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Rate hikes okay for most but a ‘financial shock’ for many

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Canadians cut back, but trouble ahead for some Most Canadians should be able to handle higher interest rates expected later this year, but many will still see a "financial shock," Toronto-Dominion Bank economists say.

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Their comments come as Bank of Canada Governor Mark Carney primes markets for that inevitable hike, which economists believe will now come in September.

"The main question is how households will respond to the eventual rebalancing of monetary policy, TD economists Craig Alexander and Diana Petramala write in a new report that looks at indebtedness among Canadian households.

"In our opinion, many Canadians will experience a financial shock when interest rates eventually rise, but the vast majority of households should be able to cope so long as interest rates rise only gradually. The worst scenario would be one where interest rates are left too low for too long, which necessitates a more rapid tightening of monetary policy that would pose a greater shock to personal finances."

Yesterday, the Bank of Canada held its benchmark overnight rate steady at just 1 per cent, citing global uncertainty and the impact of the strong Canadian dollar, but said rates must eventually rise. Mr. Carney has warned borrowers to get ready, pointing to high personal debt levels, and consumers have started to heed the call.

Mr. Alexander and Ms. Petramala note that households are cutting back. Annual personal credit growth slowed to a year-over-year pace of 6.4 per cent in April, compared to an average 10.9 per cent in a period spanning 2004 to 2008.

Both secured and unsecured lending has moderated, they say, the former a sign of the real estate sector's "soft landing," and the latter an indication that consumers "have responded to the calls for greater prudence in managing their debt."

Those are good signs, the economists add, but household budgets are still stretched and, thus, at risk.

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"The moderation in credit growth has been evident in all measures of debt," according to the report's authors.

"However, the brunt of the cooling in debt accumulation is being experienced in non-mortgage lending products, such as credit card borrowing and personal lines of credit (predominately home equity lines of credit) ... The debt obligation on these instruments is typically very flexible, meaning that outside of interest payments, consumers are not limited to how much principal they wish to pay off in any given month or year. This is in contrast to mortgages where monthly payments are generally fixed, and one's ability to pay down principal is often limited by the terms of contract. This provides some evidence that households are trying to work down high debt levels."

And, they warn, while credit growth may be cooling, consumers aren't "deleveraging." Families are still borrowing more than they're saving. And amid that cooling, debt costs are climbing.

"The debt-service ratio, the interest households must pay on their debt each month as a share of personal disposable income, climbed to a two-year high of 7.6 per cent in [the first quarter of] 2011, despite still record low interest rates. Over the next year and a half, the expectation is that a future rise in interest rates will lift this ratio to the highest level in more than a decade."

As others have also suggested - and evidence this week highlighted - the TD economists note that consumers are tapped out and won't be the main driver of the rebound after "spending like gangbusters" over the past five to 10 years.

(For the TD measures of indebtedness, see the accompanying infographic or click here.)

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Bombardier profit climbs The recovery in the business jet market is beginning to give Bombardier Inc. a boost, The Globe and Mail's Bertrand Marotte reports today from Montreal.

Bombardier said today it earned $220-million (U.S.) or 12 cents a share in its first quarter, compared to $195-million or 11 cents a year earlier. Revenue climbed 9 per cent to $4.7-billion.

The company took in 77 net orders for business jets in the quarter, compared with only 6 in the previous-year's quarter.

"Bombardier Aerospace started to benefit from a stronger business aircraft market, especially at the high end," said chief executive officer Pierre Beaudoin.

Manufacturing growth slows One month does not a trend make, but the world's manufacturers are showing slower growth.

Purchasing managers indexes in Europe and Asia today show expansion of the factory sector, which has boomed of late, slipping in May.

Particularly notable was the easing in China, the driver of the global recovery. Still, it's slowing at a moderate pace, observers note, with no suggestion of a hard landing.

"The upshot is that today's surveys provide further evidence for a gradual slowdown," said Qinwei Wang, China economist at Capital Economics in London. "China's economy is not facing an imminent hard landing, nor is it overheating. Worries about inflation should ease soon, even though they will probably not disappear until late this year."

Numbers are expected from the United States later this morning.

Fires delay Horizon repairs Alberta's forest fires are delaying repairs at the Horizon oil sands project, Canadian Natural Resources Ltd. said today.

While its facilities haven't been damaged by the fires, smoke levels remain high, meaning workers can't get back in. The Calgary-based energy company said it hopes to have them back in a few days, meaning about three weeks have been lost in repairs after an upgrader fire in early January.

Canadian Natural again estimated its costs at $350-million to $450-million, which will be covered by insurance.

It added that about five days were lost at its Pelican Lake Field, which produces about 40,000 barrels of oil a day, because of a shutdown of the Rainbow pipeline system, now back up on running, and production should get back in the next few days to the levels before the fires.

