Canada’s Retail Sales Side-Swiped by Tax Hikes and U.S. Sequestration

02/26/2013 by Alex Carrick

Canadian retail sales in December of last year were -2.7% month to month and -0.7% year over year, according to Statistics Canada. The percentage changes are based on seasonally adjusted and annualized current-dollar (i.e., not adjusted for inflation) figures.  

To frenzied shoppers, the year-end holiday crowds may have seemed as thick as ever, but apparently they failed to deliver. Retail spending is a lead indicator of how personal consumption expenditures (PCE) will perform in the national accounts. PCE is 55% of gross domestic product (GDP) in Canada.

Canada’s economy is slipping into a stall. It’s hard to see how retail spending can lift the pace in the short term. Our resource sector is waiting for global commodity prices to pick up. Our manufacturers are trying to carve out opportunities provided by stronger U.S. growth.  I’ll discuss the U.S. economy and how it has its own largely self-inflicted problems in a moment. But first, let’s talk some more about the Canadian retail scene.

The future for consumers in Canada will be held back by ongoing sluggishness in personal disposable income growth. This will be caused by strained government finances, more apparent at the provincial level than in Ottawa.

Facing a significant funding shortfall, the government of B.C. has just raised taxes on corporations and is about to re-introduce its provincial sales tax, after an attempt to harmonize the old PST with Ottawa’s GST led to a massive public outcry.

Alberta is facing a $4 billion deficit this year after over-estimating revenue from its oil and gas industry. The only province in the country presently without a provincial sales tax may soon no longer be able to make that claim.

Ontario’s ugly financial situation will also have to be addressed. The debt-to-population ratio in the province has been unfavorably compared to California, one of most fiscally-under-water states south of the border.

Target Corp. can’t be pleased to see Canada’s latest retail sales numbers. The company has spent the last couple of years converting former Zellers’ outlets, which it acquired from Hudson’s Bay, in order to launch its own brands in Canada.

You may have noticed that Target is beginning to advertise on Canadian TV. The assault by the U.S. retailing giant is forcing competitors to improve their marketing efforts and spruce up their storefronts and interior layouts. The result has been to pump up overall retail sector investment in the country.

The U.S. economy has been riding a wave propelled by stronger housing starts and auto sales. But political infighting is a deterrent to better expectations.

Automatic “sequestration” (i.e., across-the-board cuts to government spending programs) is set to kick in on March 1. This is the fall-out from failed budget negotiations in the summer of 2011.

A super-committee of elected officials was assigned the task of reaching a compromise on spending cuts and revenue increases to lower the deficit, under the threat that failure to do so would result in “sequestration”.

Few thought the penalty provision would ever be invoked. Circumstances didn’t play out as expected, however. The committee threw up its hands and abandoned its responsibility.

A resolution of what to do about the debt ceiling has since been punted down the road several times, with mid-March being the next deadline. And Washington has been forced to live with the embarrassment of a debt downgrade.

As of March 1, if no agreement is reached on the deficit, $85 billion must be trimmed from this year’s budget which expires September 30th and $1.2 trillion removed from expenditure accounts over the next nine years.

Washington is currently spending about $4 trillion per year. That’s within a GDP of $16 trillion.

The sources of federal government revenue are as follows: personal income taxes, nearly 50%; payroll taxes to cover social security and medicare, 35%; corporate income taxes, 10%; and estate, gift, excise and other taxes and fees, the final 10%.

As for outlays, there are relatively easy-to-remember rules of thumb. In equal chunks, three categories make up a total of 60%. At 20% each are: 1) social security; 2) medicare (for the elderly and the disabled) and medicaid (for the poor); and 3) defense spending.

Safety-net programs (e.g., unemployment insurance) and interest on the national debt also account for nearly 20% of the total, with the final one-fifth being spent on a range of items including transportation infrastructure, veterans’ benefits, federal education programs and science and medical research.  

The $85 billion in spending cuts this year won’t be a huge obstacle for the economy. As a proportion of GDP, it’s only about 0.5%. But it’s a marked deviation from the message most people would like to hear.

Many government workers will be asked to take unpaid leaves of absence (i.e., furloughs). Others will lose their jobs outright. The Congressional Budget Office (CBO) has estimated a possible loss of employment of 750,000. That will significantly take away from the two million new jobs that were earlier expected to be provided by the private sector in 2013.

Resulting inefficiencies will spread to the rest of the economy. Among other speed bumps, cargo logistics will suffer.  There will be longer delays at border crossings. And passengers will face longer line-ups to clear airport security.

Why aren’t the Democrats and Republicans doing more – or at least acting with a greater sense of urgency – to avoid this problem?

You know the answer. It’s politics. No wonder the electorate is becoming increasingly fed up with its representatives on the Hill. Each party thinks it has something to gain by letting the deadline pass.

The Democrats feel they can make political hay by blaming the Republicans for the stalemate. They keep saying that GOP intransigence over additional tax increases is the reason nothing can be done. (The higher taxes must now come from closing loopholes, since a rate hike for the wealthy was passed earlier this year.)

The Republicans volley the criticism back across the floor by pointing out it was the President himself who came up with the idea of sequestration, never mind that it was intended as a potentially punitive measure in order to ensure appropriate action.

More pertinent to the argument is the fact the Republicans truly believe that government spending should be slashed. The Tea Party faction within the GOP is adamant on the subject.

Yes, the GOP would prefer to see the spending cuts targeted with greater precision. The Pentagon will be asked to fall on its spending sword more – and with less regard to priority programs – than might be desirable. But to make a point, spending cuts will be welcomed in any form as opposed to taking no action on downsizing.

Mainly lost in the flurry of rhetoric is the latest estimate from the CBO on Washington’s deficit for this fiscal year and the direction of change. The CBO says the underfunding will fall to $845 billion. If so, it will be the first time the deficit has dropped below $1 trillion in the last five years.   

The timing of the sequestration will be a pity, if it happens. The U.S. economy has been building up a head of steam, offering hope to the world at large. The wide-sweeping retraction of public funding will be another extraneous and possibly unnecessary blow.

Thanks to the private sector, there will be “real” (i.e., inflation-adjusted) GDP growth in 2013 of +1.0% to +2.0%. But the advance won’t be as robust as it otherwise would have been. 
Total retail sales in Canada
Total retail sales in Canada
Data source: Statistics Canada.
Chart: Reed Construction Data - CanaData.
Canadian retail sales - three months smoothed
U.S. retail sales - three months smoothed
*"Year over year" is each month versus the same month of the previous year.
Based on latest three-month averages of current dollar adjusted data (and placed in latest month).
Data source: Statistics Canada.
Chart: Reed Construction Data - CanaData.
Canada vs. U.S. retail sales – total
Canada vs. U.S. retail sales – total
*"Year over year" is each month versus the same month of the previous year.
Based on latest three-month averages of current dollar adjusted data (and placed in latest month).
Data sources: Statistics Canada and U.S. Census Bureau (Department of Commerce).
Chart: Reed Construction Data - CanaData.
Canada vs. U.S. retail sales – new and used vehicles and parts
Canada vs. U.S. retail sales – new and used vehicles and parts
*"Year over year" is each month versus the same month of the previous year.
Based on latest three-month averages of current dollar adjusted data (and placed in latest month).
Data sources: Statistics Canada and U.S. Census Bureau (Department of Commerce).
Chart: Reed Construction Data - CanaData.