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Quarterly Commentary
Fall 2012
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The Global Economy and The US Fiscal Cliff

In This Issue: Fiscal Cliff: In addition to a US election, the
world looks to the US to resolve its deficit issues which could bring about another recession.

Unemployment: The Fed has taken monetary policy into unchartered territory by making unemployment the focal point of stimulus efforts.

Canada: After faring better than most in the last

recession, Canada has been signaled out to be vulnerable from both domestic and foreign risks.

uring the past quarter, much of the markets coltem until a stronger, more durable economic recovery lective attention was focused on whether or not takes root. To underline this commitment, the Fed said the US Federal Reserve would in fact turn to a third that it would maintain its policies for a considerable round of quantitative easing (QE) or stimulus. QE is time after the economic recovery strengthens. the term used to describe the US central banks efUnder its official charter, the Fed is tasked with the forts to stimulate the economy by injecting money dual-mandate of price stability (controlling into the banking system through the purThe Fed has taken inflation) and maximum employment. But chase of various types of bonds. this is the first time that the Federal Reserve monetary policy The question was answered on September has made jobs the yardstick by which it will into uncharted 13th when Federal Reserve Chairman Ben measure its success. However, the Feds territory. Bernanke announced that the US central decision has once again fired up its critics, bank would begin buying $40 billion of morteven within the Fed itself. gage backed securities. He also extended the Feds Richard Fisher, the President of the Dallas Fed, stated commitment to keep interest rates low through most that all the monetary accommodation in the world of 2015, an extension of almost six months from prior would not get businesses hiring again. He argues, and policy. In short, the Fed committed to keep interest correctly so, that tax reform and more policy certainty rates lower for longer. from the US federal government do more for the econThis move has taken monetary policy into uncharted omy than taking interest rates from extremely low to territory by making unemployment levels the focal near zero. In short, the political process needs to funcpoint of US monetary policy. Essentially, the Fed tion again in Washington and Europe. hopes to force feed money into the US financial sysContinued on page 2

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Driving the Economy Over the Fiscal Cliff
creases will kick in as of January 2013. Complicating matters is the fact that this is an election year and neither side wants to give the other anything that can be construed as a political victory. With Congress on recess until after the November elections, it does not leave a lot of time to come to an agreement.

As the current US presidential election cycle heads into the home stretch, the term fiscal cliff has been mentioned with increasing frequency. It refers to the large spending cuts and tax increases set to hit the economy at the end of 2012. When President Obama had extended the 2001 Bush tax cuts until 2012, it was designed to allow the economic recovery to gather momentum. In August 2011, after the failure of the debt ceiling

Consequences of Going Over the Fiscal Cliff

According to the Congressional Budget Office (CBO), the tax increases and spending cuts would

leave the budget deficit at about $641billion versus talks, Congress passed the Budget Control Act of the $1.03 trillion deficit without them. If the US were 2011 which provided for a bipartisan Supercomto go over the fiscal cliff, it would act as mittee that was tasked with coming up For Canada, which rea sizeable brake on the global economy with a deficit reduction plan over a 10 lies on the US econbecause it would remove a significant year period. The plan was then to omy so strongly, the amount of stimulus, therefore potencome up for a vote in both houses of Congress, with no further amend- impact of the fiscal cliff tially halting the recovery even with QE3 ments allowed. would be significant. in motion. The Supercommittee failed to come to an agreement and under the Budget Control Act, if there was a failure to come to an agreement, then automatic spending cuts (sequestration) and tax inThe International Monetary Fund (IMF) has weighed in by warning that Growth would stall in 2013 with the full materialization of the cliff and ... would inflict large spillovers on major US trading
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allowed to expire. Democrats have said they would like to allow the tax rate for those higher income earners to rise back to the levels that prevailed during the Clinton years.

partners and also on commodity exporters. The IMF has recently reduced its expectations for global economic growth this year for a second time and expects the economy to grow at about the same rate as 2009. For Canada, which relies on the US economy so strongly, the impact would be significant. With over 70% of Canadian exports going to the US, Canadians should be paying close attention to what happens with this issue. The most likely scenario is for both US political par-