Similar, operations at Slave Lake in northern Alberta, where some 3,100 barrels of oil and 8 million cub feet of natural gas are produced daily, are at 60 per cent capacity.

Analyst George Toriola of UBS Securities Canada said the company is likely to cut its production outlook. He held his 12-month price target on Canadian Natural's shares at $50 and his rating at "buy."

Analysts brighten on Scotiabank Analysts are boosting their targets on shares of Bank of Nova Scotia after the bank's second-quarter results yesterday

"With profitability in Canadian banking coming under pressure, we see this quarter as demonstrating one of Scotia's most important investment attributes - how its diversification reduces vulnerability and provides other sources of growth," said Michael Goldberg of Desjardins.

"Execution remains strong, and we see earnings and dividend growth continuing over the balance [fiscal 2011] and in [fiscal 2012]. For these reasons, we believe Scotia deserves its premium valuation.

As Globe and Mail banking writer Grant Robertson reports today, Scotiabank's international businesses are enjoying wider margins and increasing loan volumes, helping boost the bank's second-quarter profit to $1.54-billion.

Mr. Goldberg boosted his price target to $66.50 from $64. Peter Rozenberg of UBS Securities Canada hiked his target to $68 from $67.

ADP reports disappoints Today's report from ADP Employer Services was a disappointment, showing employment jumping by just 38,000 jobs in May, well short of what economists had forecast.

The ADP report points to the official U.S. government jobs report on Friday.

"The ADP's reported increase of a mere 38,000 jobs is clearly a surprise, given that expectations had been for a 178,000 rise," said senior economist Jennifer Lee of BMO Nesbitt Burns. "Although the shockingly weak result is unnerving, keep in mind that this report is not a perfect replica of the official release (coming this Friday)."

Markets tread water World stock markets aren't doing much so far this morning as they wait for some economic data from the United States.

Tokyo's benchmark Nikkei climbed 0.3 per cent, while Hong Kong's Hang Seng slipped 0.2 per cent. In Europe, London's FTSE 100, Germany's DAX and the Paris CAC 40 were flat to down slightly by about 7 a.m. ET. Dow Jones industrial average and S&P 500 were little changed.

"Global markets are having a negative start to the morning, with Europe slightly negative, Asia mixed ... and futures pointing to a negative open in New York," said senior economist Jennifer Lee of BMO Nesbitt Burns.

"There is a whole host of reasons why this could be ... anxiety over what Friday's U.S. payroll report will bring, the spate of disappointing economic reports recently, concerns over what is going on in Greece, or all of the above," she said in a research report.

"Also weighing on sentiment were a couple of reports overnight that China's growth is slowing. China's manufacturing PMI slipped 0.9 points in May to a nine-month low of 52, while the private sector's report also showed a similar slide ... This shouldn't come as a surprise, given all of the cooling measures China's government has undertaken. Nonetheless, the timing is unfortunate, as the global economy is also hitting some turbulence recently. "

TSX to announce index changes Changes to the S&P/TSX composite index are expected to be announced June 10, after a quarterly review.

UBS Securities Canada strategist Garry Cooper says 13 stocks have a strong possibility of being added, and one, Ritchie Bros. Auctioneers Inc. , deleted.

The candidates for addition:

  • Athabasca Oil Sands Corp.
  • Meg Energy Corp.
  • Tourmaline Oil Corp.
  • Tahoe Resources Inc.
  • Capital Power Corp.
  • Romarco Minerals Inc.
  • Extorre Gold Mines Ltd.
  • Wi-Lan Inc.
  • San Gold Corp.
  • Bonterra Energy Corp.
  • B2Gold Corp.
  • Paramount Resources Ltd.
  • Endeavour Silver Corp.

In Economy Lab today

Now that NHL hockey is back in Winnipeg, here are two reasonably safe predictions: The Jets (we always liked the name) will be a huge success at the box office in their first season, despite what are sure to be high ticket prices; and the owners will be hard-pressed to turn this into a profitable venture. Brian Milner examines the move.

In Personal Finance today

When you're looking for travel deals online, search results can differ by browser, and one browser can sometimes produce a dramatically better deal, Angela Self writes.

Home Cents blogger Dianne Nice reports on a new survey shows what our friends are doing to their properties has the biggest influence on our own decisions to renovate.

Find out how thieves are using new technology to re-invigorate identity fraud, and what you can do to protect yourself.

From today's Report on Business

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About the Author
Report on Business News Editor

Michael Babad is a Report on Business editor and co-author of three business books. He has been with Report on Business for several years, and has also been a reporter and editor at The Toronto Star, The Financial Post and United Press International. His articles have appeared in major newspapers around the world. More

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