What the new NAFTA means for you: Higher rates, stronger Canadian dollar (and less anxious boss)

Briefing highlights

• What the new NAFTA means
• Canadian dollar tops 78 cents
• A USMC scene I’d love to see
• Global markets on the rise so far
• New York poised for stronger open
• Tesla surges after deal with SEC
• Finances in focus as Quebec votes
• 'Oh, that interesting car of yours!'
• What to expect in jobs, trade reports
• What else to watch for this week
• GE chief steps down
• Encana sells New Mexico assets
• Husky stalks MEG Energy

From NAFTA to USMCA

Economists are still scouring the details of the new North American trade pact, but here are a few things you can count on: Higher interest rates, a stronger Canadian dollar and a less anxious boss.

As The Globe and Mail’s Robert Fife and Adrian Morrow report, Canada and the U.S. struck a tentative deal to bring Ottawa into a new pact that will be known as the United States-Mexico-Canada Agreement.

Ottawa made several concessions to the U.S., which already had a deal with Mexico, to remake the North American free-trade agreement, something President Donald Trump had pledged.

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The new pact brings certainty to Canadian businesses, possibly including your boss, and consumers, though some economists lament some of the results.

“While Canada seems to have gotten the short end of the stick, the outcome should not be surprising,” said National Bank Financial senior economist Krishen Rangasamy.

“With 75 per cent of Canada’s exports going to the U.S. and less than 20 per cent of U.S. exports coming to Canada, it was clear from the outset who stood to lose the most from trade barriers,” he added.

“But a deal is better than none, especially if it allows Canadian exporters to ship most of their wares tariff-free to the world’s largest market.”

But “on the five big extreme demands the U.S. made at the start of the negotiations, last year, Canada fared better than expected,” said Brett House, Bank of Nova Scotia’s deputy chief economist.

“The USMCA minimizes damage and preserves tariff-free access for nearly all of our trade with the U.S.”

Among Mr. House’s five: The sunset clause of 16 years is “far better” than the five years the U.S. had proposed. The dispute-settlement scheme was preserved. There was no change to government procurement. The auto rules of origin are lower than the U.S. first sought, and supply management wasn’t killed off.

And for a “surprise,” he noted, there’s a clause allowing cancellation of the pact if any of the countries strike a free-trade agreement with a “non-market economy.”

“That’s surely an attempt to hinder an FTA between Canada or Mexico and China.”

American farmers will be able to sell more to their northern neighbours. The deal also caps the level of Canadian auto exports, but well above the current norm.

“Clearly, this is a major relief for Canadian financial markets and the economic outlook,” said Bank of Montreal chief economist Douglas Porter.

“While most were assuming a deal would get done eventually, there was just enough uncertainty to keep the currency, investors and business on edge.”

The deal in fact helped boost global markets today, and gave the Canadian dollar a bit of a pop, sending the currency above 78 US cents.

Here’s how the deal will likely affect you:

INTEREST RATES

The Bank of Canada has already been raising interest rates from the lows of the financial crisis and the oil shock, and is expected to do so again later this month.

Indeed, economists believe resolution of the trade issues cements that thought, and could prompt the central bank to now move higher, faster. Governor Stephen Poloz, senior deputy Carolyn Wilkins and their colleagues had been watching for what a collapse of NAFTA could mean for the economy.

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Higher rates will be a blow to many, who are already struggling under massive debts, and further strain affordability in high-priced housing markets such as Vancouver and Toronto.

Remember, the key measure of household credit market debt to disposable income now stands at 169.1 per cent, which means we owe $1.69 for every loonie we have to spend.

The debt service ratio has also been rising.

“For the BoC, this clearly gives them a green light to hike in October, and does bump the odds of further rate hikes over the year,” said BMO’s Mr. Porter.

Toronto-Dominion Bank chief economist Beata Caranci agreed: “We may also see BoC rate expectations for 2019 alter, with the balance of risks being for more, rather than less, hikes.”

She raised an interesting point, though, noting that the central bank’s base-case scenario included “some negative judgment” on investment and export growth that took into account the impact of trade uncertainty.

