Benjamin Tal, CIBC’s Deputy Chief Economist, joins Katherine Judge, CIBC Senior Economist, to discuss the deteriorating US economic backdrop, the trade landscape, and implications for the Fed and the Bank of Canada.
Introduction: Welcome to Eyes on the Economy by CIBC Capital Markets, a podcast series dedicated to addressing current issues in a concise format, helping to make sense of the evolving economic complexities, so that you can take action.
Katherine Judge: Welcome to another episode of Eyes on the Economy. I’m your host, Katherine Judge, and I’m joined today by CIBC’s Deputy Chief Economist, Benjamin Tal. Today we’re going to talk about a report that Benjamin and I put out on the deteriorating U.S. economy and how time is not on the Trump administration’s side as the trade war continues to heat up. Benjamin, how are markets reacting to tariff policies that Trump is saying will ultimately help reshore more production to the US?
Benjamin Tal: Well, it’s really not working, is it? If you look at the overall story and if you look at the commodity market, for example, I like to look at the gold-copper ratio. And this ratio is actually going up, which means that the market is nervous. Gold is rising usually when the market is nervous. Copper is slowing down because the market is not enthusiastic about the global economy in general, and rightly so. So we have a situation in which although Trump it appears to be unstoppable, I think he has many vulnerabilities or kryptonites if you wish. One of them is the actual stock market, the market itself. You can say that you don’t care about the market for a while, but if the market continues to correct, this is something that is going to hurt him and I think that is looking into it. The other is gasoline prices. Let’s face it, Trump is absolutely obsessed with gasoline prices. That’s his base. They consume 21 million barrels a day. They produce about 13 million barrels of oil a day. So the difference of aid is coming from many places, including Canada, two-thirds of it actually from Canada. The refineries are equipped to use our heavy oil. So clearly, if you have a tariff on energy coming from Canada, immediately overnight, the gasoline prices will rise, his base will suffer. And then you have inflation. Let me break it to you, as we all know. You know, tariffs are inflationary and the inflation impact would be significant and very quick. So that’s something that they cannot take for too long. And of course, it doesn’t have the time. The time is an issue because in two years you have midterm elections. So you have a situation in which in two years you have to see all the positives. And the only thing you will see is the negative. Two years from now you will see if it continues this way, inflation, unemployment rising, the US economy slowing down. This is something that will not give him a win in the midterm elections. So he’s realizing that. That’s why I think the time is not on his hand, and the US economy clearly is not strong enough to support this environment.
Katherine Judge: So we know sentiment is down both for both consumers and businesses, but is this playing out in the hard data yet? And what is the extent of that expected to be?
Benjamin Tal: Absolutely. Clearly the US economy is not in a recessionary territory, but it is slowing down in a very significant way. If you look at the almighty labor market, you look at the quits rate, it’s going down. If you look at the number of people having two jobs going up significantly. If you look at the quality of employment, going down. So clearly the secondary indicators in the labor market are not something to write home about. Then you have excess savings in the US, used to be $2.5 trillion. Now it’s roughly zero. So the consumer does not have the protection that he or she used to have before, therefore more sensitive to monetary policy. So the economy again, it’s not in the recession, but clearly slowing down. And business investment, I suggest, is entering recessionary territory because in this kind of uncertainty, people are not investing. And that’s exactly what we’re seeing. And we are talking to CEOs from all kinds of industries in the US, they’re all confused and rightly so. And therefore, when you are confused, you’re not investing. So the US is not in a recessionary territory, but clearly weakening with every day that passes reveals more wounds in this economy. No question about it.
Katherine Judge: And in terms of Canada negotiating its way out of these tariffs, how do you see that playing out? Because Canada is much more dependent on the US for demand than vice versa. So how can Canada really retaliate then?
Benjamin Tal: Yes, the thing that we have to be smart about retaliation, you don’t want to get into dollar for dollar fight because we are going to lose our pants in this environment. I think ironically, and maybe many listeners probably will not agree with me, but I think that over time we will wake up and see our dependency on the US actually going to rise. We have to realize that we are in a trade war but it’s not a global trade war, it’s a US trade war. It’s the US against the West, and like in the Cold War, if you are a third party you have to choose a side. If you are Australia, for example, all your security is coming from the US. All your economics coming from China. Good luck with that. In Canada, we know where we are. We have been trying to diversify our way away from the US for decades. Trudeau the father started the process. Under Harper, we try to do that. Under Trudeau, the son, we try to do that. We have 15 free trade agreements with 51 countries. And our reliance on the US is actually rising, not falling. I believe that after the fog clears, we will see a situation in which our dependency on the US actually will rise, not fall. That will be the ironic situation that is emerging from this condition.
Katherine Judge: Interesting. So how do you see the policy mix in terms of monetary and fiscal responding to this period of tariff uncertainty and negotiations?
Benjamin Tal: Well, in the short term, I think that the Bank of Canada will have to cut interest rates and I think that the government will have to increase fiscal spending in order to support the economy. However, I believe that this period will be relatively short, a few months, because again, time is not on Trump’s side at this point of the game. And I think what will end up happening is the following. Before the trade war started, the average tariff was about 2.5% on Canada. I think it’s now in the process of rising to about 15, 16, 17%. It’s weighted average and that average will go down to about five, six, seven percent after the fog clears and after we renegotiate the USMCA. I think that’s a reasonable scenario in which the impact will be very narrow but very deep, namely some industries like dairy, like lumber will feel the impact of tariff and it can be a significant tariff. Some sectors like energy will see zero tariff. So the weighted average would be maybe six, seven percent. Something that the Canadian economy can deal with.
Katherine Judge: And just going back to the US briefly, how is the Fed balancing the downside to growth that we’re seeing with the upside to inflation?
Benjamin Tal: That’s a very good question. The question is to what extent the Fed will be able to see through the inflationary impact of tariff and I think they will. So we see the Fed doing nothing over the next few months, but start cutting interest rates in the second half of the year, around twice, maybe three times if the economy slows down dramatically.
Katherine Judge: Great, and I think that’s a good place to end the podcast and thank the listeners for joining us and remind them to check out our paper that’s published on the CIBC Economics website. And until next time, we’ll have our eyes on the economy and we’ll be calling it as we see it.
Outro: Please join us next time on the Eyes on the Economy where we will share our latest perspectives and outlook for the Canadian and US economy.
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