The year 2022 will be remembered as the “Great Reinflation.” Most advanced countries including Canada recorded their worst consumer inflation outbreak since the “Great Inflation” of the mid-1960s to early 1980s, indicating significant excess demand in the economy for goods, services and labour. Steep interest rate hikes by central banks, precipitating a global recession in 2023, are intended to bring inflation to heel. How did we get here?
As GDP growth and inflation strengthened in 2021, policymakers in many countries dismissed above-target inflation as “transitory” and due to supply chain pressures that would soon abate. Emergency levels of fiscal and monetary policy stimuli, which were apt in 2020 but not 2021, were sustained until well into 2022. It was a costly mistake. The inflationary impact of Russia’s February 2022 invasion of Ukraine compounded the error.
World GDP growth for 2023 is expected to be the weakest since 1982 (excluding the recessions of 2008-09 and 2020). The downturn will not be like the recessions of 2000-01, 2008-09 or 2020. Then, inflation was too low and central banks could play the role of swashbuckling Hollywood movie heroes saving the day by slashing interest rates and (in 2008-09 and 2020) buying massive quantities of government bonds. Not this time. This recession will be more like the inflation-fighting recessions of the early 1980s and 1990s. Central banks will not let up until the inflation dragon has been beaten back into its lair – and that will take time and cost treasure.
Canada’s economic recovery over 2021-22 was unbalanced (based in only a few sectors), superficial (based on unsustainable policy stimulus, a massive credit boom, and labour input growth), and incomplete (GDP per capita has not recovered its pre-pandemic level). From an expenditure perspective, the GDP recovery was concentrated in wildly overstimulated residential structures investment and goods consumption while, until only recently, business investment and exports languished.
From a supply-side perspective, Canada’s GDP recovery was due to growth in total hours worked, not productivity. The economy expanded because there were more people in the workforce and the unemployment rate fell, not because the workforce became more productive. Higher labour productivity translates to higher GDP per person; growth in hours worked only raises GDP.
Immigration, not productivity, remains at the centre of the federal government’s thinking about how to expand the economy’s supply-side capacity. Canada’s population increased by an unprecedented 703,000 persons in the year to July 1, 2022, of which around 658,000 was due to net international migration (temporary and permanent) and 46,000 was natural increase (births less deaths). Further immigration increases are planned. However, while immigration expands the absolute size of the labour force and economy (i.e., GDP), the academic literature overwhelmingly finds that it has negligible impact on indicators that determine a country’s living standards: labour productivity, real wages, the employment rate, the age structure of the population and, importantly, GDP per person.
Looking through the veneer of booming population growth, the economy is in rough shape. Canada is one of the only advanced countries in the world not to have recovered its pre-pandemic level of GDP per capita. GDP per capita will likely fall by another 1-2 percent in 2023; the outlook for 2024 is little better.
Canada’s economy enters 2023 shouldering serious structural weaknesses: the world’s 4th
most indebted advanced economy; the highest private sector debt-servicing burden among G7 countries; the worst prospects in the OECD for growth in GDP per capita and labour productivity over the next 40 years; business investment that is barely keeping up with depreciation, resulting in a flat or declining capital stock per worker; and a two-decade retreat from international trade with exports shrinking as a share of GDP. Young Canadians entering the workforce today face the unhappy prospect of the lowest projected growth in average real incomes among the 38 OECD countries over 2020-2060.
Canada and B.C. are not without good fortune, however. Our external terms of trade of trade – the ratio of export prices to import prices – is at record levels. This means the world is prepared to buy our mostly resourced-based exports at very high prices and sell us mostly consumer product imports at relatively low prices. This will buttress people’s purchasing power. Another favourable metric is income inequality which has been declining since the early 2000s and is low compared to peer countries. This means that when our economy generates prosperity, we do a good job of sharing the income pie.
Overall, Canada and B.C. may dodge a recession in GDP in 2023 largely because of Ottawa’s plans for booming immigration, labour supply and population growth. However, we will not avoid further falls in GDP per person. Average real incomes are set to decline and/or stagnate. Tough times lie ahead.
Published in Business in Vancouver.