Blue Book: 2021 British Columbia Outlook

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British Columbia. Click here to play video.

Robert Kavcic | March 31, 2021 | Economic Insights

Robert Kavcic | March 31, 2021 | Economic Insights

BMO recently held a virtual event to provide an in-depth discussion of the annual Blue Book. Douglas Porter, BMO Financial Group’s Chief Economist, provided an overview of the macroeconomic indicators across Canada, while I discussed the provincial economic trends.

Following a relatively modest decline in 2020, economic growth in British Columbia is expected to outpace the rest of the country in 2021. While we saw a significant shock to the labour market from a historical perspective, the province held up quite well relative to other regions. The housing market, meanwhile, is particularly strong, with accelerating price growth and steady residential construction activity.

While some headwinds remain, including a struggling travel and tourism industry, the province’s booming real estate market, as well as its thriving technology and professional services sectors, bode well for its prospects in 2021.

Read the entire Blue Book here.

Transcript

Robert Kavcic:

Great. Thanks a lot, Doug, and thanks everyone for coming on and having us on. What I'm going to do is I'm going to cover a few big themes here going forward. The labor market, the housing market, and fiscal policy. I'm going to do so with the focus on British Columbia specifically. I do understand that those are very big topics. 10 or 15 minutes probably is not enough to do them justice, but we'll do what we can, and of course, we do have some Q&A to follow as well, where we can circle back on some of these things.

First of all, if you look across the Canadian landscape and Doug laid out the national forecast. When you drill below the surface, one thing we usually caution is that the headline Canadian numbers typically do mask a lot of variation across the different regions of Canada. Some are strong when oil prices are strong, others like Ontario, Quebec, British Columbia, pre-COVID were driving economic growth. What's unique about this situation now is that the global economy more broadly, pretty well, every province in Canada suffered a very extreme shock last year. Every other province in Canada is experiencing a very strong rebound now and into 2022.

You can see the growth numbers there and they do vary a little bit by region. Effectively to some degree, all provinces in Canada have dealt with a significant hit and are in recovery mode now. British Columbia stands out positively, I would say here. First of all, the decline last year was a little bit shallower than the rest of Canada overall, especially the bigger two provinces in Ontario and Quebec. The recovery now is looking quite a bit stronger as well.

I would say part of that is the result of better health care outcomes in BC. The pandemic era was never as steep as some of the other provinces and as a result of that, we never saw the aggressiveness in terms of lockdown measures that we saw in areas like say Toronto or Montreal. That helped last year and then this year, we're seeing momentum not only as the economy picks up, as some of these restrictions do come off, but the resource price backdrop has been very friendly. Lumber prices, base metal prices, which you don't tend to hear too much about are actually supporting economic growth in BC quite a bit.

We tend to focus on what real GDP is doing or a real economic output when you consider what's happening in a lot of these resource sectors. The value in dollar terms of economic output is going to look even stronger than these real growth numbers would suggest. From British Columbia's perspective, that's quite strong. Of course, the housing market is come back extremely fast, which I'll touch on in a few minutes. At the end of the day, as we do settle back into some semblance of normalcy post-pandemic, we do continue to believe and this was the case pre-COVID as well, that British Columbia just has a faster run rate than some of the other provinces like Ontario and Quebec.

We do think the province continues to lead and from that perspective, I think it's still a very good news story in BC. With respect to what's happened in the labor market, obviously we did see a pretty significant shock in the province from a historical perspective, be it the jobless rate or the hit to employment. On a relative basis, British Columbia has held up actually quite well. If you look at where we are today, Canada-wide, we're still looking at employment that's about 4.5% below pre-COVID levels. In British Columbia, we're only down about 1.5%.

I say only carefully because that's still a pretty significant shock, but if you consider the size of the hole that some of the others like Quebec and Ontario still have to dig out of, British Columbia starts to actually look quite good. In fact, if you look across a wider range of industries and compare them to pre-COVID levels, things like home sales, retail sales, manufacturing, wholesale activity, British Columbia across most of the spectrum has already recovered. The other takeaway here is when we focus a lot on growth.

The reality is that the level of economic output in British Columbia is running quite a bit stronger now versus pre-COVID levels than anywhere else in Canada. That certainly just highlights the fact that BC has come through this relatively well and we are still optimistic. Drilling a little bit further into the labor market. One thing we see is that there are still obviously some sectors that have been hit quite a bit harder than others.

This chart is telling in that if you plucked the various sectors and where they are on employment basis versus last February, what you're looking at here is as you move left to right on this chart, you're moving basically from weak to strong in terms of employment growth versus last February. If you go from the bottom to the top on this chart, you're moving up the wage scale. Pretty clearly, you can see where at the industry level, the employment impact is still lingering.

It's an obvious areas like accommodation and food, industries related to travel, industries related to a very close face-to-face type of services. In some cases, those industries are still down 15% to 30% across Canada for pre-COVID levels. If you look over to the right of that vertical bar, those are industries that are not only back to where they were pre-COVID but they've actually seen employment rise above those levels.

