## _cr1522 ## Source details **Canonical URL:** [_cr1522](https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2015/_cr1522.pdf) ## Other formats - [Markdown version](/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2015/_cr1522.pdf.md) - [Structured JSON version](/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2015/_cr1522.pdf.json) --- ### Fiscal consolidation challenges at the provincial level: Ontario and Québec - Ontario and Québec together account for about two-thirds of Canada’s population, near 60 percent of its GDP, and over half of its exports. - Québec: highest stock of public debt among provinces; Ontario: highest budgetary deficit among provinces. - Provincial fiscal positions and prospects: - Ontario - Committed to balancing the budget in FY2017/18. - Deficit increased to Can$11.8 billion in FY2014/15; projected to narrow and reach a surplus in FY2017/18. - Objective: reduce net debt to pre-recession level of 27 percent of GDP (no specific date). - Adjustment focus: program spending to grow well below CPI inflation; two-year public sector wage freeze (modest impact). - Asset-management divestitures could yield Can$2–3 billion for infrastructure. - Québec - Committed to balancing the budget in FY2015/16. - Long-run targets: reduce gross debt to 45 percent of GDP and accumulated deficits to 17 percent of GDP in 2025–2026. - Fall 2014 budget update identified about 85 percent of measures (from Can$7.3 billion) needed for FY2015/16. - Measures focus on restraining expenditure growth, two-year freeze on public-service hiring, and reducing tax expenditures and subsidies. - Challenges: slower potential growth, larger government role, structurally higher health care spending growth despite lower per capita health expenditure. - Fiscal consequences of 2008–09 recession (provincial detail): - Ontario: GDP fell cumulatively between 2007 and 2009 about 5 percent more than Québec’s; FY2013–14 deficit estimated at Can$10.5 billion (1½ percent of Ontario’s GDP). - Québec: revenues returned to pre-crisis levels in FY2010/11; FY2013–14 deficit estimated at Can$1.7 billion (½ percent of Québec’s GDP). - Debt market effects: gross-debt-to-GDP ratios rose; provincial-federal bond yield spreads widened and remained around 100 basis points. ### Recovery outlook and macro risks - Staff projections and outlook: - Above-potential GDP growth envisaged for 2014 and 2015 as exports and non-energy investment benefit from the U.S. recovery. - Headline CPI inflation expected to decelerate in 2015 due to lower oil prices; core CPI expected to remain close to 2 percent (y/y). - Growth rebalancing from consumption and residential towards exports and business investment; “soft-landing” for housing expected. - Canada heading to general elections tentatively scheduled for October 19, 2015. - Key risks and channels: - Principal external risks: tighter global financial conditions and substantially weaker oil prices. - Principal domestic risks: housing overvaluation and household indebtedness; faster-than-expected tightening in financial conditions could interact with domestic vulnerabilities. - Interaction risk: combined shocks could produce about a 1 percent drop in real GDP in the first year, rising to about 1¼ percent reduction over the medium term. - Risk-assessment numeric highlights: - A 10 percent decline in house prices could lead to about 0.1 percent decline in Canada’s private consumption. - A 100 basis point increase in interest rates translates into about 0.3 percent decline in private consumption in one year. - Compared to October 2014 WEO, January 2015 WEO baseline projected oil prices about 43 percent lower in 2015 (down from US$100 per barrel to below US$ 57 per barrel) and 30 percent lower over 2015–19. ### Downside risk scenarios and spillovers - Scenario components analyzed: - Scenario 1: Term premium shock (100 basis point rise in term premium in 2015). - Scenario 2: Scenario 1 + Increase in debt service. - Scenario 3: Scenario 2 + Lower oil price (additional 10 percent decline). - Scenario 4: Scenario 3 + Decline in house prices. - Estimated macro effects under combined deeper downside scenario: - Real GDP: about 1 percent drop in year 1, rising to about 1¼ percent reduction over the medium term. - Consumption and investment: significantly hurt; exports: would increase as monetary policy eases. - External and financial linkages: - Canada’s merchandise exports to the United States declined from about 85 percent in 2003 to 75 percent in 2013. - A one percentage point increase in U.S. business investment growth is associated with ½ percentage point increase in Canada’s real exports growth after one year. - Canada’s consolidated banking claims on non-residents as of 2014Q2 = about 70 percent of GDP; two-thirds vis-à-vis the United States. - Canada’s liabilities to foreign banks ≈ 20 percent of GDP. - Outward spillovers: - Canadian banks account for about 60 percent of the ECCU’s banking system assets. - Canadian tourists accounted for about 12 percent of total arrivals in the Caribbean region in 2013. - Remittance inflows from Canada: about 3 and 2 percent of GDP for Guyana and Jamaica, respectively, in 2012. ### Lower oil prices: effects and industry reaction - Energy sector importance and exposure: - Energy sector ≈ almost 10 percent of GDP and over 25 percent of exports in 2013–14. - Capital expenditure in oil and gas ≈ ¼ of total non-housing private investment. - Direct revenues from oil ≈ 1½ percent of total revenue or ½ percent of GDP (over two-thirds in Alberta). - Macroeconomic implications of persistent lower crude oil prices: - A persistent decline dampens investment and employment in the energy sector, lowers corporate equity prices, deteriorates terms of trade, and can reduce private consumption. - Breakeven prices for Canadian oil sands believed to range from US$50 per barrel to over US$85 per barrel. - Simulation: a 10 percent decline in oil prices, driven largely by supply factors, reduces