“They already have above-trend forecasts for 2019 of 2.2 per cent [economic growth] … so will this now imply a faster pace of growth, and by extension, rate hikes if the risk is removed?” Ms. Caranci said.

“Reasonable to assume yes,” she added.

“However, the BoC has made clear they are data dependent, so they’ll probably need to see stronger-than-expected growth come through the actual [investment and export] data next year for this to be true, but certainly the odds become more favourable that a finalized trade deal can unleash some pent-up demand.”

CANADIAN DOLLAR

While a stronger currency is no friend to Canadian exporters, it will make a difference to consumers and travelers, giving the latter greater buying power when they vacation in Florida, California, New York or wherever.

It also lowers the cost of imports. And note that the new trade pact would allow Canadian shoppers to more American goods than currently allowed online without being hit by duties. That goes to $150 from $20, with no sales taxes on less than $40 in merchandise.

“Canadian consumers will enjoy lower prices and faster delivery times due to less customs processing,” BMO said in a report.

“Small and medium sized Canadian businesses that buy U.S. supplies online will save on administration costs and face

fewer delivery delays, reducing uncertainty in their supply chain. However, Canadian retailers will lose out due to the relative loss of competitiveness.”

How high the loonie goes, however, is a big question. It certainly hasn’t done the high jump yet, though National Bank’s Mr. Rangasamy forecast today that the currency will be at 80 US cents by early next year.

TD’s Ms. Caranci said the currency could reach her “fair value” level of 79 to 80 US cents earlier than projected for two reasons, one of them being speculation of higher rates from the Bank of Canada, which are loonie-friendly.

As well, “the CAD had an embedded trade discount … and we saw this come through when the U.S.-Mexico deal was announced a month ago, and CAD rallied 1 per cent without even being at the table,” she said, referring to the loonie by its symbol.

Some observers have questioned just how high the currency can go.

“For markets, the Canadian dollar has had a nice early pop, but it’s doubtful that it will run much further – unless Canadian oil prices can more firmly benefit from global gains,” BMO’s Mr. Porter said.

“As well, the reality is that Canada continues to deal with many competitiveness challenges above and beyond NAFTA.”

Bipan Rai, North America head of foreign exchange strategy at CIBC World Markets, expects the loonie to rally, but cited the pitfalls ahead.

“Put simply, we don’t envision a rush of additional investment into Canada at this time,” he said.

“Given that, we still see USD/CAD risks are asymmetric and favouring the topside over the medium-term.”

Among his issues are the fact that fatter household debts in Canada suggest the central bank’s so-called neutral benchmark rate is lower than that of its U.S. counterpart, meaning rate hikes can only go so far compared to those of the Federal Reserve.

As well, “existing external imbalances in the Canadian economy flag the need for a weaker CAD.”

And, like Mr. Porter, Mr. Rai also cited competitiveness as holding back economic growth.

“Still, the market will need to process this, and gaps lower just don’t happen that frequently in USD/CAD,” Mr. Rai said.

“Positions will need to be exited – even if they’re not all that egregious in the CAD’s case.”

Where the loonie’s concerned, a big question is how much is already priced in, added Mark McCormick, North American head of foreign exchange strategy at TD Securities.

“We don’t think this possible new deal is much of a game-changer, and think the most likely outcome is to reinforce recent ranges and further reduce volatility,” he said.

“After the dust settles, we the think the USDCAC should maintain the 1.28 to 1.32 range.”

Those numbers translate to a loonie at 78 US cents and just shy of 76 US cents, respectively.

A last note here: The deal specifies that the three countries live by exchange rates that are determined by the market, which they already do. But this sets a framework for other deals with other countries that would demand they cannot devalue their currencies for competitive reasons.

YOUR BOSS

If you’re in a NAFTA-sensitive business, as many Canadians are, don’t be surprised if your boss has more of a spring in his or her step today, depending, of course, on how late he or she stayed up to monitor developments.

The bottom line is that, even amid the concessions, a deal means greater certainty, at least for now.

“With this major source of uncertainly hopefully removed, probably some capital spending plans will be unlocked, and policy makers can refocus on longer-term issues,” Mr. Porter said.