Areas like finance, professional services, industries that are much higher on the pay scale have held up quite a bit better. When we look at say Vancouver, for example, yes, we've seen this very fragmented labor market where, because it's a big urban center, the restaurants and the retail type of employment have been really held back, but the flip side is that a lot of other sectors that are predominant in a big market like Vancouver, like the finance and the tech, they've come back actually very well. That's probably the next of this recovery as we reach something that looks more like hard immunity and as we get into 2022 when these restrictions can come off more significantly.

That's when we're going to start to see those sectors on the left side of this chart start to make some ground back and there is a lot of ground still to be made up there. The other takeaway from this is that, and as we shift over to the story on the housing market, that the highest paying sectors in Canada have not only recovered, but they've seen employment rise above where they were pre-COVID. One of the questions, when we look at the housing market here, is how did this market fare so well and come out so strong considering the shock that we've seen to the labor market?

One of the answers is that, well, the area of the labor market, where the vast majority of homebuyers would be as opposed to renters lower down the wage scale, has actually held in very well and come back very quickly. From that perspective, the income side of the demand curve is held up very well. A layer on to that, a very, very aggressive transfers from the federal government down to the household level, this is a very unique recession, in that we've actually seen household disposable income rise, which historically we have never seen.

To be sure, some of that is finding its way into the housing activity as well. You throw on top of that record-low mortgage rates. Five-year fixed rates right now are running in the 1.5% to 1.7% range. Probably have seen the lows on those for this cycle as longer-term bond yields have backed up, and we've started to see some movement on the mortgage rate front. For sure, that has helped stimulate the demand curve as well. Then really, the big factor here has been the shift in preferences away from the core of the big cities to single detached homes, to the homes with more space, and to homes a little bit further outside the core.

Given this whole shift to work from home for a lot of individuals in various sectors of the economy has opened up this affordability valve so to speak, where rather than being tired within like an hour of commuting distance of a major urban center like Vancouver, we've now had this little bit more freedom to push out one to two hours away from the city. That's really where the strongest markets in Canada are right now. In BC specifically, Fraser Valley and the Okanagan are just start off the charts strong with gains versus a year ago, upwards of 25% to 30% in some of those submarkets.

Yes, there's a bit of uptake of recreational property there too as well, just given that incomes are up, and people just really don't have anywhere to go. There's nowhere to travel and spending on services is constrained. We've seen extremely heated demand for this type of real estate. Where we go from here is the real question. Part of this shift, I would say is permanent. We've been actually, bullish or defenders of the Canadian housing market for a long time. Especially the single-detached market, because there is a pretty big demographic force at play. Being the baby boomers [unintelligible 00:22:43] or the millennials.

I do think that this migration out of the major cities was a trend that was waiting to happen anyway. In fact, year after year, you tend to see this outward migration from the bigger cities to some of the perimeter parts of the provinces, that happens to have accelerated pretty dramatically during COVID, but I think what you do see here is that the pandemic, it pulled forward a lot of this shift in relative demand into a very short window that was going to happen over a gradual period of time anyway.

I think some of it is here to stay. We're probably not going to go back to pre-COVID pricing on single-detached homes in some of these smaller perimeter markets. I do think that we're running at 20% or 30%, year over year, and this is not sustainable, I get this sense that there's a little bit of speculative activity starting to come into the market here as well. I can very well see as mortgage rates do backup and as the pandemic winds down and the rush to vacation properties and the rush out of the cities subsides, we do give back some of the gains we've seen in prices in some of these markets.

Maybe it looks like what we saw back in 2016, 2017, after some froth came out of the Vancouver and Toronto markets during that period. A complete reset to the valuations or to price levels that we saw before COVID is just probably not going to happen either. I don't think we're going all the way back. The other aspect of this and I know we don't have time to go into all the weeds here, but the condo market has been quite a bit more stagnant in the major cities in Canada and Vancouver included simply because the economics there have changed.

For one, the movement has been away from the city for now, which I do think is probably temporary longer term but for now, we are seeing flows away from the city and because of that, we've seen vacancies pick up and we've seen rents depressed and as a result of that from an investment perspective, the economics have changed a little bit on the condo side. The short-term rental market, for example, which was filling in a lot of the cash flow that the condo market from a long-term rent perspective, couldn't carry pre-COVID. Well, that market is dried up right now. We've actually seen condo prices more or less hold flat. Some of the smaller units have corrected a little bit, but by and large, that's a market that's been pretty soft right now. Is it going to come back? I think we're going to probably over the course of 2022 start to find a footing in some of those areas as the cities come back to life. I do think they will. From a fiscal perspective, I'll change gears a little bit here and take a quick look at what government finances are doing right now.

