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Effect of interest rate hikes on Canadian economy will be ‘more powerful’ than people think, Poloz says

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Former Bank of Canada governor Stephen Poloz delivers a keynote address to a business conference in Ottawa, on Nov. 24.Adrian Wyld/The Canadian Press

The full effects of interest rate hikes have yet to be felt – and will be “even more powerful” than many anticipate, said former Bank of Canada governor Stephen Poloz Thursday in a speech about ways Canada can chart a path toward economic growth during uncertain times.

Speaking at a conference hosted by Western University’s Ivey Business School in Ottawa on Thursday, the former governor warned today’s economy is more sensitive to interest rates than it was 10 years ago.

“Does anybody here think the sensitivity of the economy to interest rate movements is less today than it was five or 10 years ago?” Poloz asked. “I think it’s more sensitive today than it was before.”

Poloz estimates annual inflation will fall to about four per cent on its own as external factors, such as higher commodity prices, ease. Statistics Canada’s most recent annual inflation rate sat at 6.9 per cent in October.

He said policy action will need to do the rest of the work to get inflation back down to the central bank’s two per cent target.

“I think that the actions that are being taken to get us there will turn out to be even more powerful than a lot of people think,” Poloz said, citing higher debt loads in the Canadian economy as a vulnerability.

The former governor is the chair of the Lawrence National Centre for Policy and Management, an independent think tank hosted at Ivey.

Poloz began his remarks by sharing his thoughts on the drivers of high inflation and where prices are headed. His speech also offered a set of recommendations on how Canada can improve long-term economic growth during volatile times.

He said the think tank will offer a summary of the recommendations to Finance Minister Chrystia Freeland next week.

Poloz finished his seven-year term as Bank of Canada governor a few months into the COVID-19 pandemic. Since then, the central bank has dramatically shifted gears from the extraordinary stimulus measures of 2020 to rapid monetary policy tightening.

The Bank of Canada began raising interest rates in March to clamp down on rising inflation. Since then, the central bank raised its key interest rate six consecutive times, embarking on one of the fastest monetary policy tightening cycles in its history.

Its key rate currently stands at 3.75 per cent and is expected to rise again next month.

The aggressive rate hikes are expected to slow the Canadian economy significantly. And though many economists are cautiously optimistic that the slowdown won’t be severe or long-lasting, labour groups in particular have been concerned about the consequences of a potential recession.

Is the Bank of Canada overshooting with its rate hikes? “It’s impossible to say,” Poloz said in an interview.

Economists estimate interest rate hikes take one to two years to take full effect in the economy. That lag makes it difficult to judge whether rate hikes are too much or too little, the former governor said.

Poloz said trying to slow inflation with interest rate hikes is like trying to stop a car with bad brakes.

“It takes a long time to actually slow down and so you stand on the brake really hard. Well, then you’re going to cause an accident too,” he said.

Though high inflation has persisted longer than the Bank of Canada’s initial projections, Poloz defended the use of the word “transitory” to describe inflation pressures, noting in his speech that international contributors to inflation such as supply chain delays are already dissipating.

“In other words, the part of inflation that is externally driven, really is transitory. It’s OK to use the word transitory,” he said.

However, the former central bank governor says it takes time for that development to be reflected in the annual inflation rate.

Bank of Canada governor Tiff Macklem notably called inflation “transitory” – meaning temporary – when it first started rising.

Since then, he’s backed away from that characterization and has emphasized that the domestic economy is overheated and inflation won’t return to target without action from the central bank.

While high inflation has come to the forefront of economic policy discussions, many economists are concerned about what Canada is – or isn’t – doing to promote long-term growth.

During his speech, Poloz made the case for government policies that promote stability and clarity for businesses. The less uncertainty there is about trade policy and projects, for example, the more businesses will invest in their operations and improve their productivity, he said.

“Clarity is the obvious antidote to uncertainty.”

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Here is Trump economy: Slower growth, higher prices and a bigger national debt

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If Donald Trump is re-elected president of the United States in November, Americans can expect higher inflation, slower economic growth and a larger national debt, according to economists.

