Further fiscal support needed - Capital Economics
Canada Economics

Further fiscal support needed

Canada Economics Weekly
Written by Stephen Brown
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Finance Minister Bill Morneau this week unveiled a fiscal package equivalent to 3.6% of GDP to help offset the disruption caused the coronavirus outbreak. This may be enough to prevent the forthcoming recession from turning into a longer slump – providing even more stringent containments measures are not put in place – but it is far too small to ensure a strong recovery further down the line.

Finance Minister Bill Morneau this week unveiled a fiscal package equivalent to 3.6% of GDP to help offset the disruption caused the coronavirus outbreak. The bulk of that package, equivalent to 2.5% of GDP, represents tax deferrals. Firms and households will now have until the end of August to pay their 2019 tax liabilities, rather than the end of April. Most of the rest of the package reflects direct measures to provide funds to individuals, including those that are unable to work or lose their jobs but who would not normally be eligible for Employment Insurance. (See here.)

Our new forecast is that GDP will decline by 2% annualised in the first quarter and 10% in the second. (see here.) We may still have to revise the latter figure down if the government enacts even more stringent containment measures. For now at least, our forecasts imply that GDP will fall by 3% in the first half of the year. In light of that decline, the fiscal package of 3.6% of GDP might seem ample.

There are still two problems, however. The first is that the aggregate masks much greater strains in certain sectors. The income declines in sectors such as passenger transport, hospitality and energy will be far greater than elsewhere. Problems in these industries could still lead to issues elsewhere.

The second problem is that it is only the direct spending measures, worth 1.1% of GDP, that are a permanent (or at least semi-permanent) transfer to the private sector. The tax deferrals will help to ensure that households and firms can meet their essential spending needs and financial commitments in the short term, but households and firms will still need to find the funds to pay their tax obligations in August. This means the fiscal package may be enough to prevent the forthcoming recession from turning into a longer slump – providing even more stringent containments measures are not put in place – but it is too small to ensure a strong recovery further down the line.

Morneau said additional measures are coming, but gave no indication of how significant they will be. He may still present the 2020 Budget this month and, while the government’s minority position means that it does not have free reign over policy, we assume it will be able to find support for another round of stimulus measures amounting to at least 1.5% of GDP. Even allowing for that, however, it is likely to be some time before GDP returns to the level it was in the fourth quarter of 2019.

For now, we are assuming that around half of the decline in GDP in the second quarter is made up in the third quarter as business re-open. But the hit to incomes suggests that Canada’s stretched households and firms will then need to save more than they would otherwise to repair their balance sheets. Moreover, much lower oil prices suggest that activity in the energy sector will remain depressed for some time. Accordingly, we think it will take a year for GDP to return to the level it was at the end of 2019. Even by the end of 2021, we expect GDP to remain 1.5% below its pre-recession trend. (See Chart 1.)

Chart 1: Real GDP ($bn, annualised)

Sources: Refinitiv, Capital Economics

Of course, the outlook could still change dramatically. If the virus takes even longer to be brought under control, then growth may not rebound as much as we expect in the third quarter and there could be even longer lasting damage. More optimistically, we may be underestimating the scope of the further fiscal stimulus to come.

The week ahead

In a quiet week for data, we expect to see that wholesale sales fell in January. More importantly, we will be watching for further policy announcements.


Economic Diary & Forecasts

Upcoming Events and Data Releases

Date

Release/Indicator/Event

Time EST (GMT-4)

Previous*

Median*

CE Forecasts*

Mon 23rd

Wholesale Sales (Jan)

08.30

+0.9%

-0.5%

Tue 24th

No Significant Data Released

Wed 25th

No Significant Data Released

Thu 26th

No Significant Data Released

Fri 27th

No Significant Data Released

Selected future data releases and events

31st March

GDP by Industry (Jan)

08.30

Industrial Producer Prices (Feb)

08.30

Raw Material Prices (Feb)

08.30

1st April

Manufacturing PMI (Mar)

08.30

International Merchandise Trade (Feb)

08.30

*m/m(y/y) unless otherwise stated

Sources: Bloomberg, Capital Economics

Main Economic & Market Forecasts

%q/q ann. (%y/y) unless stated

Q4 2019

Q1 2020

Q2 2020

Q3 2020

Q4 2020

Q1 2021

2019

2020

2021

GDP

0.3

-2.0

-10.0

6.5

4.5

3.3

1.6

-1.0

3.0

CPI Inflation

2.1

2.0

0.7

0.9

1.3

1.5

1.9

1.2

1.6

Unemployment Rate (%)

5.8

5.8

7.0

6.5

6.3

6.1

5.7

6.4

5.8

Overnight Rate, End Peri’d (%)

1.75

0.75

0.25

0.25

0.25

0.25

1.75

0.25

0.25

10 Yr GoC., End Period (%)

1.59

0.50

0.50

0.50

0.50

0.50

1.59

0.50

0.50

USD/CAD, End Period

0.77

0.68

0.68

0.71

0.75

0.75

0.77

0.75

0.77

Sources: Refinitiv, Capital Economics


Stephen Brown, Senior Canada Economist, +1 416 874 0514, stephen.brown@capitaleconomics.com

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