Persistent turmoil in financial markets and disappointing economic trends over the past two quarters prompted RBC Economics to cut its 2008 growth outlook for Canada to 0.9% from 1.4% on Wednesday.

The economic growth outlook report points to early signs of moderating housing and labour demand, alongside weakness in the U.S. economy, disappointing growth in the first half of the year, and tight credit. But the report noted that these factors will not necessarily lead to a recession in this country.

“The continued weakness in the U.S. economy is expected to dampen growth in Canada,” said Craig Wright, senior vice-president and chief economist at RBC. “However, this pressure on our growth will be tempered by strong commodity prices which are contributing to robust export revenues and providing support to Canadian domestic spending via a boost to incomes.”

The report noted that although Canada’s GDP for the first half of the year was weaker than expected, domestic demand was still strong.

For 2009, RBC expects Canadian economic growth to rebound slightly to a moderate 1.5%.

Among the provinces, RBC expects Saskatchewan to lead the way this year and next, thanks to strong resource revenues that are positively impacting incomes, business investment, and household spending. Overall GDP growth in Saskatchewan is expected to be 3.9% in 2008 and 3.5% in 2009.

“The province continues to enjoy the effects of recent exceptionally high prices for most of its key exports such as grains, oil, potash and uranium,” said Wright. “While these prices have come down from their peaks, they are expected to remain elevated well into 2009.”

Manitoba will follow closely behind, with expected growth of 3.1% for 2008, and 2.3% in 2009, carried by a strong labour market that’s fueling demand for housing and consumer goods.

In the west, economic conditions are beginning to deteriorate as housing prices fall and growth in consumer spending slows rapidly. RBC cut its 2008 growth forecast to 1.2% for British Columbia and 1.9% for Alberta, down from a previous forecast of 3.1% for the oil-rich province.

The Atlantic region is expected to display continued resilience and should sustain a moderate growth pace, the report said.

Weak external trade is continuing to take its toll on Quebec and Ontario. Quebec’s economic growth is projected to strengthen from an anemic 0.7% in 2008 to 1.4% in 2009, while Ontario’s economic growth will stall in 2008, and improve only marginally to 0.5% in 2009.

“With the U.S. economy slipping into recession, the vortex created will be nearly impossible for Ontario to miss,” said Wright. “While strong economic ties with our southern neighbour paid significant dividends during the economic boom of the past two decades, those ties have become a ball and chain around Ontario’s ankle, as export demand has soured.”

A key factor supporting Canada’s domestic economy overall has been a significant rise in the economy’s gross domestic income (GDI), and its positive terms of trade position, the report noted. RBC expects this terms of trade position to help Canada outperform U.S. GDP growth next year.

Credit crunch to weigh on U.S. economy

Despite stronger than expected growth in the United States in the first half of 2008, RBC expects the tightening credit to have a more severe impact on the U.S. economy in 2009. Combined with deterioration in financial markets that is keeping borrowing costs elevated and weaker consumer spending, RBC expects U.S. economic growth of just 0.2% in 2009, down from a previous forecast of 2%.

“This weakening in the U.S. economy is being exacerbated by high gasoline prices, a softening labour market and an erosion in Americans’ net worth,” said Wright. “This is being overlaid on top of the unwinding of the fiscal stimulus package effect which will dampen consumer spending activity.”

IE