Trump’s economic agenda for a second term in office includes raising tariffs on imports, cutting taxes and deporting millions of undocumented migrants.

“Inflation will be the main impact” of a second Trump presidency, Bernard Yaros, lead US economist at Oxford Economics, told Al Jazeera.

“That’s ultimately the biggest risk. If Trump is president, tariffs are going up for sure. The question is how high do they go and how widespread are they,” Yaros said.

Trump has proposed imposing a 10 percent across-the-board tariff on all imported goods and levies of 60 percent or higher on Chinese imports.

During Trump’s first term in office from 2017 to 2021, his administration introduced tariff increases that at their peak affected about 10 percent of imports, mostly goods from China, Moody’s Analytics said in a report released in June.

Those levies nonetheless inflicted “measurable economic damage”, particularly to the agriculture, manufacturing and transportation sectors, according to the report.

“A tariff increase covering nearly all goods imports, as Trump recently proposed, goes far beyond any previous action,” Moody’s Analytics said in its report.

Businesses typically pass higher tariffs on to their customers, raising prices for consumers. They could also affect businesses’ decisions about how and where to invest.

“There are three main tenets of Trump’s campaign, and they all point in the same inflationary direction,” Matt Colyar, assistant director at Moody’s Analytics, told Al Jazeera.

“We didn’t even think of including retaliatory tariffs in our modelling because who knows how widespread and what form the tit-for-tat model could involve,” Colyar added.

‘Recession becomes a serious threat’

When the US opened its borders after the COVID-19 pandemic, the inflow of immigrants helped to ease labour shortages in a range of industries such as construction, manufacturing, leisure and hospitality.

The recovery of the labour market in turn helped to bring down inflation from its mid-2022 peak of 9.1 percent.

Trump has not only proposed the mass deportation of 15 million to 20 million undocumented migrants but also restricting the inflow of visa-holding migrant workers too.

That, along with a wave of retiring Baby Boomers – an estimated 10,000 of whom are exiting the workforce every day – would put pressure on wages as it did during the pandemic, a trend that only recently started to ease.

“We can assume he will throw enough sand into the gears of the immigration process so you have meaningfully less immigration, which is inflationary,” Yaros said.

Since labour costs and inflation are two important measures that the US Federal Reserve weighs when setting its benchmark interest rate, the central bank could announce further rate hikes, or at least wait longer to cut rates.

That would make recession a “serious threat once again”, according to Moody’s.

Adding to those inflationary concerns are Trump’s proposals to extend his 2017 tax cuts and further lower the corporate tax rate from 21 percent to 20 percent.

While Trump’s proposed tariff hikes would offset some lost revenue, they would not make up the shortfall entirely.

According to Moody’s, the US government would generate $1.7 trillion in revenue from Trump’s tariffs while his tax cuts would cost $3.4 trillion.

Yaros said government spending is also likely to rise as Republicans seek bigger defence budgets and Democrats push for greater social expenditures, further stoking inflation.

If President Joe Biden is re-elected, economists expect no philosophical change in his approach to import taxes. They think he will continue to use targeted tariff increases, much like the recently announced 100 percent tariffs on Chinese electric vehicles and solar panels, to help US companies compete with government-supported Chinese firms.

With Trump’s tax cuts set to expire in 2025, a second Biden term would see some of those cuts extended, but not all, Colyar said. Primarily, the tax cuts to higher earners like those making more than $400,000 a year would expire.

Although Biden has said he would hike corporate taxes from 21 percent to 28 percent, given the divided Congress, it is unlikely he would be able to push that through.

The contrasting economic visions of the two presidential candidates have created unwelcome uncertainty for businesses, Colyar said.

“Firms and investors are having a hard time staying on top of [their plans] given the two different ways the US elections could go,” Colyar said.

“In my entire tenure, geopolitical risk has never been such an important consideration as it is today,” he added.

 

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China Stainless Steel Mogul Fights to Avoid a Second Collapse

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Chinese metal tycoon Dai Guofang’s first steel empire was brought down by a government campaign to rein in market exuberance, tax evasion accusations and a spell behind bars. Two decades on, he’s once again fighting for survival.

