Global Economic Research July 22, 2010 @ 07:30 EST

Daily Points
CAPITAL MARKETS RESEARCH
Derek Holt (416) 863-7707
derek_holt@scotiacapital.com
Gorica Djeric (416) 862-3080 — Tracking the numbers
gorica_djeric@scotiacapital.com

On Deck for Thursday, July 22 BoC Events

Country Date ET Indicator Period BNS Consensus Latest BoC Overnight Lending Rate
CA 07/22 (08:30) Retail Sales (m/m) May 0.4 0.5 -2.0 Current Rate: 0.50%
Next Move: September 8 @ 1.0%
CA 07/22 (08:30) Retail Sales ex. Autos (m/m) May 0.4 0.5 -1.2
Bias: Neutral
CA 07/22 (10:30) Bank of Canada Monetary Policy Report and Press Conference
US 07/22 (08:30) Initial Jobless Claims (000s) Jul. 17 440 450 429
US 07/22 (08:30) Continuing Claims (mn) Jul. 10 -- 4.59 4.68
US 07/22 (10:00) Existing Home Sales (mn a.r.) Jun 5.15 5.20 5.66
US 07/22 (10:00) Leading Indicators (m/m) Jun -0.4 -0.3 0.4
US 07/22 (09:30) Bernanke Gives Monetary Policy Report to House Panel

Fed Events
KEY POINTS:
 Why the BoC can run ahead of the Fed more than markets are pricing
Fed Funds Target Rate
 Canadian retail sales should bounce back Current Rate: 0-0.25%
 US jobless claims grinding lower? Next Move: August 10 @ 0-0.25%
 US home resales begin another leg downward Bias: Dovish
 European PMIs beat expectations Fed Chairman Bernanke will kick
 UK retail sales stronger than expected off the day at 9:30amET with the
 European industrial orders up in May semi-annual monetary policy report
to the House Financial Services
Committee.
CANADA
We’re hopeful that weak base effects from the prior month will cause May’s New York Fed President Dudley
retail sales report (8:30amET) to post a renewed gain on an upward trend, but — a voting dove — will speak at
9:30amET at a press conference
we don’t have a terribly great degree of conviction on the call. Bet on them on the regional economy at the
perhaps to your own peril. After all, what we know about the month of May New York Fed headquarters.
by way of other partial indicators for retail sales frankly isn’t all that encour-
aging. Statistics Canada’s Survey of Large Retailers fell on seasonally ad-
justed terms in May over April. Granted, the survey is a different sample
without a wide following, and only accounts for about 35% of retail sales
excluding autos. Second, yesterday’s wholesale trade figures were a disap-
pointment, and the categories that reflect how wholesalers are moving retail
goods disappointed. Seasonally adjusted sales of personal and household
goods within the wholesale trade report were up only 0.1% m/m, and key Key International Events
components were down including clothing and footwear, home entertainment
equipment and household appliances, and home furnishings. Weakness in ECB
wholesale sales related to the consumer sector may reflect cautious inventory Current Rate: 1.00%
management within the supply chain and/or lower prices versus volume ef- Next Move: August 5 @ 1.00%
Bias: Dovish
fects and hence may not be reflective of what consumers are actually buying.
But be careful with this report. Be enthused by a bounce upward, but not BoE
deflated by a disappointment. With stock piled liquidity sitting idly by tempt- Current Rate: 0.50%
ing consumers, and with over 300,000 jobs gained in the Canadian economy Next Move: August 5 @ 0.50%
Bias: Dovish
in the first half of this year that would be equivalent to a 3+ million gain in
nonfarm payrolls, consumer cash flows are very supportive of trend growth in BoJ
spending over the back half of the year even if distorted in the near-term by Current Rate: 0.10%
sales brought forward earlier into the season by abnormally warm weather in Next Move: July 15 @ 0.10%
Bias: Dovish
parts of the country very early on, as well as by the end of the Home Renova-
tion Tax Credit.
…2

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Toronto, Ontario Canada M5H 1H1
sources believed reliable, neither the information nor the forecast shall
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Global Economic Research July 22, 2010

