Consumer spending to soften in second half of 2023 as higher rates bite: experts

Consumer spending is expected to cool in the third quarter as interest rate hikes continue to work their way through the economy, experts said.

“We do expect that consumers will be under increasing strain, particularly those folks that are borrowing,” said Stephen Tapp, chief economist at the Canadian Chamber of Commerce.

“They have to service their debt, they’re going to have to cut back on something, and they’ll be cutting back on discretionary spending.”

Consumer spending will likely slow noticeably in the second half of the year as people cut back on discretionary purchases, said Tapp.

The chamber tracks local spending using data from payments firm Moneris. Its business data lab found that while consumer spending remained strong in the second quarter, it appeared to turn a corner after the Bank of Canada ended its pause on interest rate hikes.

After the Bank of Canada hiked its key policy rate to 4.75 per cent in June, spending started to dip, the chamber said. The central bank hiked its trendsetting rate again last week to five per cent.

Canadians prioritized spending on discretionary services over goods in the second quarter, research from RBC Economics found.

Per-capita spending has been softer than total spending estimates suggest due to soaring population growth, wrote RBC economist Carrie Freestone in a July 13 report. But consumer spending still remained more resilient in the second quarter than many feared, she said.

“I think the fact that we’re starting to see softness in discretionary goods is probably an early sign that rate hikes are starting to have an impact,” said Freestone in an interview Thursday.

“So I think that eventually that will spill over into the services sector. We just haven’t seen it yet.”

Consumers are still working through some pent-up demand from the pandemic, said Freestone, with travel and restaurants still top priorities for many. Restaurant spending has been higher even when adjusted for inflation despite higher menu prices, she said.

“Canadians are willing to spend a bit more money on restaurants, or on travel, these experiences that they weren’t able to enjoy during the pandemic lockdown,” said Freestone.

The central bank is looking for slower growth to help it reach its target of two per cent inflation, said Tapp, and that includes slower spending growth.

“That’s the sort of balancing act they’re trying to make, where they want to slow the economy so that supply can catch up to demand, but they don’t want to slow it so much that we have people losing their jobs and we have an actual broader recession,” he said.

Tapp said population growth has been supporting strong spending. While spending tracked by the chamber is up from last year, when adjusted for inflation and population growth, real spending growth per person has actually been negative since mid-March.

This helps explain why consumer spending has remained strong even as Canadians cut back on spending to deal with higher costs, said Tapp.

“Overall, the economy is still moving along at a fair pace. But for the average person, the average consumer, they may not be feeling like it’s a great time right now, even if it’s not necessarily measured as a recession,” he said.

Real per capita spending, or spending adjusted for inflation and population growth, will likely see a decline in the third quarter, said Freestone, noting that some of the lagging effects of rate hikes will continue to hit as mortgages come up for renewal in the summer and fall.

Consumer confidence decreased in June after several months of gradual increases, according to the Conference Board of Canada, with future job prospects trending negative.

The Bank of Canada’s recent rate hikes may have surprised consumers who thought the central bank was done tightening, the Conference Board said in a report Thursday.

“If expectations have now changed from a stable future to one of further possible hikes, consumers could overcompensate with exceptionally restrained spending, leading to a downward spiral of consumer confidence.” 

This report by The Canadian Press was first published July 20, 2023.

Rosa Saba, The Canadian Press