Canada & U.S. economies on different tracks, says Scotiabank

One of Scotiabank's latest reports notes that Canada and the U .S.are on two different tracks, with the Bank of Canada moving to normalization, while the Fed is prioritizing labor market weakness.Here to discuss that and more is Olivier Gervais, modeling and forecasting director at Scotiabank.Olivier, thank you very much for joining us.Thanks for having me.

All right.Bank of Canada moving to normalization.What what does that mean to them?What does that look like to you?

Yeah.So in Canada, what we see is that Currently, the policy rate is lower than what we call the neutral rate.So it's kind of stimulative right now.And as the economy gets into better balance, well, we expect the Bank of Canada to remove some of that stimulus later this year and in 2027.We also see this as risk management to some extent.So we view risk to inflation on the upside, especially with everything that's going on with Iran, oil prices.

But also when you look at like input costs, all of those things are quite hot in Canada and are suggesting some upside risks to inflation.So we think that to some extent, the Bank of Canada will try to lean against those risks and remove some of the monetary stimulus towards the end of the year.

It is a challenging situation.There's a lot of everything going on right now, isn't there?

Oh yeah, absolutely.You saw Q4 very weak in terms of economic activity, followed by another weak Q1, weak labour market, but all of this is interpreted as being temporary.Actually, you saw today the labour market release from StatsCan is actually quite positive, so it looks like this is supporting our narrative, but there's a lot of uncertainty with where the economy currently stands.where it's going, and all these risks coming, well geopolitical risks, but alsoeverything that's going on with trade and Kuzma and yeah so a lot of a lot of complex stuff for sure.

And what would change the way you're you're looking at this right now what would be a key thing that might change it?

Yeah, so I think one of the things that we're really looking at is everything that's going on with oil prices, how fast.I mean, the market is expecting oil prices to go down.This is what we have built in in our forecast.But it is a very, very important variable.We actually published a note, I think earlier this week, on a scenario where oil prices stays elevated for a long time, and that would feed through inflation expectations, that would be quite major, actually, if that scenario were to play out.So that's one thing that we're looking at.

Of course, everything that's going on with Kuzma, that's on the other side.So if You know, if the negotiation takes longer, if it fails, this could also derail quite a bit the Canadian economy.

And with oil and with inflation, is it hitting the U .S.different than Canada or are they feeling it pretty much in the same way we are?

I think they're feeling it in the same way.The thing is, in the U .S., it's a bit different.The economy is in excess demand, which means that it's growing faster than what it can usually in the long run.And also, they have tariffs, but they're seeing the same type of input costs in the U .

S.But the thing is, with the economy in excess demand, I think firms have a better, are better able to actually pass this through consumers, as is to consumers, sorry, and lift inflation.Actually, you see inflation quite elevated right now.

And, you know, it's quite concerning for sure.And then and with the Fed, you're saying the prioritizing labor market weakness, the numbers just came out today.down in the States, not a huge, but somewhat a little bit of an improvement.But although the rates stayed the same, though.

Yeah, yeah, for sure.I mean, the one month of data is not going to derail our forecast.You know, I think you have to have a lot more, you know, have to have an accumulation of evidence.But yeah, it's a good release in the US.That said, it looked like it was quite targeted, you know, not as broad based as the release in Canada.But if you look at the trend like recent releases in the U .

S.over the last year it's not not very very strong.So yeah we expect especially household spending to continue to slow in the U .S.and that will drag growth for sure at least at least in 2036.

And where does that leave the Fed.

Yeah, so the Fed, we think, is going to focus a lot more on this weak labor market, trying to support job growth, trying to support GDP growth.This will have some impact on inflation for sure, but I think it's a question of choice.They will want to put more emphasis on growth.Remember that the U .S.has a dual mandate.

They want to control prices, but at the same time, they also want to support the labor market.

And then there's the pressure from the White House as well for cuts.But is that?Possibly.

Is that is that a possibility?It's possible.But I mean, it's this is anybody's guess.But but I think we've seen from from signals from from the institution that they would they would try to support that and look through most of the the inflation increase.

We talked about the numbers in the States.The numbers up here were better than expected.What does that mean?You said it's only one month, I know, but positive is better than not positive.

Absolutely.No, no.It's actually, it's very positive, I think.It's positive.We were expecting to some extent an improvement in the labour market.It's happening a bit faster, I think, than we were expecting.

But when I look at the data this morning, it's broad -based across provinces.It's hard to see a negative out of that.I think it supports this narrative that the economy was going through a soft patch, temporary a soft growth in early 2026 and that, you know, the economy is rebounding.And I think this number simply supports this narrative.

OK, we have to wrap it up there, Olivier, but thank you very much for joining us.Thanks for having me.Olivier Gervais, modeling and forecasting director at Scotiabank.