Canada’s GDP growth by less than 0.1 percentage point per year, cumulating to about ¼ percent lower level of GDP over the medium term. - Output losses larger if demand factors drive lower oil prices. - Effects on headline inflation immediate; pass-through to core inflation small. - Industry responses (selected): - Suncor Energy plans to cut capital spending by $1 billion in 2015 from previously planned $7.2–$7.8 billion while keeping average production of 540,000–585,000 barrels of oil equivalent per day (compared to $7.8 billion planned and 565,000–610,000 barrels planned for 2014). - Canadian Natural Resources plans to cut 2015 capital budget from $8.6 billion to $6.2 billion and expects somewhat lower short-term production. - Major projects underway expected to move forward; new projects likely deferred; pipeline capacity remains main long-run issue. ### Monetary policy stance, macro-prudential and financial sector recommendations - Monetary policy: - Policy rate on hold at 1 percent since September 2010; monetary normalization expected to begin later in 2015. - Staff suggests gradual policy-rate increase starting in second half of 2015 toward a medium-term neutral rate estimated between 3 and 4 percent. - Bank of Canada unexpectedly lowered policy rate by 25 basis points on January 21 (Bank revised 2015 GDP projection down by 0.3 percentage points to 2.1 percent). - Macro-prudential policy recommendations: - Subject low-LTV mortgage loans insured on a portfolio basis to the same mortgage insurance rules applied to high-LTV loans; collect data on borrowed down payments. - Consider tighter amortization and lower LTV limits in market segments where uninsured mortgages remain high and caps on DSTI ratios. - Prohibit use of government-backed insured mortgages in non-CMHC securitization programs and gradually limit portfolio insurance tied to CMHC securitization. - Further reduce portfolio insurance for CMHC and private mortgage insurers and introduce more risk-sharing. - Increase the 4 percent threshold on covered bonds’ share in total assets to encourage market alternatives. - Re-examine government-backed mortgage insurance dimensions over the longer term. - Financial sector resilience and reforms: - Canadian banks profitable and well capitalized; NPLs below ½ percent of total loans and falling. - D-SIBs well capitalized but CET1 ratios reported below average G-SIB ratios by 1 percentage point. - Banks positioned to meet Basel III LCR and leverage requirements; minimum LCR requirement set at 100% beginning January 1, 2015. - Stress tests (2013 FSAP) indicate limited impact on financial stability even under a 50 percent decline in oil prices included in scenario. - Recommendations include: enhance supervisory cooperation across federal and provincial authorities; harmonize stress-testing; strengthen macro-prudential and crisis management frameworks; provide mandate for macro-prudential oversight to a single entity with broad powers. ### Fiscal consolidation at the general government level: stance and composition - General government fiscal outlook: - General government deficit expected to narrow from an estimated 1½ percent of GDP in 2014 to near balance over the medium term. - General government gross debt rose from 67 percent of GDP in 2007 to nearly 90 percent in 2012–13; expected to decline after 2015. - Federal government: - Strong deficit reduction: about 2 percent of GDP cumulative improvement in structural balances in 2011–14. - Federal government essentially on track to achieving balanced budget target in FY2015/16. - Recently announced federal fiscal measures estimated to cost about 0.2 percent of GDP per year in FY2014/15 and over the medium term. - Policy recommendation: consider adopting a neutral (cyclically-neutral) stance going forward; maintaining cyclically-adjusted primary surplus broadly constant at 2014 level would amount to 0.3 percent of GDP fiscal impulse over 2015–17 while still consistent with 25 percent debt-to-GDP target by 2021. - Use federal fiscal resources for targeted growth-friendly measures: R&D, SMEs, venture capital, strategic infrastructure. - If balanced-budget legislation introduced, design priorities: transparency, escape clauses, independent monitoring (e.g., Parliamentary Budget Office). - Provincial governments: - Fiscal space limited; highest public debt in Québec and Ontario. - Adjustment plans may need revenue measures if federal stance becomes neutral. - Health care spending: currently below nominal GDP growth but demographic pressures project health spending to rise from 8 percent to almost 12 percent of GDP by 2050 even under optimistic scenarios. - Recommendations: structural health reforms (patient- or activity-based funding, out-of-hospital care, consolidated purchases); strengthen provincial fiscal frameworks (regular spending reviews, independent fiscal agencies, binding medium-term ceilings); operationalize provincial budget offices (e.g., Ontario’s Financial Accountability Office). - Intergovernmental coordination: - Extend long-term provincial fiscal forecasts; publish consolidated general government forecasts in consultation with provinces and establish data sharing for long-term assumptions. ### Public Debt Sustainability Analysis (Annex III) — baseline and stress tests - Baseline projections and key figures: - General government gross debt peaked ~88 percent of GDP in 2012; staff baseline: decline to 86½ percent in 2014 and to 80 percent in 2019. - Net debt currently 37 percent of GDP (67 percent if only highly-liquid assets used). - Government financial assets ≈ 50 percent of GDP; highly-liquid assets ≈ 20 percent of GDP (40 percent of financial assets). - Effective interest rate: just below 4 percent in 2014; historical average 6 percent by 2018. - Gross financing needs expected below 15 percent of GDP after 2016. - Stress-test scenarios and impacts (selected exact figures): - Primary balance shock: deterioration ~1 percent of GDP raises gross debt-to-GDP