Source: The Canadian Press

Canada’s economy will continue to churn out growth, but the pace is set to slow as consumers rein in spending and the U.S. economy falters, according to a Statistics Canada report released Thursday.

The agency’s leading economic indicator index — a monthly gauge of where the economy appears headed in the coming months — slowed to a 0.4% increase in July after a gain of 0.7% in June.

July’s gain in the composite index was the smallest recorded in 13 months and follows five steady months of increases closer to 1%.

“The economy is downshifting partly because of the slowing housing market,” said Sal Guatieri, a senior economist at BMO Capital Markets.

The slowing U.S. economy is also dragging down Canada’s leading economic indicators, Guatieri said.

“Those are two areas we need to focus on going forward — that Canada’s housing market will cool too rapidly because too much demand was pulled forward into earlier this year, and we have to focus on the U.S. situation because there is a higher-than-normal risk of a recession,” he said.

The housing index was down 4.1% from June, continuing a months-long cooling trend in Canada’s once-bustling real estate sector, as many sales were pulled forward into the first part of the year in advance of interest rate hikes, changes to mortgage requirements and the harmonized sales tax in British Columbia and Ontario.

Most of the slowdown in July’s leading economic indicators originated in the household goods sector, where three subsectors fell. None of the seven other components decreased.

Guatieri had predicted a gain of 0.6% in the full indicator index in July — still the lowest figure in over a year — but said the housing market was a bigger disappointment than anticipated.

The sector, which once led the economy out of recession, is expected to contribute less to Canada’s gross domestic product in the second half of the year, or even become a drag on it.

The slump in home sales was also reflected in falling sales of furniture and durable goods, and consumer spending on household goods is expected to continue to slow in the coming months.

The contribution of consumer spending to GDP is expected to back off recent highs of 3% to around 1.5% as households focus on debt repayment, said Diana Petramala, an economist at TD Bank (TSX:TD).

“There was a sharp accumulation of debt over the recession and the recovery so far, (and) now households are highly indebted,” she said.

“We’ve reached a point where no matter what the economic outlook is going forward, the level of household debt is going to be an impediment to economic growth in the future.”

Households will necessarily have to slow borrowing for purchases, be it for consumer goods or on homes.

“The alternative scenario is that households remain optimistic and continue to take advantage of low interest rates and, if debt levels rise any further, … they’re going to see their debt service costs rise to significantly, to decade highs,” she said.

Waning fiscal stimulus spending, slowing export growth due to a high Canadian dollar and weak U.S. demand will also contribute to slower growth, Guatieri said.

“We won’t see the type of growth we saw in the first quarter, at that 6% pace that was the strongest in a decade, because most areas will be slowing down,” he said.

While growth is expected to slow from the unsustainable level recorded in the first quarter of the year, the economy will continue to recover and is expected to record more moderate growth of around 2.5%.

However, weaker figures stateside could prove to be a drag on Canada’s economy in the coming months.

“If the U.S. economy slows further, or worse, dips into recession, Canada’s economy would also be susceptible to a much slower outlook … because of the very strong trade links between the two countries,” Guatieri said.

The U.S. Conference Board, a private-sector forecaster, said Thursday its index of leading economic indicators rose 0.1% last month, suggesting growth will be sluggish for the rest of the year after dropping 0.3% in June.

And a report on U.S. unemployment insurance claims released Thursday showed that new applications reached the half-million mark last week for the first time since November, a sign employers are cutting jobs again as the recovery slows.

The threat of a so-called double-dip recession in the U.S. could hit Canada’s manufacturing sector, which so far continues to show a steady recovery. New orders for durable goods rose 2.2% in July, their sixth straight advance.

But a second report released by Statistics Canada on Thursday found that wholesale sales declined 0.3% to $43.9 billion in June, reflecting softness in exports and pointing toward a potential decline in the retail sector as well.

Fewer sales sent wholesale trade inventories climbing 0.6% to $52.7 billion in June, their highest level since September 2009.