Canada: No Longer Bucking the Global Trend

During the last recession, Canada fared better than any of the other members of the G7. Its reputation as a prudent fiscal manager and well regulated banking system shone through and other world leaders sat up and took notice. However, the after-

ties to come to a mini agreement and leave the bigger issues until after the election. This would be a partial kick the can down the road approach. However, bond rating agency Moodys has stated that if no major deal is announced to deal with the debt and deficit then it will react by joining Standard and Poors and also downgrade its rating for US government bonds from AAA. It is worth noting that both Democrats and Republicans agree on much of the outstanding issues. The biggest area of disagreement is whether the tax cuts for those earning over $250,000 annually should be

glow has faded. Recently, the IMF admonished Canada for its high level of consumer debt and potential problems arising from its housing market. It has reduced its forecast for Canadian economic growth to 1.9% for 2012 and only 2.0% for 2013. However, this is still second best in the G7 marginally behind the US economy. The housing market in Canada is starting to slow as price increases have moderated and sales activity
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has fallen sharply in the hottest housing markets such mies) are alarmingly high which is about a 15% as Vancouver and Victoria. Part of this is due to mortprobability for the US, 25% for Japan and 80% for gage reforms designed to tighten lending standards Europe. and partly due to prices that do not make real estate Offsetting these risks are the unprecedented comappealing for many buyers. The government has mitments by the US, Japan and European central warned that further measures could be imposed if the banks to provide seemingly limitless real estate sector proves resilient to policy stimulus. They recognize the challenges measures. The IMF admonished facing their respective nations and are Canada for its high meeting them head on. China has also Recovery in US Real Estate level of consumer begun to reverse its tighter monetary Two of the key sectors for the US economy debt and potential policies as it tries to provide a boost to are autos and real estate. Autos have been problems arising from slowing economic growth there. a key contributor to the US economys abilits housing market. Risks are always apparent and always ity to shake off the recession and now real present. In order to navigate the risks estate is helping to provide momentum. In effectively, a keen eye must be kept on how these fact, the US real estate sector is one of the bright risks are being mitigated and dealt with. At prespots for the global economy given its size and impact sent, the financial markets seem to be discounting on a wide range of other industries from lumber to a successful resolution to the fiscal cliff issues and household furnishings and most certainly employare increasingly confident that European leaders ment in construction. Furthermore, a stabilizing houswill ultimately find a combination of policies that ing market provides a boost to US consumer confiwill allow them to emerge from their crises. While dence which is so important to the world economy. the monetary authorities have led the way forward, it is now imperative for governments to proRisk & Rewards vide the fiscal and legislative reforms that will alAs an export oriented nation, the global economy has low economic growth to flourish again. a significant impact on Canada. As the IMF states in its most recent World Economic Outlook, risks for recession in advanced economies (entailing a serious slowdown in emerging market and developing econo-

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The information in this newsletter is current as at October 1, 2012, and does not Pacifica Partners Inc., Pacifica Partners Capital Management Inc. and/or their offinecessarily reflect subsequent market events and conditions. cers, directors, or representatives may hold some of the securities mentioned herein and may from time to time purchase and/or sell same on the stock market or otherThis newsletter is published for information purposes only and articles do not prowise. vide individual financial, legal, tax or investment advice. Past performance is not indicative of future performance. No part of this publication may be reproduced without the expressed written consent of Pacifica Partners Inc. Graphs and charts are used for illustrative purposes only and do not reflect future values or future performance. The statements and statistics contained herein are Pacifica Partners Inc. is Canadian incorporated entity and is a registered Portfolio based on material believed to be reliable, but are not guaranteed to be accurate or Manager in certain Canadian Provinces. complete. Particular investments or trading strategies should be evaluated relative Pacifica Partners Capital Management Inc. is a US incorporated entity, wholly to each individuals objectives in consultation with their legal, investment and/or tax owned by Pacifica Partners Inc., and a Registered Investment Advisor with the advisor. Pacifica Partners Inc. and Pacifica Partners Capital Management Inc. are SEC. not liable for any errors or omissions in the information or for any loss or damage 2012 Pacifica Partners Inc. All rights reserved. suffered.