by about 3 percentage points over projection period; sovereign risk premium assumed to increase by 25 bps per 1 percent of GDP deterioration. - Growth shock: lower real output growth by 1 standard deviation for 2 years starting in 2015 would raise gross debt to 91½ percent of GDP in 2016, then revert downward. - Interest rate shock: sovereign risk premia increase by 200 bps for two years raises interest bill by about ½ percent by 2016; gross debt-to-GDP about 1½ percentage points higher in 2019 (≈81½ percent). - Exchange rate shock: about 15 percent depreciation has minimal fiscal impact because ~90 percent of marketable debt is in Canadian dollar and FX exposures usually hedged. - Commodity price shock: 10 percent lower on average would increase gross debt to 91 percent of GDP in 2016 and decline to 85 percent by 2019. - Projections table highlights (selected exact values): - Real GDP: 2012: 1.9; 2013: 2.0; 2014: 2.4; 2015: 2.3; 2016: 2.1; 2017: 2.0; 2018: 1.9; 2019: 1.9; 2020: 1.9. - General government fiscal balance 5/: 2012: -3.1; 2013: -2.8; 2014: -1.5; 2015: -1.6; 2016: -1.2; 2017: -0.9; 2018: -0.7; 2019: -0.6; 2020: -0.1. - General government gross debt: 2012: 87.9; 2013: 87.7; 2014: 86.5; 2015: 86.8; 2016: 84.9; 2017: 83.0; 2018: 81.4; 2019: 80.0. - Current account balance 2/: 2012: -3.3; 2013: -3.0; 2014: -2.1; 2015: -2.6; 2016: -2.1; 2017: -1.9; 2018: -1.7; 2019: -1.6; 2020: -1.6. - Ten-year government bond (percent) memorandum: 2012: 1.9; 2013: 2.3; 2014: 2.2; 2015: 2.5; 2016: 3.6; 2017: 4.3; 2018: 4.7; 2019: 4.7; 2020: 4.7. - Policy-relevant observation: large liquid financial assets mitigate risks from high gross debt; debt composition (local-currency, fixed-coupon) and hedging practices limit FX risk. ### External sector assessment and REER/CA findings - Current account and CA gap: - CA: 3.0 percent of GDP in 2013 and projected at 2.1 percent of GDP in 2014. - EBA CA gap estimate: 1.6 percent of GDP for 2014 (down from 3.4 percent in 2013). - Staff assesses 2014 cyclically-adjusted current account between 0 to 1 percent of GDP weaker than medium-term fundamentals. - Real exchange rate (REER) assessment: - EBA REER regression estimates a REER gap of 3 percent for 2014 average (against 10 percent for 2013). - Staff assesses average 2014 REER overvaluation between 0 and 5 percent relative to fundamentals (down from 5–10 percent in July 2014 report). - REER depreciated by an estimated one percent in November–December 2014. - External position and policy implications: - NIIP turned slightly positive by end-2013 (1½ percent of GDP) and stood at 1 percent of GDP in 2014Q3. - Gross external assets and liabilities each around 160 percent of GDP; gross external debt about 80 percent of GDP (2014Q3). - Overall assessment: external position broadly consistent with medium-term fundamentals. - Policy responses to improve current account: measures to improve labor productivity, promote infrastructure for resource exports, facilitate interprovincial and international trade, and sustained provincial fiscal adjustment. ### Data revisions, recent developments, and IMF Board views - GDP data revisions: +0.2 percentage points in 2011 and 2012; main source: revision to gross operating surplus. - Recent macro developments: - Canadian growth: 2014 real GDP: 2.4; 2015 projection: 2.3. - House prices rose about 5–6 percent (y/y) through most of 2014; staff analysis suggests national real house price overvaluation between 7–20 percent with regional variation. - Household indebtedness above 150 percent of disposable income. - Unemployment rate hovered around 7 percent since end-2012 before edging down to about 6½ percent in October–December. - IMF Executive Directors’ views and policy guidance: - Agreed with staff appraisal: continued solid growth but risks tilted to the downside. - Monetary policy: remain accommodative given well-anchored inflation expectations and downside risks; support for Bank of Canada’s January 21 rate cut. - Macro-prudential: effective for insured mortgages; concern over rise in uninsured mortgages; additional measures may be needed for uninsured mortgage standards. - Fiscal: consolidation should continue at the general government level with composition shifting toward provinces; federal government could adopt a neutral stance and use resources for growth-friendly measures. - Structural reforms: needed to boost productivity, improve labour matching, and ease infrastructure bottlenecks. *Source: IMF staff report — excerpts from _cr1522.* ### 1. Fiscal Consolidation Challenges at the Provincial Level: Ontario and Québec __________________ 9 ### Fiscal Consolidation Challenges at the Provincial Level: Ontario and Québec ### Summary context - Ontario and Québec together account for about two-thirds of Canada’s population, near 60 percent of its GDP, and over half of its exports. - They are the most challenged provinces on public finances: Québec has the highest stock of public debt and Ontario the highest budgetary deficit among Canadian provinces. ### Economic backdrop and channels affecting provincial finances - Growth and composition - Canadian growth averaged 2½ percent in the first three quarters of 2014, slightly above potential. - Exports expanded in real terms on average 4½ percent (y/y) over the last four quarters, led by non-energy exports. - Real private nonresidential fixed investment has slowed, with weakness widespread across energy and broader machinery and equipment spending. - Labour and consumption - The unemployment rate hovered around 7 percent since end-2012 before edging down to about 6½ percent in October–December. - Hiring has been modest and concentrated in temporary/part-time work (about half of jobs added in 2014 were part-time). - Private consumption remained resilient supported by rising household wealth and exceptionally easy financial conditions. - Housing and household balance sheets - House prices rose about 5–6 percent (y/y) through most of 2014, with strongest gains in