Where certainty is concerned, the deal dies 16 years after it comes into force unless each country agrees to a new 16-year term.

And, importantly, there’s a “joint review” on the sixth anniversary. That could see fresh recommendations from each country.

“Firms may be reluctant to invest or expand operations considering market access to the U.S. could potentially be cut off in the future,” Mr. Rangasamy said.

“But six years is a long time and it’s always possible Canada gets a better deal from a friendlier White House after the 2024 U.S. presidential elections.”

Given most economists expected a deal at some point, they aren’t changing their economic growth forecasts at this point.

“For the economy, while we wouldn’t change the outlook yet – we, too, were assuming a deal would get done – but it does put some upside risk to the growth outlook, rather than the lingering downside risk from the uncertainty on this file over the past year,” Mr. Porter said.

BONUS

British Columbia “shall eliminate the measures which allow only BC wine to be sold on regular grocery store shelves while imported wine may be sold in grocery stores only through a so-called ‘store within a store,’ and such contested measures shall not be replicated.”

Read more

• Robert Fife, Adrian Morrow: Canada, U.S. reach tentative NAFTA deal; Trump approves pact
• Stephanie Nolen: Mexico may have lost most with new NAFTA deal, but calls it a win
• Campbell Clark: Canada made concessions on NAFTA but new deal avoids major damage to economy
• Barrie McKenna, Eric Atkins: NAFTA deal a heavy price for Canada’s dairy farmers
• James Bradshaw, Andrew Willis, Tim Kiladze: Trudeau briefs CEOs of Canada’s Big Five banks ahead of Sunday NAFTA deadline
• Read the agreement
• When it comes to jobs, pay and prices, most North Americans question NAFTA’s payoffs
• Adrian Morrow, Michelle Zilio: Trump says he rejected one-on-one NAFTA meeting with Trudeau
• Adrian Morrow: NAFTA deal must include protection from U.S. metal, auto tariffs, Trudeau says
• The incredible shrinking loonie: NAFTA scenarios for the Canadian dollar and Bank of Canada
• NAFTA’s saga so far: A guide to trade, the talks and Trump

A scene I’d love to see

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Markets at a glance

Read more

• Follow our Inside the Market

Tesla surges

Shares of Tesla Inc. are surging after the company and its chief executive officer reached a settlement with the Securities and Exchange Commission.

Tesla and Elon Musk will each pay US$20-million under the terms of the deal, and Mr. Musk will quit as chairman, but remain CEO.

At issue were tweets posted by Mr. Musk about taking Tesla private.

Read more

• Tesla, Musk to pay $40-million to settle tweet charges, Musk to resign as chairman

What to watch for this week

Politics aside, businesses, investors and credit rating agencies should be satisfied with the results of today's Quebec election.

There are some potential twists and turns, though.

“In terms of policy, the parties seem somewhat aligned on a few points, with arguably the most important being their shared commitment toward reducing Quebec’s mountainous debt load,” said Toronto-Dominion Bank economist Rishi Sondhi, referring to the race between the Coalition Avenir Quebec and the incumbent Liberals.

"This should appease credit rating agencies and help shore up business confidence."

But there could be some “interesting deal-making” in the event of a minority government, added BMO senior economist Robert Kavcic, noting that the province is doing better than it has in at least 15 years where finances and the economy are concerned.

And remember, immigration is a big issue this time around.

"One key question for businesses and investors is: Will a shift in government mark a shift away from very market-friendly policies of the past few years?" Mr. Kavcic said.

"The short answer is probably not," he added.

"The CAQ pledges more power for Quebec, but calls itself a nationalist party, and has pledged various measures to reduce red tape and taxes, promote entrepreneurship and business investment."

Along with that is the fact that the CAQ promises a fiscal path similar to the one from the pre-election government.

"Of course, if a minority government forms, this platform will be pulled in one direction or another in order to gain support," Mr. Kavcic said.

"Indeed, if one of the smaller parties with more extreme views ends up holding the balance of power, the recent period of calm could be disturbed somewhat."

