Global economy seen slowing through 2006

(July 13, 2005) The global economy will slow over the coming year, but growth in Asia’s developing economies should maintain a relatively healthy pace, according to Scotia Economics’ Global Outlook report.

The U.S. consumer is expected to finally show signs of fatigue, as interest rates continue to rise, although housing could remain strong. Weakness in industrial production is expected to continue and Scotia predicts economic growth of about 3.25% for the U.S. Reduced consumption will not bode well for America’s trade partners, as appetite for imported goods dwindles,, the report adds.

“Canada and Mexico will experience a similar softening in overall performance,” says Warren Jestin, Scotiabank’s chief economist. “While Canada is receiving an added boost from booming natural gas exports, non-energy earnings have been hit by our dollar’s 30% appreciation over the past three years. The net result — Canada will be the NAFTA zone’s economic caboose, lagging U.S. growth by over half a percentage point through 2006.”

Mexico is expected to outperform its NAFTA partners, with growth of about 3.75%, thanks to the weakness of the peso and its strong oil exports to the U.S. The rest of Latin America is expected to lag the developing economies of Asia.

Asia, including China and India, will shift into a lower, more sustainable growth rate, Scotia believes. Japan’s attempted recovery is seen to be already sputtering, which will likely leave the country at the back of the pack.

In Europe, the U.K. is expected to outpace the other Eurozone economies, where Scotia predicts a rather weak 1.5% growth rate through 2006.

On the positive side, Scotia does not think inflation will materialize in any significant way, pointing to isolated pockets of inflation in commodity prices, but discounting the threat in consumer products.

According to a report out of BMO Financial this morning, commodity markets continue to be tight, with the bank’s commodity price index rising 4.7% in June, to a reading of 178.6, using 1993 prices as a base value of 100.

“Commodity markets were lifted by a surge in crude oil and natural gas prices, with agricultural products and key metals also contributing,” said Kenrick Jordan, senior economist, BMO Financial Group.

In the past 12 months, the value of the oil and gas index has risen 29.6%, to more than triple the value of 1993. Metals and minerals remain strong as well, having risen 13.4% over the past year, while agricultural commodities are up 2.7%. Forestry continues to be the only category trending lower and is off 5.8% on a year-over-year basis.

“Most of the [forestry] index’s weakness came from the pulp and paper side, where market pulp continued to decline,” said Jordan. “It is expected to trend moderately lower starting later in 2005 and through 2006, mainly due to a cyclical erosion of market conditions for wood products.”

Excluding volatile sectors such as food and energy, the Scotia economic outlook predicts inflation will remain south of 2% in Canada and below 2.5% in the U.S. Inflation “should remain non-existent in Japan and hover around 1.5% in Europe,” the report predicts.

With inflationary pressures fading, Jestin says interest rates will likely rise slowly, as central banks try to avoid choking off the economy altogether, with the Federal Reserve likely only tacking on 50 more basis points.

“The Bank of Canada has officially stated that interest rates eventually will rise and will probably move to fulfill this prophecy with a modest reduction of monetary stimulus after Labour Day,” Jestin says. “However, our inflation and growth fundamentals suggest that the central bank will stay largely on the sidelines over the next year, particularly if the Canadian dollar moves above 85 cents US.”

Filed by Steven Lamb, Advisor.ca, steven.lamb@advisor.rogers.com