Calgary, and single-family homes in Toronto and Vancouver. - Staff analysis suggests a national real house price overvaluation between 7–20 percent, with significant regional variation. - Household indebtedness remained at record high levels, over 150 percent of disposable income, while household net worth continued rising. - External and exchange rate developments - The cyclically-adjusted current account (CA) balance in 2014 is estimated at -1.8 percent of GDP. - According to the EBA CA approach, the CA gap narrowed to 1.6 percent of GDP in 2014 (from 3.4 percent in 2013); staff assesses the 2014 CA gap to be between 0 to 1 percent of GDP. - The Canadian dollar is estimated at 0–5 percent above the level consistent with medium-term fundamentals in 2014 (compared to 5–10 percent REER gap for 2013). In the last two months of 2014 the exchange rate depreciated by an estimated one percent in real effective terms. ### Fiscal developments and projections - Aggregate public finances - The general government fiscal deficit is expected to narrow from about 2¾ percent of GDP in 2013 to 1½ percent in 2014, representing a ¾ percent of GDP improvement in structural terms. - General government gross debt rose from 67 percent of GDP in 2007 to nearly 90 percent of GDP in 2012–13, and is expected to decline after 2015. - Federal fiscal stance - The federal government is essentially on track to achieving its balanced budget target in FY2015/16, aided by stronger-than-projected growth, one-off measures (including ¼ percent of GDP from an auction of broadband spectrum license), and lower spending ahead of planned restraint. - Recently announced fiscal measures are estimated to cost about 0.2 percent of GDP per year in FY2014/15 and over the medium term. - Provincial fiscal trends - Headline and cyclically-adjusted provincial deficits are expected to improve in 2014 by about ½ percent of GDP. - Provinces’ fiscal situations vary: Ontario and Québec face consolidation challenges and expect to return to balanced budgets by FY2017/18 and FY2015/16, respectively. - Western provinces’ fiscal positions are relatively strong but are vulnerable to a sharp and persistent drop in crude oil prices—Alberta’s non-renewable resource revenue represents about 20 percent of total provincial revenue. ### Fiscal consequences of the 2008–09 recession (provincial detail) - Ontario - Ontario’s GDP fell cumulatively between 2007 and 2009 about 5 percent more than Québec’s. - Rapid deterioration of fiscal balance in FY2009/10 driven by a large discretionary increase in program spending and lower revenues. - In 2013–14 the deficit is estimated at Can$10.5 billion (1½ percent of Ontario’s GDP). - Québec - Québec experienced a milder loss of tax revenues; revenues returned to pre-crisis levels in FY2010/11. - Program spending increases were mainly structural (health care spending grew almost 7 percent between FY2007/08 and FY2009/10). - In 2013–14 the deficit is estimated at Can$1.7 billion (½ percent of Québec’s GDP). - Debt market effects - Gross-debt-to-GDP ratios increased in both provinces; the bond yield spread between the provinces and the federal government widened and remained around 100 basis points, twice the pre-crisis level. ### Provincial policy commitments and prospects - Ontario - Committed to balancing the budget in FY2017/18. - After increasing to Can$11.8 billion in FY2014/15, the deficit is projected to narrow and reach a surplus in FY2017/18. - Objectives include reducing net debt to its pre-recession level of 27 percent of GDP (no specific date). - Adjustment burden mainly on program spending, projected to grow well below CPI inflation; two-year public sector wage freeze will have modest impact. - Asset-management steps (divest non-core assets) could yield Can$2–3 billion for potential infrastructure investments. - Québec - Committed to balancing the budget in FY2015/16. - Long-run targets: reduce gross debt and accumulated deficits to 45 percent and 17 percent of GDP in 2025–2026, respectively. - Recent returns to balance have been repeatedly postponed; slippages attributed to lower-than-expected revenues and higher-than-expected spending. - The Fall 2014 budget update identified about 85 percent of the measures (from Can$7.3 billion) needed for FY2015/16; measures focus on restraining expenditure growth, freezing public service hiring for two years, and reducing tax expenditures and subsidies. - Québec’s challenges are more structural: slower potential growth, larger government role, and structurally higher health care spending growth despite lower per capita health expenditure. ### Key risks and vulnerabilities - Macroeconomic risks - Substantially lower crude oil prices will be a drag on activity, mainly through weaker investment in the energy sector. - Risks to the outlook are modestly tilted to the downside, reflecting weaker global growth and still-unfolding effects from the large fall in oil prices. - Domestic financial vulnerabilities - Elevated house prices and high household indebtedness increase vulnerability, though risks to financial stability are judged contained. - A faster-than-expected tightening in financial conditions associated with U.S. monetary normalization or weaker terms of trade could interact with domestic vulnerabilities. - Fiscal risks - Provincial consolidation plans—especially in Ontario and Québec—face implementation risks related to health care cost containment, slower-than-expected revenue recovery, and structural spending pressures. *Source: IMF staff report — Box 1, “Fiscal Consolidation Challenges at the Provincial Level: Ontario and Québec.”