Bank of Montreal 2007 Annual Report Download - page 34

Management’s Discussion and Analysis
Economic Developments
Canadian and U.S. Economic and Financial Services
Developments in 2007
The Canadian economy grew at a moderate pace in 2007, with very
strong domestic demand partially offset by softening exports. The tight-
ening in credit conditions during the summer has yet to have a major
adverse impact on economic growth. Consumer spending was sustained
by solid gains in employment and income, supporting growth in per-
sonal loans. Housing market activity continued at high levels, boosting
residential mortgages. Companies invested briskly to expand capacity,
spurring growth in business credit. The strong Canadian dollar held
inflation low despite rising oil prices and the lowest unemployment rate
in 33 years. High commodity prices supported earnings growth in the
resource sector, fostering strong underwriting and merger and acquisi-
tion activities in the first half of the year. The Bank of Canada raised
overnight lending rates 25 basis points in July before moving to the
sidelines as credit and liquidity concerns unfolded in the markets in
late summer.
The U.S. economy grew at a modest rate in 2007, slowing from
the previous year as a result of a weakening housing market and
rising energy costs. An increase in default rates and a decrease in sales
have boosted the supply of unsold homes, causing house prices to
decline. While residential mortgage growth continued to slow, growth
in personal and business loans remained healthy. In September, the
Federal Reserve reduced interest rates for the first time in more than
four years to address the risks to the economy arising from tighter
credit conditions and weaker housing markets. Rates were lowered
further in October.
There was significant deterioration in capital markets in the fourth
quarter of 2007. BMO recorded $318 million of charges related to the
deterioration. The charges are discussed in the Trading-Related Revenues
section on page 38. Further detail on market conditions at the end of
2007 are discussed in BMO Capital Markets Business Environment and
Outlook section on page 53.
Economic and Financial Services Outlook for 2008
In 2008, the Canadian economy is expected to continue growing
moderately, restrained by a soft U.S. economy and a strong Canadian
dollar. A slowing in housing activity due to a decline in affordability
will likely dampen demand for residential mortgages. In contrast,
business investment should remain healthy in light of sound corporate
balance sheets, promoting growth in business credit. Interest rates
are expected to ease modestly in 2008. While the Canadian dollar should
remain strong relative to a generally weak U.S. dollar, it is expected
to weaken somewhat in 2008 in response to a moderation in
commodity prices.
The U.S. economy is expected to continue growing modestly in
2008, with weakness in the housing market partly offset by the suppor-
tive effects of an easier monetary policy and stronger net exports
arising from brisk global economic growth and the weaker U.S. dollar.
Growth should pick up in the second half of the year as the slump
in the housing market recedes. Demand for personal and business credit
will likely continue to expand at a moderate pace, although growth
in residential mortgages is expected to slow further. The Federal Reserve
is expected to reduce interest rates further in early 2008.
Weakness in capital markets is expected to continue into the first
half of 2008, with improvement expected in the second half of the year.
30 BMO Financial Group 190th Annual Report 2007
MD&A
Canadian and U.S. jobless rates
are expected to rise moderately
in 2008.
The Canadian and U.S. economies
are expected to show modest
growth in 2008.
Real Growth in Gross
Domestic Product (%)
Canada
United States
*Estimates
2008*2007*20062005
3.13.1
2.5 2.2
2.9
2.1 1.9
2.8
Canadian and U.S.
Unemployment Rates (%)
Canada
United States
4.7
6.6
5.2
4.7
6.1
5.8
Oct
2006
Jan
2006
Oct
2007
Oct
2008*
*Estimate
Oil prices will likely decline some-
what from record highs, but natural
gas prices should strengthen.
Homebuilding in Canada should
slow in 2008 from high levels,
while construction in the United
States will likely remain very weak.
100.0
137.5
175.0
212.5
250.0
900
1,300
1,700
2,100
2,500
Housing Starts
(in thousands)
Canada (left axis)
United States (right axis)
04030201 05 06 07*08*
*Estimates
0
15
30
45
60
75
90
0
3
6
9
12
15
Energy Prices (US$)
Crude oil (West Texas Intermediate,
US$/barrel) (left axis)
Natural gas (Henry Hub, US$/mmbtu)
(right axis)
Oct
2006
Oct
2008*
Oct
2007
*Estimate
Jan
2006
The Canadian dollar is expected
to weaken moderately relative to
the U.S. dollar in 2008.
Central banks will likely ease
monetary policy in 2008.
Canadian and U.S.
Interest Rates (%)
Canadian overnight rate
U.S. federal funds rate
*Estimate
Oct
2008*
Oct
2007
Apr
2007
Oct
2006
Apr
2006
4.77
3.82
3.50
4.00
4.504.75
Canadian/U.S. Dollar
Exchange Rates
Oct
2006
Jan
2006
Oct
2008*
Oct
2007
1.16
0.99
0.98
*Estimate