A cold winter for the Canadian and US economies?

For 2024, these trends are likely to remain. The US remains resilient based on strong household real income growth, which supports consumer expenditures. Canadian data, however, are likely to remain weak.

Inflation has come down a lot faster than expected across the global economy. This includes Canada as well as the US. But there is still work to be done. In Canada, for instance, wage inflation continues to run at a rate that is well above a pace consistent with the Bank of Canada’s (BoC’s) inflation target.

We do expect wage inflation to moderate further, as the labour market loosens in response to weak economic activity. But the BoC is set to walk something of a tight rope as it waits for weaker wage data to print. Until that happens, it faces a tug of war between weak economic activity and still too strong wage inflation.

The situation’s a little bit different in the US. The key inflation metric — the personal consumption expenditures (PCE) price index — returned to the Fed’s target in the second half of 2023. The challenge for the Fed is to cut interest rates at a pace that doesn’t provoke too much growth, which could reignite inflation, but also doesn’t leave the US economy with too high a real interest rate, which could ultimately threaten the Goldilocks soft landing.

Markets are pricing almost perfection for the Fed and the BoC in terms of the outlook for their interest rate policy in 2024. For both of them, the markets are pricing about 140 basis points of cuts in the next 12 months alone — as of February 8, 2024. That implicitly assumes that growth in the US will remain resilient and inflation benign. In Canada, it assumes that the wage inflation data mentioned will quickly return to a level that is more consistent with the BoC’s 2% inflation target. We think that’s asking a lot.

This kind of soft landing being assumed by the market is historically rare. That suggests to us that although key central banks will begin easing in 2024, they will not likely cut quite as much as the market implies. In other words, cautious optimism.

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