* ### 5. Recovery momentum is expected to continue, gradually reabsorbing remaining slack ### 5. Recovery momentum is expected to continue, gradually reabsorbing remaining slack ### Recovery outlook and macroeconomic projection - Above-potential GDP growth is envisaged for 2014 and 2015 as exports and non-energy investment benefit from the U.S. recovery. - The adverse impact of significantly lower oil prices will especially dampen near-term investment in the energy sector. - Headline CPI inflation is expected to decelerate in 2015 as a result of lower oil prices, but core CPI inflation will likely remain close to the Bank of Canada’s target rate of 2 percent (y/y) as output and unemployment gaps gradually close. - Growth is expected to become more balanced going forward, with exports and non-energy investment largely offsetting an expected moderation of private consumption and residential and energy investment as a result of rising interest rates, much lower oil prices, and high household indebtedness. - Staff continues to expect a “soft-landing” for the housing market, as higher interest rates and weaker terms-of-trade prospects would temper housing demand, especially in markets with stronger overvaluations and in regions more reliant on the energy sector. - Canada is heading towards general elections in 2015; the general election to elect members to the House of Commons of the Canadian Parliament is tentatively scheduled for October 19, 2015. ### Key risks and channels (Risk Assessment Matrix summary) - Risks to growth are modestly tilted to the downside—led by external risks that could interact with domestic risks and vulnerabilities. - Principal external risks: - Tighter global financial conditions (e.g., market displacement from asynchronous policy normalization). - Effects from substantially weaker oil prices and weaker terms of trade. - Principal domestic risks: - Housing sector overvaluation together with high household indebtedness. A sharper-than-expected correction of house prices would reduce household wealth and access to finance, lowering domestic demand and output. - Interaction and combined risks: - Downside risks could occur in unison (e.g., tighter global financial conditions, further deterioration in terms of trade, and a housing market correction). - A deeper downside scenario with these elements combined would produce about a 1 percent drop in real GDP in the first year, rising to about 1¼ percent reduction over the medium term. - Risk-assessment numeric highlights: - An abrupt correction in house prices: model estimates suggest that a 10 percent decline in house prices could lead to about 0.1 percent decline in Canada’s private consumption. - A 100 basis point increase in interest rates translates into about 0.3 percent decline in private consumption in one year. - Compared to the October 2014 WEO, in the January 2015 WEO baseline projected oil prices are about 43 percent lower in 2015 (down from US$100 per barrel to below US$ 57 per barrel) and 30 percent lower over 2015–19. ### Downside risk scenarios and spillovers (Box 2 highlights) - Scenario components analyzed: - Scenario 1: Term premium shock (e.g., 100 basis point rise in term premium in 2015). - Scenario 2: Scenario 1 + Increase in debt service. - Scenario 3: Scenario 2 + Lower oil price (additional 10 percent decline). - Scenario 4: Scenario 3 + Decline in house prices. - Estimated macro effects under a combined deeper downside scenario: - Real GDP: about 1 percent drop in year 1, rising to about 1¼ percent reduction over the medium term. - Consumption and investment: significantly hurt. - Exports: would increase as monetary policy is expected to react by easing its stance. - External and financial linkages: - Canada’s merchandise exports to the United States declined from about 85 percent in 2003 to 75 percent in 2013. - Staff estimates that a one percentage point increase in U.S. business investment growth is associated with ½ percentage point increase in Canada’s real exports growth after one year. - Canada’s consolidated banking claims on non-residents as of 2014Q2 stood at about 70 percent of GDP, of which two-thirds were vis-à-vis the United States. - Canada’s liabilities to foreign banks are about 20 percent of GDP. - Outward spillovers: - Canadian banks account for about 60 percent of the ECCU’s banking system assets. - Canadian tourists accounted for about 12 percent of total arrivals in the Caribbean region in 2013. - Remittance inflows from Canada amounted to about 3 and 2 percent of GDP for Guyana and Jamaica, respectively, in 2012. ### Lower oil prices: effects and industry reaction (Box 3 highlights) - Role of energy sector: - Energy sector accounted for almost 10 percent of GDP and over 25 percent of exports in 2013–14. - Capital expenditure in oil and gas comprises about ¼ of total non-housing private investment. - Fiscal exposure: - Direct revenues from oil amount to about 1½ percent of total revenue or ½ percent of GDP (over two-thirds of which in Alberta). - Macroeconomic implications of persistently lower crude oil prices: - A persistent and sizeable decline in oil prices dampens investment and employment in the energy sector, lowers corporate equity prices, deteriorates terms of trade, and can reduce private consumption. - Breakeven prices for Canadian oil sands are believed to range from US$50 per barrel to over US$85 per barrel. - Simulations: a 10 percent decline in oil prices, driven largely by supply factors, reduces Canada’s GDP growth by less than 0.1 percentage point per year, cumulating to about ¼ percent lower level of GDP over the medium term. - The output losses would be larger if demand factors drive lower oil prices. - Effects on headline inflation are immediate; pass-through to core inflation is small. - Exchange rate depreciation and monetary easing would partially offset negative effects; deterioration in the current account is small and short-lived. - Preliminary industry responses: - Suncor Energy plans to cut capital spending by $1 billion in 2015 from previously planned $7.2–$7.8 billion while keeping average production of 540,000–585,000 barrels of oil equivalent per day (compared to $7.8 billion planned and 565,000–610,000 barrels planned for 2014). - Canadian Natural Resources plans a large cut in its 2015 capital budget from $8.6 billion to $6.2 billion