Retailers predicted to sell less for more

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Relatively flat wage and employment gains in 2013 translated into mediocre growth in Canadians' household wallets says Avery Shenfeld, Chief Economist at CIBC.

Retailers in Canada are expected to sell less this year but at higher prices, reflecting rising energy costs and a weaker dollar, amid lacklustre wage and employment growth as Canada's economy strives to find its footing, says a new report from CIBC World Markets Inc.

"We will see a complete U-turn from what we saw last year, in which retailers moved greater volumes as consumers' purchasing power benefited from softer inflation," says Avery Shenfeld, Chief Economist at CIBC. "The next two years will see a gradual upturn in inflation, in part a reflection of a weaker Canadian dollar but also capturing higher energy costs and a tobacco tax hike. So, quarterly growth rates (in retail sales) will see a trend towards selling less for more: higher prices, but leaner growth in real volumes."

The one constant is that relatively flat wage and employment gains in 2013 translated into mediocre growth in Canadians' household wallets, he says. In nominal terms, disposable income growth has been slowing, rising by only 3.6 per cent last year, the weakest non-recessionary showing since 1996, the report finds.

"Improvements on that front aren't likely to be seen until 2015, when tighter job markets should generate some labour bargaining power," says Shenfeld, noting that typically average hourly wages don't climb at anything above 3 per cent unless the output gap - the difference between the economy's actual and potential output --- has been closed.

Income patterns help to explain the appeal of dollar, or bargain, stores, which have been the big winners in the retail space, he says.

Increasingly, wage gains have been tilted to a select group of higher-paid sectors, says Shenfeld. The average wage in the past year rose 2.5 per cent but the median wage climbed only 1 per cent, extending a more than decade-old pattern in which the ratio of the average-to-the-median wage has been widening, he says.

Wage gains in higher-paid sectors may bode well for the expected upcoming boom in the luxury-store market from U.S. retailers moving north, but Shenfeld remains cautious.

"They still risk disappointments in the size of that segment relative to where it sits on their more familiar U.S. turf," he says. "Despite a rising trend in (wage) inequality over prior decades, both pre- and after-tax income in Canada is not nearly as unevenly distributed as it is stateside."

While a surprise drop in inflation last year helped to lift consumers' spending power Shenfeld expects the reverse this year, as inflation gradually climbs to 2 per cent.

"The good news for retailers is that history suggests that consumer credit growth is unlikely to slow any further in real terms without being pushed there by a recession," he says.

He notes that the growth in consumer credit is near its lowest pace in more than two decades, indicating that Canadians have been listening to those advising more caution in taking on debt. "Despite all the fear mongering about rising debt/income ratios being a reflection of profligate behaviour in a low-rate environment, the debt burden climb in the last two years has been largely a story of soft incomes and mortgage credit, not borrowing for consumption," he says.

Still, savings decisions could still pinch consumption a bit, he says.

In a section of his report, What Carney Left Behind, Shenfeld says the decision by former Bank of Canada Governor Mark Carney to take a "hands-off attitude on the exchange rate, alongside foreign central bank intervention, contributed to a serious overvaluation of the Canadian dollar. The country is in reasonable overall shape, but is still struggling to wean itself off home building as a source of growth."

The Bank of Canada chose to keep interest rates low to stimulate housing and domestic consumption as an offset to the drag on exports from the stronger Canadian dollar, rather than intervene, as the Swiss did, to neutralize the impact of hot money capital inflows on the exchange rate.

"In effect, monetary and exchange rate policy traded off more condos for fewer factories," says Shenfeld.

CIBC is paring its 2014 forecast for Canada's economy after dropping its outlook for investment spending based on the latest intentions survey from Statistics Canada that showed almost no growth in capital spending from the business sector this year.

"We've reduced our investment spending call enough to pare our 2014 GDP growth forecast by two ticks, to 2.1 per cent from 2.3 per cent," says Shenfeld.

"The trimming would have been larger if not for signs that housing construction, including completions of the forest of condos underway, will remain a growth contributor for one more year."

While exports in January were likely hurt by weather-related transportation bottlenecks, the prior trend was still "uninspiring," with exporters failing to capitalize much on a fairly healthy second-half growth pace in the U.S.," he says.

Even though the Canadian dollar is now "more appropriately valued" and commodity prices are improving, helping "to bring trade into better balance," Shenfeld says that "the legacy of earlier plant closures will be with us for several years to come."

The complete CIBC World Markets report is available online.

Organizations: CIBC World Markets, Bank of Canada, Statistics Canada

Geographic location: U.S., Canada

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