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In August, for the second consecutive month, Canadian real GDP was largely unchanged. A surge in sales of machinery, equipment, and supplies led to a 2.3 per cent increase in the Wholesale trade sector. Meanwhile, oil & gas extraction rose 1 per cent on higher extractions in Western Canada while mining and quarrying rose 4.2 per cent. Manufacturing, on the other hand, fell 0.6 per cent, declining for the third consecutive month. Offices of real estate agents and brokers fell for the second consecutive month, dropping 3.8 per cent as sales softened over the late summer. Overall, Canadian real GDP is now 3.6 per cent above its pre-pandemic, February 2020 level. Preliminary estimates suggest that output in the Canadian economy was again largely unchanged in the Canadian economy in September. 

With a flat August GDP number and September's preliminary estimate also flat, the Canadian economy is expected to have been largely unchanged since February, despite rapid population growth. Indeed, with the preliminary estimate for September, annualized third-quarter GDP is expected to contract 0.1 per cent, following a 0.2 per cent contraction in the second quarter. This would technically imply that the Canadian economy is in a shallow recession. Despite still too-hot inflation numbers, the Bank of Canada held its overnight rate steady at 5 per cent last week, giving the prior 10 rate hikes time to work through the economy. Given signs of weak growth and cooling labour markets, financial markets no longer anticipate additional rate hikes this cycle. 



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The Bank of Canada maintained its overnight rate at 5 per cent this morning. In the statement accompanying the decision, the Bank noted that there is growing evidence that higher interest rates are dampening economic activity, and it expects growth to be weak through 2024. On inflation, the Bank sees little downward momentum in its preferred measures of core inflation and expects inflation to average 3.5 per cent until the middle of next year before falling back to its 2 per cent target in 2025.  Notably, the Bank stated that it is concerned that price stability is slow and inflationary risks have increased. As such, it is prepared to still raise its policy rate further if needed. 

The combination of a slowing economy with inflation seemingly stuck in a range of 3 to 4 per cent muddies the outlook for rates over the next year, though as the Bank clearly stated, there is the possibility of more rate increases if inflation does not decline. Our bet is still that the impact of high interest rates will tip the economy at least briefly into negative territory, and that consumer spending will slow further. However, without significant progress on returning inflation to its 2 per cent target, households may be waiting longer than expected for relief on variable mortgage rates. Yields on five-year Government of Canada bonds have come down from their highs near 4.5 per cent but remain at their highest level in 15 years. Consequently, fixed mortgage rates have hit annual highs over 6 per cent, the impact of which is compounded by an increasingly punishing stress test. We expect five-year fixed mortgage rates may start to come down in early 2024 as bond markets price in future rate cuts by the Bank of Canada.  However, once the Bank lowers its policy rate back to neutral (2-3 per cent), fixed mortgage rates will settle at a level that is higher than borrowers have become accustomed to over the past decade. 
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