and expects somewhat lower short-term production. - Major projects already underway are expected to move forward, but new projects are likely to be deferred; pipeline capacity remains the main issue for long-run crude production. ### Policy options and recommendations - Macroeconomic policy space: - Both monetary and fiscal policy have space to respond if adverse shocks materialize or intensify. - The federal government and some provinces have fiscal space for automatic stabilizers to operate fully. - Monetary policy has room to ease if downside risks materialize or intensify. - Recommended policy mix to support a balanced and sustained recovery: - Maintain monetary accommodation while pursuing gradual fiscal consolidation at the general government level to support rebalancing from consumption and residential investment towards exports and business investment. - Allow automatic stabilizers to operate fully at the federal level (and for provinces with fiscal space), and consider fiscal loosening in the event of a larger or more persistent adverse shock. - Complement short-term stabilization with structural reforms to improve productivity and address energy infrastructure bottlenecks over the medium term. - Use targeted macro-prudential policies to address housing sector vulnerabilities. - Prepare fiscal and liquidity backstops: banks have capacity to recapitalize; CMHC and the federal government have space to respond; Bank of Canada to stand ready to provide liquidity support in the event of substantial credit losses and severe liquidity shortages for Canadian financial institutions. *Source: IMF staff report (Canada), “Recovery momentum is expected to continue, gradually reabsorbing remaining slack.”* ### 10. Monetary policy remains accommodative given slack in the economy and stable ### _cr1522 - 10. Monetary policy remains accommodative given slack in the economy and stable ### Monetary policy stance and outlook - Policy rate has been on hold at 1 percent since September 2010. - Overall financial conditions have been easing until recently, with interest rates across maturities declining since end-2013 and business credit growth picking up. - Staff estimates of the (time-varying) neutral rate of interest suggest that monetary policy has been supportive throughout the recovery and currently with a negative interest rate gap (i.e., actual policy rate below the neutral rate). - Monetary normalization is expected to begin later in 2015. - Staff analysis suggests a gradual increase in policy rates starting in the second half of 2015 toward a medium-term neutral rate estimated to be between 3 and 4 percent over the medium term. - Market expectations of policy tightening more towards the end of 2015 have increased recently. - Rationale for staying accommodative for now: - Well-anchored inflation expectations. - Downside external risks to growth. - Negative impact on domestic growth and inflation from the recent decline in oil prices provides additional room for maintaining monetary accommodation. - Strong co-movement between Canadian and U.S. long-term interest rates; an expected gradual increase in U.S. rates around mid-2015 along with terms-of-trade deterioration should help cool down the housing sector. ### Macro-prudential policies: risks and recommended targeted action - Evolving household balance sheet and housing market vulnerabilities may require further macro-prudential action if they resume rising. - Measures introduced over the past few years have been effective in significantly lowering growth of insured mortgage loans. - Uninsured mortgages—loans with the maximum loan-to-value (LTV) ratio of 80 percent—recently comprise more than two-thirds of mortgage originations and have been rising noticeably (on average, 10 percent per year since mid-2010), alongside house price increases, especially in high-end, single-family housing markets. - Some new lending, particularly by smaller and less regulated financial institutions, may be going to non-prime borrowers or reflect greater use of borrowed funds for larger down payments to avoid insurance premiums or tighter conditions on insured mortgages. - Policy options and recommendations: - Subject low-LTV mortgage loans insured on a portfolio basis to the same mortgage insurance rules applied to high-LTV mortgage loans, given many uninsured low-LTV loans have LTVs in the upper range between 75–80 percent and down payments can be borrowed. Collect data on borrowed down payments to assess avoidance. - Consider additional targeted actions on uninsured mortgages, including tighter amortization and lower LTV limits for market segments where they remain relatively high and caps on debt-service-to-income (DSTI) ratios that would also address borrowed down payments. These measures would have a particularly dampening effect on the most overheated regional markets. - Near-term actions to limit taxpayer exposure and encourage private risk retention: - Implement current plans to prohibit the use of government-backed insured mortgages in non-CMHC securitization programs and gradually limit portfolio insurance tied to CMHC securitization. - Further reduction of portfolio insurance for both CMHC and private mortgage insurers and changes to introduce more risk-sharing should be considered. - Increase the 4 percent threshold on covered bonds’ share in total assets to help encourage market alternatives to insured mortgage-related instruments as issuance of NHA MBSs and CMBs is further reduced. - Re-examine extensive government-backed mortgage insurance dimensions over the longer term, including managing a transition from market reliance on government-backed instruments as the public sector role recedes. ### Financial sector policies, reform agenda, and FSAP recommendations - Banking sector performance and resilience: - Canadian banks are profitable and well capitalized; reported record profits despite stable interest rate margins as non-interest income increased. - Loan quality has remained