Daily Points

The Bank of Canada releases its Monetary Policy Report at 10:30amET today followed by a press conference. It will provide
further colour on forecast revisions and risks to the outlook, with much of the same “nothing is pre-ordained” guidance expected to
be provided on future rate actions. But the BoC has a solid case for going materially ahead of the Fed in raising interest rates more
than what many may believe, in our estimation. One doesn’t forecast the future path of the two central banks by extrapolating past
relationships between their target rates that rarely departed from one another – and when they did, like early last decade, only to see
the BoC back peddle - without considering what may be different about the current and future context. So zero the clock, and think
forward. Doing so coughs up two principal reasons why the BoC can raise spreads over the Fed significantly higher from this point.
One is that as the US deleverages, Canada continues to leverage higher. We are on a fundamentally different debt cycle in this coun-
try. As US households pay down debt, Canadian households are racking it up. As the US household debt-to-income ratio falls to
about the 153% mark (on an all-in basis using flow of funds accounts and combining household with unincorporated business debt
given no limited liability on unincorporated business debts), Canada’s is rising to the 148% mark now and about to over-take the US
figure perhaps by year-end. Borrowing behaviour in Canada is being distorted by low rates with a pronounced shift toward interest-
only revolving debt via secured and unsecured personal lines of credit that have cannibalized fixed and variable rate installment
loans. This reflects monetary policy working all too well, and on that, Canada remains far apart from conditions in the US. The Fed
is stuck in a liquidity trap where low interest rates are failing to stoke inelastic demand for money. In Canada, money multipliers are
high and trending higher while in the US they are falling as the Fed’s frenzied pace of high powered money creation (or the mone-
tary base) fails to work itself further up the money supply aggregates.

The second reason why the BoC can jump the Fed further than it has so far is that concerns over global growth fail to consider that
Canada has outperformed despite the fact that net trade has been a drag on the economy. It has been for the better part of the past ten
years, and remains as such for each of the past four quarters. Yet Canada chalked up annualized 2010Q1 growth at a pace double
that of the US. Why? Concerns about risks may be placing too much weight on global downsides, and not enough weight on do-
mestic upsides. Yes housing is flattening out as a driver of GDP growth, but let’s not discount the already evident expansion in busi-
ness investment that the BoC surprisingly discounted. Further, we think the Canadian consumer can remain on a positive upward
trend in making solid contributions to overall GDP growth.

UNITED STATES
US home resales (10:00amET) will accelerate the give back effect in this morning’s June print. They are the last of the housing
indicators to stumble on lagged effects. Mortgage purchase applications have plummeted by about half compared to the April peaks,
and pending home sales have stumbled. Both indicators precede a move lower in resales because it takes 30-60 days for most pend-
ing home sales to close after one has given a pound or two of flesh in closing costs and paperwork. But June’s figures will be the
first glimpse at a material plunge in resales, with further weakness expected in July.

Jobless claims data for the week ending July 17 will be released at 8:30amET this morning. Consensus is looking for an increase of
16,000 to 445,000 in initial claims and a decline of 90,000 to 4,590,000 in continuing claims. Initial claims have remained trendless
in the 429k-490k range since the beginning of this year – this is still considered to be a historically elevated level, symbolic of a frag-
ile labour market. Unemployment level remains sticky. Yesterday’s comments by Fed Chairman Bernanke reaffirmed this view,
indicating that “most [FOMC] participants viewed uncertainty about the outlook for growth and unemployment as greater than nor-
mal, and the majority saw the risks to growth as weighted to the downside.”

INTERNATIONAL
Defying predictions for a further slowdown in economic growth, manufacturing and services activity in the euro-zone region picked
up pace in July. The preliminary July composite PMI rose to 56.7, up from 56.0 in the previous month, its highest reading in three
months and stronger than expected. The manufacturing PMI climbed to 58.3 from 57.2 in June, while the services PMI edged mod-
estly higher to 56.0 from 55.5. Following two months of moderating growth, July’s increases came on the back of solid gains in both
output and new orders, suggesting a better-than-expected start to the second quarter. However, regionally, strength was concentrated
in Germany, with the country’s composite PMI currently at the highest levels since early 2007.

Industrial orders in the sixteen-country, euro-zone region climbed 3.8% m/m (22.7% y/y) in May, outperforming the consensus,
which expected a flat reading. On a year-over-year basis, it was the biggest gain since May 2000. These data reaffirmed that second-
quarter growth was more resilient than had been expected, given on going debt-market issues in the region. Growth may slow down
in the second half of the year, as inventory restocking cycle draws to a close, and exports – the backbone of the recovery in the first
half of the year – run the risk of moderating. Regionally, industrial orders fell in Germany (0.2% m/m) and France (0.6%), re-
bounded in Italy (5.4% m/m) and Spain (3.9% m/m).

