CIBC expert talked about another rate hike, house marketing and stock market in 2023

The World Bank’s Global Economic Prospects report called for a “sharp, long-lasting slowdown” and slashed its global growth forecast for this year to 1.7 per cent from its mid-2022 prediction of 3 per cent.

To gauge the potential weakness for the Canadian economy, Benjamin Tal, the deputy chief economist at CIBC World Markets, shared his 2023 perspectives on inflation, interest rates, the labour market and economic growth.

January rate hike expectations
Bank of Canada’s next rate announcement on Jan. 25 will raise rates by 25 basis points to 4.5 per cent (A basis point is one-hundredth of a percentage point). Although there is a real risk that they will raise by 50 basis points, given the still very tight labour market as was reflected in the much stronger-than-expected job creation in December, 2022. So one more rate hike by 25 or 50 basis points, and then they will rest.

“Inflation is a lagging indicator, which means that the risk of overshooting is real. You can raise interest rates way too much, the way it happened in the past. “Tal said, “I believe that we are starting to enter this zone. If rates go to 5, 5.5 per cent for some reason, then we’re talking about the more significant recession where the labour market will be suffering and the unemployment rate will rise significantly.”

Probability of a significant recession
Tal said he would put about a 25 to 30-per-cent probability of this occurring.

The reasons why people calling for a mild recession or a soft landing is because there are two buffers that might protect us from a more significant recession. One is the amount of money held by individuals – excess savings that will allow the consumer to be stronger than expected. The other is the job vacancy rate, which is relatively strong. These two forces can protect the economy from a more significant decline, assuming interest rates will be peaking very soon.

Unemployment rate trend
Tal mentioned, by the end of 2023, about 5.9 per cent, and then going down to about 5.6 per cent by the end of 2024. (In December it was at 5 per cent) We see both years to be relatively weak. 2024 will not be a recovery year because interest rates will be remain high for a long period of time. I think that’s important to communicate. We forecast 0.7-per-cent GDP growth in 2023 and 0.9 per cent in 2024 – not a big recovery.

The recovery will start at the end of 2024. By 2024, after two years of slowing down, you will be able to close the output gap and we’ll reach inflation of 2 per cent.

Tal said that this sounds a bit optimistic, but remember the move from 7 per cent inflation to 4 per cent will be relatively easy, mostly due to supply chain improvements and commodities. The challenge will be to move from 4 per cent to 2 per cent.

There will enough slowing in the economy to bring inflation back to around 2 per cent by the end of 2024, and if we are wrong, it would be mid-2025, but it will not be dramatically after that.

Bank of Canada will cut rates?
Tal said, in the past, the distance between the last hike and the first cut was relatively short. This time, it will be relatively long, namely a year. We don’t see the bank cutting rates until early 2024 to make sure that inflation is dead.

Outlook for the housing market
During COVID, homebuyers got the benefit of a recession, that is, extremely low interest rates, without the cost of the recession and a broadly-based increase in the unemployment rate. There was a sense of urgency to get into the market and we front-loaded activity. What we’re seeing now is not a crash, it is a reallocation of activity over time.

Tal said that this weakness will be continuing. Come the spring, when the market is more balanced, people will start listing their houses. In addition, we are going to see some forced sales, basically distressed sales. Many people will have to renew their mortgages over the next year or two, and the damage is going to be significant. It’s a significant change from mortgage rates of 1.5 per cent to 5.5 per cent and the Bank of Canada is still raising interest rates. Some people will not be able to renew their mortgages so they will have to sell. Now, it will not be a significant number, but it will add to supply.

Another factor is that investors will be adding to the supply because the cost of owning a house has risen much faster than rent. “Therefore, I think that this slowdown in the housing market will continue for the next year,” he said. “I see it as a positive story as the housing market needed a reset. Remember, prices went up by 46 per cent in two years.”

The fundamentals of the housing market are still very strong. We are talking about a target of 500,000 new immigrants a year so demand is going to be strong. And what’s happening more and more due to higher interest rates, due to the cost of construction, due to the shortage of supply of labour and trades, we see more and more projects being cancelled. So more people are coming, less is being built.

Implications for housing affordability
The short answer is that beyond the correction that we are witnessing now, the housing market will remain unaffordable and will become even worse from a long-term perspective.

First we can see governments, at all levels, dealing with supply as opposed to demand. That’s extremely positive. The provincial government in Ontario, for example, and the federal government are talking about a significant increase in home construction. And I say, it’s easy to say, it’s very difficult to do it because the industry does not have the capacity to build so many houses. For example, shortage of labour and trades is one of the most significant factors limiting supply. So we need to increase this capacity.

Stock or bonds market adjustment
Tal said, “It’s very difficult to say but I think that the second half of the year can be much better than the first half of the year, reflecting the fact that the stock market and the adjustment in earnings will be completed.”

“I think that the bond market can surprise on the upside beyond the next few months.”

At some point, when the market is more relaxed on inflation, when we see a slowdown in the economy, and the impact of higher interest rates is really being felt in the economy, because remember we haven’t felt the full impact of higher interest rates, it takes a while, all those forces will support valuations in the bond market. So I think that the bond market can be a very interesting place to be in 2023.

Usually dividend stocks do relatively well in this kind of environment. Overall, strategy analysis group recommends energy, utilities, and communication services.

Canadian dollar has been weak to the U.S. dollar
There is no reason to believe that the U.S. dollar will lose significant momentum over the next few months as the Fed will remain hawkish, there’s uncertainty regarding a recession, China is slowing down, and Europe is in a semi-recession.

In mid-2023, when the market sees the Fed ending its tightening policy and start talking about the possibility of cutting rates, and the fear of a recession is basically over, the American dollar can start losing some ground against major currencies.

So we see the Canadian dollar remaining relatively weak, staying where it is right now over the next few months, and start to gain some ground, a few cents, after mid-2023.

In December, 2021, Tal was asked what phrase he believed would characterize 2022, his answer was “the transition of pandemic to endemic.” For 2023, he said “the end of inflation panic”.

This article was reported by Ground News.