Recession’s over! Now what?

The Great Recession of 2008-2009 is officially over, according to economists from three of Canada’s larger financial institutions. But charting a course in 2010 could prove difficult, as central banks balance inflation risks against choking off growth.

“The global economy and recovery remain fraught with risk,” notes TD’s senior vice-president and chief economist, Don Drummond. “So far, the global recovery has been underpinned by strengthening financial markets, as well as rebounding housing markets, industrial production and consumer spending. To this point, it’s been a well-synchronized dance.”

But he suggests it will be a slow dance.

The biggest threat to the recovery will be the unwinding of the monetary stimulus policies used to stave off the financial collapse in the first place. Drummond says central banks will require “surgical precision” in the timing of interest rate hikes.

“In many ways, successfully negotiating economic recovery is a bit like a Goldilocks scenario,” says Drummond. “It can’t be too hot or too cold – it’s got to be just right. But it would be foolish not to keep in mind the various risks involved. Analysts and investors will need to be fleet of foot to adjust to evolving circumstances and risks.”

Interest Rates The Bank of Canada will begin raising interest rates in early 2010, according to a report out of National Bank, with the overnight rate rising from 0.25% to 1.50% by the end of the year.

Desjardins Group does not see the Bank of Canada raising rates before autumn, as North American core inflation should not exceed 1%. The U.S. Federal Reserve may even wait until 2011 before raising rates.

U.S. A number of factors will limit growth in the U.S., according to Drummond. Financial institutions remain highly risk-averse, limiting the amount of credit available to businesses. At the same time, consumers will hold off on spending. These factors combined will keep job creation low, and the economic growth may top out at 2.7%.

National Bank is predicting U.S. growth with reach 3.4%, fuelled by surging corporate profits and improving labour markets. One possible anchor on growth could be the consumer, whose battle with debt could forestall spending.

Canada Drummond predicts the Canadian economy will grow by 4% in the final quarter of 2009, with full-year growth of 2.7% for 2010.

Economists from National Bank agree that the Canadian recovery is already underway, predicting “respectable” growth of about 2.9% in the coming year.

Currency The Canadian dollar will dip in the near term, National Bank predicts, as a recovery in the American labour market boosts sentiment and the greenback. But the loonie will recover by the end of 2010, as global expansion drives demand for commodities.

Desjardins takes a contrary view on the dollar, expecting the loonie to reach parity by summer on the back of higher oil prices. The higher dollar will hurt the manufacturing sector, which could limit economic growth in Ontario.

Global “Central banks and governments around the world have done their utmost to loosen up credit markets in the past year. Their massive injections of liquidity are bearing fruit: credit markets are normalizing and economic growth has resumed in many countries and regions,” says Stefane Marion, chief economist and strategist of National Bank Financial Group. “A 4% rebound of world GDP next year seems increasingly plausible.”

Economists at Desjardins Group are a little more conservative with their prediction, saying full-year global growth for 2010 will be 3.4%, before ramping up to 3.8% in 2011.

The recovery will be led by emerging markets, which will account for roughly two thirds of global growth, according the National Bank’s assistant chief economist Yanick Desnoyers.

Desjardins agrees the emerging markets will be leaders with a growth rate in excess of 5%. China and India will continue to dominate growth in the developing world, due to the immensity of their markets.

The industrialized world will only record 1.8% growth in 2010, rising to 2.0% in 2011, Desjardins’ economists predict, with Canada and the U.S. leading the pack with better than 2% growth in each year.

“The road to recovery for the global financial system will not be free and clear of further pain, but ultimately, additional disturbances will be absorbed,” says Drummond. He predicts that global growth for 2010 will top out around 3.8%

Investing

TD offers no guidance specific predictions on investment opportunities, but both National Bank and Desjardins offered up prognostications on the stock markets.

“Even after this year’s substantial rally of global equity prices, valuations remain attractive,” says National Bank’s Marion. “We see the Canadian market advancing another 10% in 2010.”

Desjardins Group vice-president and chief economist François Dupuis is a little more optimistic, predicting the S&P/TSX will rise 11.3% in 2010 and 9.4% in 2011. South of the border, the S&P 500 should gain 13.6% in 2010 and 8.0% in 2011, he says.

(12/17/09)