Just to start off at the provincial level. This is a quick chart to lay out how the provinces ranked from a fiscal perspective. This is the fiscal year that's just winding down now. What you can do here on this chart is if you look up the vertical axis, that's the deficit growing as you go up as a share of GDP, and as you go out across the horizontal axis, that’s a net debt as a share of GDP. Again, growing as you go out. Where you want to be on this chart is down in the bottom left corner ideally.

British Columbia is the last remaining AAA credit. Possibly a credit if we're being frank here that might be at risk just given that British Columbia has very quickly moved up from right down in the bottom left corner of this chart up and to the right. From that perspective, we have seen government finances deteriorate a little bit in the province, for sure. On a relative basis though, look at where British Columbia is versus the group, we're still in a very favorable situation.

I think that deficit is going to come down pretty quickly as the economy recovers and some of the temporary support measures roll-off. They probably already have seen peak deficits in the provinces. From a debt perspective, British Columbia especially compared to its bigger peers and Quebec and Ontario, still magnitude is lower on a debt perspective and on a borrowing perspective. BC does still come to financial markets and borrow for less than Ontario and Quebec, even though we have seen the province backslide a little bit on some of these fiscal metrics.

Probably the more important thing here though is when you consider the provincial fiscal picture, yes, all provinces on this chart have moved up into the right over the past year but Ottowa and the federal government have done the vast majority of the lifting and they've provided the vast majority of this support and really taken a lot of the burden of what could have been down at the provincial level. $275 billion of direct spending support from Ottawa has flowed through programs, like the Serb and the wage subsidy.

That was more or less designed to just get money out fast and in bulk in order to keep households and businesses liquid and solvent through this downturn. When policymakers come back and say, "Okay, from a healthcare perspective, it's okay now to start opening back up and go back to your everyday lives," kind of thing, that there are actually still businesses there to come back and turn the lights on. That's what fiscal policy to date has done.

Potentially, there's more stimulus coming and we'll see what form that takes. I would say that the size of this deficit, as you look at this chart here, you say, "Wow, that's 380 billion." That's extremely big. Canada is going to be in some tough shape here. I would say yes, there's going to be some work to do but there are few factors that ease the concern a little bit. One is that, you got to keep in mind that everybody is more or less been in this same boat together.

Canada has, yes, they've offered up more stimulus than most other countries and they've seen the relative deterioration in their budget balance a little bit more significant than a lot of other countries, but Canada came into this in a much more favorable position as well, especially from a net debt perspective. They did have capacity to stimulate the economy coming into this.

The other factor here is that if you look at what it's costing Ottowa to service these deficits and to borrow right now. It's actually very favorable because of the low-interest-rate environment that we’re in. Just as an example, Ottowa right now spends about 7 or 8 cents on every dollar of revenue servicing debt. If you go back to the 1990s when we had a real fiscal situation in Canada, Ottowa was spending about 35 cents on every dollar to service the debt. From that perspective, we do have some wiggle room. Another thing is look how quickly that deficit can potentially come down in the years ahead.

Just by not doing anything over the next year or two, that deficit's going to consolidate a lot. By not extending a lot of these massive support programs by potentially not spending all of that hundred billion dollars of possible new stimulus over the next three years. By letting the economy rebound in what should be a very strong fashion based on the forecast we've already discussed, that should bring revenues back pretty quickly. Just by taking their hands off and letting things evolve, we could very quickly be looking at a deficit that's more around five, six, or mid-single digits as a percent of GDP. Very quickly, it'd become something that looks a little bit more reasonable.

Then obviously from there, there might be some more work to do to bring the rest of that into balance. I do think that there's potential for some pretty good fiscal consolidation ahead. Then just to wrap it up before we switched to some Q&A. A few, just final thoughts on British Columbia. It's pretty clear that we're optimistic and we're positive on the province. I think just the course that has navigated through the pandemic has been the biggest one. The real estate is obviously on fire again across most of the province.

Areas like technology professional services are really where we're seeing employment growth being driven right now, as well as the resource sector, which has been one of the really big surprises coming out of this. We did not expect those sectors to come back as quickly as they have. On the challenges, the one thing I would say is that travel and tourism. Yes, we're gearing up for an environment where we could see travel flows returning. It might take a little bit longer to get there. Realistically, maybe it's a 2022 story. I do think there's going to be a pretty tremendous pent-up demand for things like travel and tourism as we take the shackles of the pandemic off, so to speak.

Affordability is always an issue. Then I would say that the fiscal situation is on a relative basis is one that's still quite positive, but it's probably an area that's worth keeping an eye on just given some of the priorities shifting around at the provincial level from a financial perspective. I will leave it at that. Then I will turn it over if we want to queue up some of the Q&A.

Robert Kavcic

Director and Senior Economist

Robert has been with the Bank of Montreal since 2006. He plays a key role in analyzing economic, fiscal and real estate trends in Canada. Robert regularly contribut…(..)

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Read the entire Blue Book here.

This is part 3 of a 7-part series on

Blue Book: 2021 British Columbia Outlook

PART 1