2
Global Economic Research July 22, 2010

Daily Points

U.K. retail sales beat expectations in June, rising 0.7% m/m at the headline level and 1.0% m/m upon stripping away autos and fuel.
Aside from the weather-induced February’s sales, July marked the biggest increase for core sales in almost a year. Sales of elec-
tronic goods led the advances, boosted by the World Cup. Consumer spending could give a boost to second-quarter GDP, due out on
Friday. Introduction of austerity measures and an increase in the value-added tax could dampen the outlook for household spending.
The retail price deflator retreated to 1.3% w/w, its slowest rate of growth since November 2009, and a sizeable moderation from 3%
registered in April. While this may be good news for the Bank of England, it suggests that retailers have limited pricing power and
are offering large discounts to entice Britons to shop.

Equities % change:
Fixed Income Government Yield Curves (%): Last Change 1 Day 1-w k 1-mo 1-yr
S&P/TSX 11513.33 -116.55 -1.0 -0.9 -2.4 10.4
2-YEAR 5-YEAR 10-YEAR 30-YEAR Dow 30 10120.53 -109.43 -1.1 -2.4 -1.7 14.0
S&P 500 1069.59 -13.89 -1.3 -2.3 -2.3 12.1
Last 1-day 1-w k Last 1-day 1-w k Last 1-day 1-w k Last 1-day 1-w k Nasdaq 2187.33 -35.16 -1.6 -2.8 -3.3 13.5
DAX 5263.86 49.22 0.9 1.0 0.3 17.1
U.S. 0.55 0.56 0.61 1.65 1.64 1.76 2.89 2.88 3.00 3.89 3.89 3.99
FTSE 6076.53 86.15 1.4 -1.2 -3.1 18.6
CANADA 1.52 1.57 1.71 2.36 2.39 2.54 3.16 3.20 3.26 3.73 3.77 3.79 Nikkei 9220.88 -57.95 -0.6 -5.9 -8.8 -5.2
Hang Seng 20589.70 102.47 0.5 1.6 -1.1 7.0
GERMANY 0.70 0.73 0.79 1.59 1.62 1.62 2.63 2.64 2.65 3.31 3.34 3.33 CAC 3551.47 57.55 1.6 -0.8 -4.2 7.5
Commodities % change:
JAPAN 0.15 0.15 0.15 0.34 0.35 0.38 1.07 1.10 1.15 1.84 1.88 1.92 WTI Crude 77.00 0.44 0.6 0.5 -0.3 17.7
Natural Gas 4.54 0.03 0.6 -1.0 -4.6 19.6
U.K. 0.79 0.79 0.78 2.07 2.08 2.07 3.34 3.35 3.38 4.23 4.25 4.18 Gold 1191.50 8.50 0.7 -1.3 -5.0 25.7
Silver 17.88 0.00 0.0 -2.9 -4.0 33.4
Foreign - U.S. Spreads (bps): CRB Index 261.53 0.01 0.0 -0.3 -0.4 5.9
Currencies % change:
CANADA 96 101 110 71 75 79 26 32 27 -16 -12 -20 USDCAD 1.0413 -0.0077 -0.7 0.3 1.1 -5.3
EURUSD 1.2836 0.0082 0.6 -0.9 4.6 -9.7
GERMANY 15 17 18 -6 -3 -14 -26 -24 -34 -58 -56 -66 USDJPY 86.6500 -0.4000 -0.5 -0.9 -4.3 -7.5
AUDUSD 0.8847 0.0066 0.8 0.0 1.5 8.5
JAPAN -40 -41 -46 -131 -129 -137 -183 -179 -185 -205 -201 -207
GBPUSD 1.5278 0.0113 0.7 -1.2 3.1 -7.3
USDCHF 1.0418 -0.0096 -0.9 0.1 -5.9 -2.3
U.K. 24 24 17 42 44 32 45 47 38 34 36 20

Source: Bloomberg. All quotes reflect Bloomberg data as at the time of publishing.
While this source is believed to be reliable, Scotia Capital cannot guarantee its accuracy.