Read more

• Konrad Yakabuski: Quebec’s ‘great shattering’: In this election, the old politics are over
• Barrie McKenna: Why Quebec’s good-news economic story can’t save Philippe Couillard
• Les Perreaux: Surging left-wing Québec solidaire could hold sway in minority government //is this missing a hyperlink?
• Robert Everett-Green: The passion of Pauline Julien – and the fading dream of sovereignty for Quebec

What else to watch for this week:

MONDAY

Markets get a look at the state of the world's manufacturing sector as purchasing managers index readings pour in from several countries.

Investors will pay particular attention to the measure reported from the U.S. Institute for Supply Management.

"Anecdotal evidence from the Fed’s Beige Book suggests that manufacturers are starting to feel the effects of tariffs in the form of higher input costs but activity remains brisk," said Katherine Judge of CIBC World Markets, referring to the Federal Reserve's latest look at regional conditions across the U.S.

"Although regional surveys were mixed in terms of indications of activity, the ISM manufacturing index reached a cycle high in the previous month and is likely to pull back a bit in September to 59.6, a level that is still suggestive of solid manufacturing activity."

The 50 mark in a PMI is the line between expansion and contraction.

TUESDAY

Markets will be watching for what Fed chairman Jerome Powell has to say when he speaks to the National Association for Business Economics in Boston.

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He's not likely to give any new clues, however, as he held a news conference just last week when he and his policy-setting colleagues at the U.S. central bank raised their benchmark rate and released fresh projections.

At home, Canada Mortgage and Housing Corp. releases the results of its latest stress tests.

Watch, too, for the latest from Australia's central bank.

"Although the Reserve Bank of Australia is likely to note the strength of the recent news on the domestic economy, it will probably leave interest rates unchanged at 1.5 per cent at Tuesday’s meeting," said Paul Dales of Capital Economics.

WEDNESDAY

Remember what Goldfinger told Bond when 007 woke up on the laser table after a thrilling car chase complete with the famous Aston Martin ejector seat? "Oh, that interesting car of yours!"

“Can Aston Martin vanquish the doubters as it looks to begin trading on the London market on Oct. 3, with a valuation of £5-billion?” asked CMC Markets chief analyst Michael Hewson.

"The shares, which are expected to start trading between £17.50 and £22.50 a share, would give the company a similar valuation to Ferrari at the top end of its range, and is likely to be oversubscribed."

(I so badly wanted that car when I was a kid. My dad, though, a tailor, actually went so far as to sew a cardboard ring into a bowler hat, and it actually flew through the air just like Oddjob’s.)

THURSDAY

If you're interested in booze, pot or just plain investing, watch for second-quarter results from Constellation Brands Inc., which recently took a hefty stake in Canada's Canopy Growth Corp. in what signalled a transformational move in the runup to legal marijuana on Oct. 17.

FRIDAY

There are four key reports: job market readings in Canada and the U.S., and trade measures, also in both countries.

There's little point trying to guess what Statistics Canada will say about jobs, given the volatile nature of these monthly reports.

But for the record, economists project the labour market reading will show job creation in September of anywhere between 6,000 and 32,000 positions and the unemployment rate dipping to 5.9 per cent or holding steady at 6 per cent.

“Smoothing out the recent volatility, the three-month average for job growth is running at just under 12,000, which is what we are penciling in for September – a level that is consistent with an economy settling into potential,” said BMO’s Mr. Kavcic.

“Keep an eye on wage growth, which has slowed sharply in recent months to 2.9 per cent, year over year, in August, down from nearly 4 per cent in the spring – that trend could continue in September as the same month a year ago was seasonally strong,” he added

Economists generally expect the U.S. report to show 185,000 jobs created in September, with unemployment inching down to 3.8 per cent.

As for trade, observers project the Statistics Canada report will show the deficit widening to about $500- or $600-million in August.

In the U.S., where trade is the focus of the Trump administration, economists believe the shortfall fattened to US$51-billion or more.

“Tariffs could have a larger dampening effect on U.S. exports than imports, pressuring the deficit higher,” said BMO senior economist Sal Guatieri.

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Editor’s note: The threshold on duty-free goods purchased online goes to $150 in the new trade deal, up from $20. A previous version of this article pegged the new limit at $100.