Call it what you will — most call it a recession

Your clients have likely lost a good chunk of their net worth, jobs are scarce, and productivity and spending are down. As a little cold comfort, it’s now okay to use the R-word to describe what’s going on with the developed world, even if Canada is not officially in a recession yet.

The developed world is in its worst economic downturn since the mid-1970s, according to the Organization of Economic Co-operation and Development (OECD), as the U.S., Japan and Europe are all expected to experience a protracted slowdown through 2009.

Gross domestic product is expected to contract by 0.9% in the U.S. next year, by 0.5% in Euro-denominated economies and by 0.1% in Japan. Gross domestic product for the OECD — of which Canada is a member — is expected to contract 0.3% year-on-year in 2009, before recovering slightly in 2010 with 1.5% growth.

The OECD forecasts that the average unemployment rate among members, estimated at 5.9% this year, will climb to 6.9% next year, reaching 7.2% in 2010.

The one silver lining in the downturn is that inflation should ease as slowing economies put downward pressure on prices.

The textbook definition of a recession is two consecutive quarters of negative growth. Canada will most likely skirt that official title until the new year, says Douglas Porter, deputy chief economist at BMO Capital Markets, but there is general consensus the country has already entered a recession — and a bad one at that. What’s not clear is how bad it will get and how long will it last.

“We have very similar projections to the OECD. We have a -1 [percent growth rate] on the U.S. for next year versus their -0.9 projection and we have zero on Japan versus a -0.1,” he says. “Our latest projection for Canada is a flat rating on GDP next year. I would say that comes with the risks tilted to a weaker outcome. There is serious risk that things could be even worse than that. If we are going to be surprised in our prediction, it’s more likely to be on the wrong side of zero.”

Porter expects developed economies will start to bounce back sometime late next year, but it may be a slow and painful process.

“Globally, we already had massive interest rate cuts. We need the credit channels to open up and feed through the economies,” he says. “We think there is enough stimulus being thrown at the global economy. Assuming credit channels do begin to operate normally, we could see a beginning of recovery in the second half of next year. It’s not going to be a normal recovery — it could be a slow grind.”

Martin Murenbeeld, chief economist of DundeeWealth, says this crisis “smells” worse than most recessions and may prove to be the worst Canada has seen since the 1930s, but he emphasizes that we’re a long way from using the D-word.

There are few similarities right now to the severity of the Great Depression of the 1930s. Murenbeeld highlights that, in that depression, U.S. GDP contracted 30% from 1929 to 1933. Protectionist policies adopted by all countries caused international trade to shrink dramatically. Probably the most startling figure is that U.S. unemployment rates were in excess of 20% for the four years 1932-1935 and averaged 24.9% in 1933.

“This crisis is international in scope, and some countries that are less responsive to market forces will find the coming period very difficult indeed. Canada has, thankfully, a floating currency, which insulates the domestic economy from the violent financial storms raging in the world. And its single largest trading partner, the U.S., is reacting to the crisis about as rapidly as might be hoped. (Mistakes are and will continue to be made — the demise of Lehman Brothers already looms large as one of the principle mistakes.),” he writes in his latest commentary. “In these situations — like war — it’s the end result that counts. And the end result will be favourable — a nasty recession but no ‘lost decade’ and no depression.”

Murenbeeld makes a point of comparing this crisis to Japan’s lost decade. It’s a lingering fear that Canada and the U.S. will follow the plight of Japan, which has yet to recover from its economic downturn in the early nineties — which began in the financial sector. Murenbeeld notes that the U.S. government has already been quick to act to fix its financial system as opposed to Japan, which took almost 10 years to implement the appropriate regulatory measures to deal with its crisis.

“The U.S. has shown at other times — during the savings and loan crisis, for example — that policymakers and financial institutions are quite prepared when necessary to ‘bite the bullet,’ ‘cut one’s losses’ and move on. The process of creative destruction, an integral part of capitalism, is well understood in the U.S. It was, and still is, less well understood in Japan and elsewhere,” he says.

He adds, “Japan waited until 1999 to use taxpayers’ money to help its banks, for example, some 10 years after the Nikkei began its descent. Interest rates declined to nearly zero, but negative inflation in Japan meant that the real cost of capital did not actually decline. Japan was late in recognizing the dangers of deflation. The U.S., on the other hand, has cut interest rates from 5.25% in August 2007 to 1.00% to date.”

A recession in Canada will hit some places worse than others. Ontario, the country’s primary manufacturing and financial services base, will bear the brunt of the damage, according to a report the Conference Board of Canada released on Thursday. The group does not predict negative growth for the province.

“The slowdown in financial and consumer activity in the United States will take its toll on Ontario, which will produce economic growth of just 0.2% this year and 0.8% next year,” said Marie-Christine Bernard, the Conference Board’s associate director, Provincial Outlook. “In 2009, Ontario will post its first trade deficit since the province began keeping records almost thirty years ago. Ontario consumers will also tighten their belts, weakening growth in the domestic economy.”

At the other end of the spectrum, boom times are expected to continue in Saskatchewan, which the Conference Board predicts will lead the country in real GDP growth in both 2008 at 5.2% and 2009 at 3.6%.

Filed by Mark Noble, Advisor.ca, mark.noble@advisor.rogers.com

(11/13/08)