Retail Profits, Inflation and the Bank of Canada
With core inflation running at 2.2%,Â the Bank of Canada left interest rates unchanged today – despite the soaring Canadian dollar and its impacts on the struggling manufacturing sector, despite a slowing US economy, and despite tight credit market conditions.
I think the Bank should have matched the recent half percentage point US rate cut to take the froth out of the Canadian dollar. But they do have a problem to the extent that exchange rate appreciation has been slow to feed into consumer prices, keeping the CPI above their target rate of 2%.
True, goods inflation has been very low at 0.8% over the past year. But, with the price of imported goods from the US, China and other Asian producers with currencies closely tied to the US dollar plummeting in Canadian dollar terms, we should have been seeing significant price cuts for imported goods which would have brought down the core CPI to at or below the Bank’s desired level of 2%.
It’s pretty clear that retailers are swallowing a lot of the gains from reduced prices of imported goods. In the last quarter for which we have data (QII of 2007) seasonally adjusted operating profits in the retail sector came in at over $4 Billion ($4.021 Billion.) (That’s in the quarter – its not an annualized number.) That’s just about double the level of 2002 ($2.19 Billion in QII, 2002), and up sharply even from one year ago (QII of 2006) when operating profits were $3.44 Billion. Return on equity in the retail sector was 15.74% in the most recent quarter, up from 11.77% in the same quarter in 2002.Â And current return on equity is even higher than in the oil and gas sector (where it was 9.1% in the most recent quarter.)
The same story is true of wholesale trade, where operating profits came in at $4.71 Billion in the most recent quarter compared to $2.55 Billion in the same quarter of 2002, and $4.28 Billion in the same quarter one year ago. Return on equity rose from 12.54% to 14.75% between QII 2002 and QII 2007.
The period of marked exchange rate appreciation since 2002 has been been matched by a steady increase in retail and wholesale profitability. Particularly in 2006 and 2007, return on equity in wholesale and retail trade has jumped to well above average levels.
To the extent that we have an inflation “problem”, the problem is profit-driven inflation. Don’t blame workers – retail hourly wages in fact fell over the past year.
(Corporate profitability data are in CANSIM Table 187-0002.)i