if the government exits the EU without a formal agreement.
In this challenging economic environment, growth forecasts for the U.S. economy of close to 2.0 per cent looks fairly promising. The White House hopes that the signing of the first phase of the trade agreement with China, which defines Chinese obligations to import $200 billion of American products over the next two years, will spur growth. However, forecasters are not too optimistic about the first phase of the agreement as many things remain undefined, and even if China agrees to import all these goods, it is not clear what will be imported. The U.S. will try to limit trade of advanced technologies and look to offer more agricultural products. This may cause problems for Canada and the EU, as it could limit their exports to China. In addition, there is an expectation that the administration may use the “good news” from negotiations with China to open a new trade war with Europe. President Trump needs some high profile successes in the international arena to compensate for any effect that the impeachment process may have done to his re-election campaign. The domestic political environment in the U.S. may bring more divisions between the White House and Congress, which may lead to some risks for economic growth. Federal Reserve officials are also cautious in their expectations and, on October 31, 2019, reduced the interest rate from 2.0 per cent to 1.75 per cent. All statements after the last rate reduction hint that rate changes will not happen until late in 2020.
With a low level of fiscal support and ongoing trade wars (trade tariffs introduced in 2018 and 2019 stay in place in 2020), American manufacturing is not expected to have a very strong year. One of the big risks for this segment of the economy is the situation with Boeing and its manufacturing problems that have had a significant impact on a wide array of U.S.-based suppliers. Domestic consumer consumption is expected to be a significant contributor to growth, as it has been many times in the past, and the housing market seems to be in better shape than in the last two years.
In the spring of 2019, forecasts for growth of the Canadian economy were modest, at 1.9 per cent. According to current estimates, the Canadian economy actually grew by 1.5 to 1.6 per cent in 2019. Canada’s dependence on trade with the U.S., the impact of trade wars, the drop in international trade, and the deterioration of Canada’s relationship with China all factored into the lower growth. The aforementioned deterioration of Canada’s relationship with China led to a reduction in Canadian agricultural exports to China (canola, livestock). In addition to the factors listed, business investment has also been lower than expected due to uncertainty, first with the U.S.-Mexico-Canada Agreement (USMCA), then with other trade issues.
There is, however, encouraging news regarding trade with China. With the opening of borders to some Canadian agricultural products, Canadian producers are hoping that diplomacy will improve this relationship further. Very soon, the government will also ratify the final version of the USMCA, which should further reduce uncertainty around Canadian exports. Growth in other Asian countries may lead to more agricultural exports as well.
Looking at specific factors, exports grew by 1.9 per cent, government spending grew 1.8 per cent, and consumer spending grew 1.6 per cent. Business investment was almost the same as in 2018 and residential investment was 0.7 per cent lower than in 2018 (which, while low, was a better result than the decline of 1.5 per cent in 2018). The major driver for the negative results in residential investment is the lack of growth in major housing markets
(Vancouver, Toronto, and Calgary). Additional factors that had a negative impact on Canadian GDP toward the end of 2019 were labor disputes and strikes
at GM and CN.
As growth during the year did not meet expectations, the Bank of Canada did not change its policy interest rate from 1.75 per cent and, in the current economic climate, it is very unlikely to increase the rate in 2020. However, some economists from the major Canadian banks expect that the Bank of Canada may reduce the interest rate by 0.5 per cent in the first half of 2020.
The Bank of Canada is very cautious about its forecast for 2020. While the IMF expects to see growth in Canada of 1.8 per cent, the Bank forecasts growth at 1.6 per cent based on the expectation that consumer spending will continue to be sluggish and that uncertainty around future moves from the U.S. government might lead to a further reduction in world trade and some segments of the U.S. economy. There is also an expectation that the federal government will try to get the budget deficit under control by limiting spending, and that provincial governments will also limit their spending.
A major concern for the Canadian economy continues to be consumer debt, even if most of it is in residential mortgages and connected to tangible assets. However, stable (or declining) interest rates may bring a relative reduction in interest payments and growth in salaries will increase disposable
income and drive growth in consumer spending.
In Manitoba, the economy followed a similar pattern to the national economy. A year ago, expectations were that Manitoba would record modest growth, but still reach 1.8 to 1.9 per cent, the same as the national economy. Unfortunately, even this modest expectation was not met and the economy grew by just 1.5 to 1.6 per cent. The drivers for low growth were almost the same as those cited for the national economy — trade wars, problems with
exports to China, and uncertainty about the future of world trade. The CN strike had a negative impact on Manitoba, but not as significant as the shutdown of Boeing production in 2019; Manitoba is an important supplier in Boeing’s supply chain.
Demographic changes and increased immigration have been positive factors for the provincial economy in previous years. Unfortunately, in 2019, Manitobans moving to other provinces offset the number of immigrants coming to Manitoba. The result was a shrinking work force (down by 0.9 per cent) and low growth in employment. In 2019, employment increased by 1.2 per cent: although better than previous years (the average growth from 2000 to 2018 was just 1.0 per cent), this trend is expected to worsen in 2020 and 2021, with employment expected to grow by just 0.6 per cent in both years. Low employment growth will be offset by population migration to other provinces. Manitoba is expected to have the second lowest unemployment rate in 2020 and 2021, after B.C. Based on this, the Canadian Federation of Independent Businesses expects that the major factor limiting business growth in Manitoba will still be the shortage of skilled workers.
Some encouraging developments in the Manitoba economy include the ongoing construction of two major processing plants in Portage la Prairie,
although construction is expected to wrap up in 2020, and some short-term recovery in the mining sector, with an extended lifespan for the Hudbay mine in Flin Flon. And in aerospace, Magellan Aerospace and Exchange Income Corporation (EIC) both signed significant contracts. Magellan signing a contract with the Royal Canadian Air Force and EIC signing a maintenance contract with the federal government. However, the sector will not experience significant recovery until Boeing restarts production. Bus manufacturers also expect more orders in 2020 but, as is typical, much depends upon the situation in the U.S.
Residential construction is expected to slow with lower population growth. Government spending will not contribute much to growth in 2020 either, as it remains focused on deficit reduction.
With mixed news from different segments of the economy, Manitoba can expect similar growth in the next two years as the level of growth experienced in 2019.
As mentioned, the probability of interest rate changes in the U.S. is very low in 2020. However, one factor that cannot be ignored is the pressure from the White House to reduce rates. This could increase later in the year if President Trump is trailing in the polls and he reasons that a weaker U.S. dollar would enhance exports and economic activity.
If the rates of the Canadian and U.S. central banks stay unchanged, the Canada/U.S. dollar exchange rate would remain in the $0.75 to $0.77 range for most of the year. However, if Canadian rates go down and American rates stay the same — and all other conditions stay the same — we may see a weaker Canadian dollar and potential export benefits for the manufacturing and agriculture sectors.
The major risk factors for the forecasted information above are escalation of global trade issues, further geopolitical tensions including further rise in populist politics and the resulting nationalism and protectionism actions, and more climate events like Australia’s wildfires.