favorable, with nonperforming loans (NPLs) below ½ percent of total loans and falling. - D-SIBs are well capitalized but report CET1 ratios below the average capital ratios of G-SIB by 1 percentage point. - Banks are well positioned to meet the new Basel III Liquidity Coverage Ratio (LCR) and leverage requirements in advance of their implementation. - Financial stability and stress testing: - Stress tests conducted for the 2013 FSAP indicate the impact on financial stability of a tail risk shock characterized by the worst three-year recession in the last 35 years would be limited, even under a 50 percent decline in oil prices included in the scenario. - Banks’ exposures to the energy sector and foreign exchange are small, but risks from operations abroad and increasing reliance on capital markets and wealth management warrant close attention. - Non-bank financial sector: - Performance of life insurance and pension funds has improved; life insurers reported higher capital and profits due to insurance sales and wealth management activities. - The average defined benefit pension fund has become fully funded for the first time since 2007 mainly due to strong equity returns. - Shadow-banking activity remains relatively limited; banks and other regulated institutions play the prominent role in all major segments. - Progress on financial reform: - Basel III LCR and leverage standards implemented and take effect in January 2015; minimum LCR requirement for Canadian institutions is set at 100% beginning January 1, 2015. - Federally regulated deposit-taking institutions expected to have Basel III leverage ratios that exceed three per cent. - Third generation resolution plans for the D-SIBs expected to be completed by end-FY2014; capital surcharge for 6 designated D-SIBs will come into effect from January 2016. - Harmonized rules for reporting certain derivatives data to trade repositories implemented by largest provincial securities regulators; OSFI’s draft guideline for derivatives sound practices and plans to establish margin requirements for non-centrally cleared derivatives. - A new market transaction reporting system for debt securities, including all repo transactions, will allow the BOC to monitor activity and potential financial stability risks in the repo market. - Outstanding FSAP recommendations and further steps: - Enhance supervisory cooperation across federal and provincial authorities and harmonize stress-testing by subjecting all systemic federally- and provincially-regulated entities to common stress-testing frameworks. - Strengthen macro-prudential and crisis management frameworks; staff argued for providing a mandate for macro-prudential oversight to a single entity with broad participation and powers to collect necessary data and operationalize crisis coordination. - Other recommendations include: (i) provide more clarity around the legal independence of the OSFI, (ii) formalize banks’ reporting and notification obligations in some areas, (iii) adopt a transparent and consistent regulatory regime for group-wide insurance supervision, (iv) extend the scope of OSFI’s oversight of the CMHC, and (v) expand financial sector data collection and dissemination. *Source: _cr1522 - 10. Monetary policy remains accommodative given slack in the economy and stable* ### 20. Fiscal consolidation should proceed at the general government level. The general ### Fiscal consolidation should proceed at the general government level ### General government fiscal outlook and composition of adjustment - General government deficit is expected to gradually narrow from an estimated 1½ percent of GDP in 2014 to near balance over the medium term, with gross debt declining and remaining relatively resilient to a series of macro and fiscal shocks (Annex III). - After nearly complete removal of earlier stimulus, the federal government is still projected to provide some contribution to fiscal adjustment at the general government level in 2015–17. - Key fiscal challenges are concentrated at the provincial level, particularly arising from looming aging-related spending pressures, making it critical that the composition of fiscal adjustment shifts more substantially towards the provinces. ### Federal government: stance, use of resources, and framework Findings and projections - Strong deficit reduction achieved in recent years: about 2 percent of GDP cumulative improvement in structural balances in 2011–14. Policy recommendations - Federal authorities should consider adopting a neutral (cyclically-neutral) stance going forward, implying a small fiscal easing in the near term while remaining consistent with achieving low public debt objectives by 2021. - Maintaining a cyclically-adjusted primary surplus (at the federal level) broadly constant at its 2014 level would amount to some 0.3 percent of GDP fiscal impulse over 2015–17, but would still be consistent with the authorities’ debt reduction target of 25 percent debt-to-GDP ratio by 2021. - Available federal fiscal resources could be used for targeted growth-friendly measures focused on R&D, SMEs, venture capital, and strategic infrastructure projects, with little risk of crowding out private investment. - Reducing federal taxes could provide more room to raise revenue at the provincial level, given overlapping tax bases. Medium-term framework - Fiscal policy at the federal level can benefit from a stronger medium-term anchor; balanced budget legislation is intended by the authorities. - If balanced budget legislation is introduced, design priorities include: transparency, ease of communication, convergence toward medium-term objectives, legal basis for credibility, well-defined escape clauses to avoid pro-cyclicality, and independent monitoring (e.g., Parliamentary Budget Office). ### Provincial governments: constraints and priorities Findings - Fiscal space is much more limited at the provincial level due to mixed progress on consolidation and long-term sustainability challenges; provinces