This morning, the Bank of Canada released its Summer 2020 issue of the Business Outlook Survey (BOS). This is a key economic release, as markets and economists find it to be a reliable indicator of business sentiment and expectations. To no surprise, the headline business outlook indicator and its components tumbled lower, reflecting the fallout of the pandemic and energy shock.
In my mind, there are two key takeaways. First, although the responses are terrible it is interesting that the numbers are less negative than during the 2008/09 recession. The implication is that while the economy is likely to experience a contraction more than twice as deep as the last recession, business sentiment in 2020 is proving more resilient during this crisis. This likely reflects expectations of recovery as the economy reopens. The survey was done from mid-May to early June, just as the early stages of reopening began occurring. Second, the outlook and inflation elements of the BOS suggest that, while business are optimistic about a recovery, they expect it to be slow or protracted.
The headline Business Outlook Indicator dropped from a modest reading of 0.8 in the fourth quarter of 2019 to a reading of -0.5 and -7 in the first and second quarters of 2020, but this is less negative than the -8.25 trough during the 2008 recession. If the reopening supports a robust pace of recovery, the BOS should improve in the next report. If a second wave derails growth, it is possible that the BOS may not have reached its low in the current cycle.
In terms of the subcomponents, many are reported as a balance of opinion, which subtracts positive responses from negative responses. By this metric, 44% more businesses reported a drop in sales over the past 12 months. Similarly, 56% more firms report that their indicators of future sales have deteriorated while 35% more survey participants expect weaker sales over the next 12 months. The difference between the indicators and expectations likely reflects the anticipation that the reopening will lead to a recovery in sales, albeit weaker sales than previously anticipated pre-COVID. Half of exporters expect sales to decrease in the coming year, highlighting Canada’s exposure to the global recession. It is interesting to note that manufacturing exporters expect sales to recover, but service sector exporters do not. Overall, 40% of all businesses report that sales should fully recover in the next year and close to 15% expect sales to mostly recover, while almost 45% only expect a partial or no recovery in sales.
The survey also shows how businesses are responding to the downturn. On balance, 30% more firms plan to scale back investment spending in the coming year in response to weaker domestic and foreign demand. Those that intend to increase investment are focusing on digitalization, productivity improvement, or investments to help staff work from home. Close to 60% of respondents expect their staff to fully return or did not lay off staff. 11% expect most staff to return. That means that roughly 30% have reduced their payrolls. Hiring plans are low, with only 22% more firms looking to hire, but this is better than the negative reading during the last recession when the balance of opinion was a contraction in hiring for two consecutive quarters.
On balance, firms expect slower price growth. Many service sector companies expect lower input prices, while other firms expect higher input prices from disrupted supply chains and a weaker Canadian dollar. Businesses are less divided on the outlook for output prices, with 20% more businesses anticipating slower output prices. Inflation expectations fell to a near-record low, with 25% of respondents expecting inflation below 1% and 37% expecting inflation between 1% and 2%. I would highlight, however, that inflation sentiment was lower during the last recession in 2008-09.
The sentiment of credit conditions suggests a tightening in credit conditions, but dramatically less than in the 2008 financial crisis and reflecting fiscal and monetary policy efforts to keep credit flowing during this crisis.
The Business Outlook Survey captures the precipitous drop in sales associated with the pandemic and lockdown. The forward-looking elements suggest a slow recovery. But, it is heartening to see that business sentiment is less negative than during the last recession, implying that there is more hope during a worse economic environment.
The latest results of the Canadian Survey of Consumer Expectations were also released today. This survey was based on responses from individuals between May 11 to June 1. Inflation expectations in the short-term increased, likely reflecting increased food prices. However, the prices for many goods have fallen, such as gasoline, but demand for these products has also declined. As a result, we are in a situation where consumers are feeling higher prices for essentials but not appreciating the lower prices for non-essential or goods consumed away from the home. In contrast, inflation expectations for two years from now were stable and five years from now declined. The Bank of Canada flagged that there was more divergence in the views compared to prior surveys, highlighting the high degree of uncertainty at the moment.
Labour market expectations plummeted, which is not surprising given the millions of jobs lost since the beginning of the year. The expected probability of losing a job in the coming year jumped to 18%. Expectations for wage growth have weakened, with most respondents expecting wages to grow by less than inflation.
Expectations of spending growth dropped by more than the expectations for wage growth, suggesting consumer caution. There was a perception that access to credit has deteriorated and that home price growth is likely to be close to zero.
In the wake of COVID-19, consumers expected to spend more on groceries, shelter, and health and personal care. Conversely, they were expecting to spend less on travel and transportation, restaurants and entertainment, big-ticket items (cars and appliances), education, and clothing. This lines up with recent Stats Can retail and wholesale expenditure data.
Overall, these insights on consumer expectations were not a surprise. The report seemed to be a snapshot of where the consumer was, rather than where the consumer might be going.