A one-time scrap-metal collector, he built and rebuilt a fortune as China boomed. Now with the economy cooling, Dai faces a debt crisis that threatens the future of one of the world’s top stainless steel producers, Jiangsu Delong Nickel Industry Co., along with plants held by his wife and son. Its demise would send ripples through the country’s vast manufacturing sector and the embattled global nickel market.

 

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Why Trump’s re-election could hit Europe’s economy by at least €150 billion

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A Trump victory could trigger a 1% GDP hit to the eurozone economy, with Germany, Italy, and Finland most affected. Renewed NATO demands and potential cessation of US aid to Ukraine could further strain Europe.

The potential re-election of Donald Trump as US President poses a significant threat to the eurozone economy, with economists warning of a possible €150 billion hit, equivalent to about 1% of the region’s gross domestic product. This impact stems from anticipated negative trade repercussions and increased defence expenditures.

The recent attack in Butler, Pennsylvania, where former President Trump sustained an ear injury, has boosted his re-election odds. Prediction markets now place Trump’s chances of winning at 71%, a significant rise from earlier figures, while his opponent, Joe Biden, has experienced a sharp decline, with his chances dropping to 18% from a peak of 45% just two months ago.

Rising trade uncertainty and economic impact from tariffs

Economists James Moberly and Sven Jari Stehn from Goldman Sachs have raised alarms over the looming uncertainty in global trade policies, drawing parallels to the volatility experienced in 2018 and 2019. They argue that Trump’s aggressive trade stance could reignite these uncertainties.

“Trump has pledged to impose an across-the-board 10% tariff on all US imports including from Europe,” Goldman Sachs outlined in a recent note.

The economists predict that the surge in trade policy uncertainty, which previously reduced Euro area industrial production by 2% in 2018-19, could now result in a 1% decline in Euro area gross domestic product.

Germany to bear the brunt, followed by Italy

Germany, Europe’s industrial powerhouse, is expected to bear the brunt of this impact.

“We estimate that the negative effects of trade policy uncertainty are larger in Germany than elsewhere in the Euro area, reflecting its greater openness and reliance on industrial activity,” Goldman Sachs explained.

The report highlighted that Germany’s industrial sector is more vulnerable to trade disruptions compared to other major Eurozone economies such as France.

After Germany, Italy and Finland are projected to be the second and third most affected countries respectively, due to the relatively higher weight of manufacturing activity in their economies.

According to a Eurostat study published in February 2024, Germany (€157.7 billion), Italy (€67.3 billion), and Ireland (€51.6 billion) were the three largest European Union exporters to the United States in 2023.

Germany also maintained the largest trade surplus (€85.8 billion), followed by Italy (€42.1 billion).

Defence, security pressures and financial condition shifts

A Trump victory would also be likely to bring renewed defence and security pressures to Europe. Trump has consistently pushed for NATO members to meet their 2% GDP defence spending commitments. Currently, EU members spend about 1.75% of GDP on defence, necessitating an increase of 0.25% to meet the target.

Moreover, Trump has indicated that he might cease US military aid to Ukraine, compelling European nations to step in. The US currently allocates approximately €40bn annually (or 0.25% of EU GDP) for Ukrainian support. Consequently, meeting NATO’s 2% GDP defence spending requirement and offsetting the potential reduction in US military aid could cost the EU an additional 0.5% of GDP per year.

Additional economic shocks from Trump’s potential re-election include heightened US foreign demand due to tax cuts and the risk of tighter financial conditions driven by a stronger dollar.

However, Goldman Sachs believes that the benefits from a looser US fiscal policy would be marginal for the European economy, with by a mere 0.1% boost in economic activity.

“A Trump victory in the November election would likely come with significant financial market shifts,” Goldman Sachs wrote.

Reflecting on the aftermath of the 2016 election, long-term yields surged, equity prices soared, and the dollar appreciated significantly. Despite these movements, the Euro area Financial Conditions Index (FCI) only experienced a slight tightening, as a weaker euro counterbalanced higher interest rates and wider sovereign spreads.

In conclusion, Trump’s potential re-election could have far-reaching economic implications for Europe, exacerbating trade uncertainties and imposing new financial and defence burdens on the continent.

 

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