Ontario: Tepid growth

“Ontario will see sustained but unspectacular growth this year,” says Robert Hogue, senior economist with Royal Bank of Canada (RBC) in Toronto. “There is a lot of uncertainty and risk out there, and we could see some turbulence if there is any kind of global crisis triggered by the sovereign-debt issues in Europe or fiscal problems in the U.S.”

Helmut Pastrick, chief economist with Central 1 Credit Union in Vancouver, points out that exports play a huge role in the outlook for Ontario’s economy, in which about 50% of activity is related to manufacturing. With about 80% of Ontario’s international exports heading south of the border, demand is closely tied to economic activity in the U.S., for which gross domestic product (GDP) growth is expected to be about 2% in 2013.

Pastrick is forecasting GDP growth of 1.9% in Ontario in 2013 – between the 2.1% achieved in 2012 and 1.8% in 2011. Other forecasts are in the same ballpark, with RBC predicting 2.3% growth in 2013; Ontario’s Ministry of Finance, 1.9%; CIBC World Markets Inc., 1.8%; and Toronto-Dominion Bank, 1.6%.

“Ontario is in a low to modest growth phase, and that reflects the speed of the U.S. economy,” Pastrick says. “Manufacturing is still the export engine of Ontario.”

Although Ontario’s businesses are gradually shifting to other markets beyond the U.S., the pace of that shift is slow. The massive market of China receives only 1.4% of Ontario’s exported goods, while troubled Europe’s share is about 5%. Exports are affected by both the economic strength of major trading partners and the currency exchange rate – and the strong Canadian dollar (C$) presents challenges to Ontario’s exporters. The C$ is expected to remain roughly at par with the U.S. dollar this year.

In a recent report tabled by the Jobs and Prosperity Council, launched last year by outgoing Ontario Premier Dalton McGuinty and provincial Finance Minister Dwight Duncan, the council of labour and business leaders recommended that Ontario aim to triple its exports to China, India and Brazil and double exports in general by encouraging small and medium-sized businesses to turn to exports for growth.

The bright spot for Ontario is U.S. vehicle sales, which have bounced up by 65% from recessionary lows. Ottawa-based Export Development Corp. (EDC) projects auto sales in the U.S. to rise to 15.5 million cars and light trucks in 2013 from 14.4 million units in 2012 – and the lion’s share of these vehicles are produced in Ontario. Motor vehicles make up about 32% of Ontario’s exports.

“The auto sector is going full bore, and it’s actually facing capacity constraints,” says Peter Hall, chief economist with the EDC in Ottawa. “The average age of a car in the U.S. is around 10 years, as consumers have deferred buying new vehicles, and there is a lot of pent-up demand.”

According to the EDC, the three key exporting sectors for Ontario are industrial goods (chemicals, plastics, fertilizers, ores and metals), which account for 37% of the province’s exports; motor vehicles, 32%; and machinery and equipment, 13%. The EDC expects 2% growth in exports of industrial goods in 2013; 6% in machinery and equipment; and 2% in motor vehicles. The uptrend for vehicles follows a 14% gain in 2012.

@page_break@ Meanwhile, even though residential housing was a powerful catalyst for Ontario’s economy during the past few years, RBC is expecting housing construction to decline during the next two years, to 63,600 units in 2013 and 58,500 units in 2014 from a seven-year high of 76,200 units in 2012. Resale activity already has fallen, Hogue says, and this is hindering housing starts. Buyer fatigue is setting in as houses become more expensive. As well, tighter rules on insured mortgages and stricter lending requirements laid down by the federal government in July 2012 have narrowed the field of buyers.

“There has been a cooling off in the Ontario housing market during the past several months,” Hogue says. “And although it is not a collapse, [the market] is certainly less vibrant. The effects of a slower housing industry will trickle down, as there is a significant multiplier effect due to the expenditures related to house purchases.”

Ontario’s mining sector remains vibrant. Although metals prices have slipped from their highs of a few years ago, they are strong and expected to hold.

“Mining is a bright spot,” says Ernie Stokes, managing director with the Centre for Spacial Economics, an economics research firm based in Milton, Ont.

As for Ontario’s forestry sector, it is getting a major lift from the turnaround in the U.S. housing market. And, although forestry makes up only 3% of Ontario trade, it has strong growth potential, Hall says: “There are a range of forestry products that go into houses. Housing is a leading indicator, and the improvement in the [U.S. housing market] speaks loudly about the positive prospects for the rest of the U.S. economy and, thereby, for Ontario.”

Hall also foresees healthy potential export growth in the agrifoods sector, driven by the expanding middle-class populations in such emerging markets as China, India and Latin America.

Regarding government spending, little change is expected at both the federal and provincial levels. RBC believes fiscal restraint will be a drag on Ontario’s growth. The provincial deficit, at an estimated $11.9 billion in the current fiscal year, is difficult to chop due to rising pressure from health-care expenses and social programs. The provincial government is likely to show restraint in infrastructure spending and new hiring to maintain its goal of eliminating its annual deficit by the 2017-18 fiscal year.

But balancing the budget won’t be easy, says Hogue: “It relies on strict spending restraint and tough measures – and that’s easier said than done.”

Ontario’s unemployment rate is expected to drop slightly in 2013, with RBC predicting a rate of 7.7%, a tiny improvement vs 7.8% last year but still not as good as the forecast of 7.1% for Canada overall.

Ontario is on a slow path of improvement, Hogue says, and he expects the unemployment rate to fall to 7.4% in 2014 as Ontario reaps the benefits of the reviving U.S. economy.

 

Figures are from latest available reports/estimates

Sources: Statistics Canada; Government reports

Population: 13,505,900

GDP 2011 ($bil.): 605.2

GDP % change: +1.8

2012-13 deficit ($bil.): 11.9

Estimated net debt ($bil.): 255.0

Median after-tax income, all families: $53,700

household disposable income/capita: $28,660

© 2013 Investment Executive. All rights reserved.