with highest public debt include Québec and Ontario. - For adjustment plans to deliver sustainable balanced budgets, spending measures may need to be supplemented with additional revenue measures, especially if the federal stance becomes more neutral. Health care spending - Growth rate in health care spending has slowed in recent years and is currently below nominal GDP growth. - Demographic factors expected to exert strong upward pressure on costs: even under optimistic scenarios, health spending is projected to rise from 8 percent to almost 12 of GDP by 2050. Policy recommendations - Continue progress in containing health care spending through structural reforms (e.g., moving toward patient- or activity-based funding, increasing out-of-hospital care, consolidating purchases). - Strengthen provincial fiscal frameworks: regular spending reviews, possible role for independent fiscal agencies, permanent frameworks for strategic spending reviews to feed into binding medium-term ceilings and support balanced budget rules. - Operationalize provincial budget offices where planned (e.g., Ontario’s Financial Accountability Office). - Revisit fiscal frameworks in energy-abundant provinces and federally to manage commodity price volatility (noting Alberta’s 2013 example). ### Intergovernmental coordination - Improve coordination of fiscal policy between levels of government through: extending long-term fiscal forecasts at the provincial level, publishing consolidated general government fiscal forecasts in consultation with provinces, and establishing data sharing mechanisms for long-term fiscal assumptions and forecasts to build public awareness and consensus on aging-related fiscal challenges. ### Policies to boost productive capacity Productivity and innovation - Structural measures are needed to strengthen lagging labor productivity (Chart) through improved skills-job matching and fostering business R&D. - Recent initiatives: pilot Business Innovation Access Program to support SMEs and efforts to invigorate venture capital markets; further support for innovative start-ups and firm growth recommended. Infrastructure, trade, and competition - Priority measures include: enhancing international transportation networks (e.g., planned Windsor-Detroit International Crossing), implementation of Canada-EU trade agreement, addressing energy infrastructure bottlenecks, and removing barriers to FDI. - Improve competition in network sectors, reduce barriers to interprovincial trade and labor mobility (deregulating professions and skilled trades), and make the immigration system more responsive to labor market conditions. - Investment in Information Communication Technology per worker in Canada is half that in the United States, with ¾ of the gap explained by investment in software; most of the gap comes from the financial sector, professional services, and the telecommunication sector. ### Authorities’ views: risks, housing, and financial sector Macro risks and policy options - Authorities broadly shared staff’s assessment of the recovery and outlook and the need for rebalancing toward exports and business investment. - Balance of risks judged on the downside but less so than in previous years; key risks include weaker oil prices, slower growth abroad, and a housing market correction. - Policy responses to combined downside shocks include delaying monetary normalization, easing the policy rate, using alternative monetary instruments (e.g., forward guidance) if the policy rate reached the lower bound, and allowing automatic stabilizers to operate given federal and some provincial fiscal room. Oil price implications - Fall in oil prices judged largely supply driven; impact on Canada’s real GDP expected to be modest near term due to large prior investments in oil sands, increasing pipeline capacity, and long-term planning by energy firms. - Nevertheless, lower oil prices could negatively affect oil and gas sector investment; the fall in crude oil prices is partly offset by Canadian exchange rate depreciation and stronger U.S. economy for non-energy exports, but nominal GDP impact via lower export prices and energy-sector profits is significant. Housing finance and stability - Authorities view existing informal macro-prudential and crisis management frameworks as appropriate and effective. - CMHC increased guarantee fees for its securitization programs effective April 1, 2015, as part of reducing government exposure to the housing market. - Reform of government-backed mortgage insurance should be gradual and deliberate; staff suggested a deductible for mortgage insurance as an incremental risk-sharing measure. - Bank of Canada and OSFI are monitoring bank credit and housing vulnerabilities; Bank of Canada’s flexible inflation targeting can be used as a last line of defense for financial stability if household imbalances intensify. Financial sector oversight - Authorities will continue enhancing cooperation with provincial regulators, strengthen stress testing capacity of provincial regulators, and maintain current delineation of responsibilities between federal and provincial regulators to avoid undermining provincial incentives. - Bank of Canada plans to provide provincially-regulated deposit taking institutions access to its emergency lending facility under conditions: systemically important institution, credible recovery and resolution plans, and provincial indemnity for potential losses. ### Staff appraisal (summary) - Canada experienced solid growth over the past year but rebalancing toward exports and investment remains incomplete. - Substantially lower oil prices will likely be a drag on growth mainly through weaker investment in the energy sector. - Higher household wealth, rising disposable incomes, and relaxed financial conditions continue to support private consumption; housing momentum is mixed across regions. - Rebalancing requires stronger translation of export gains into business investment; targeted fiscal measures and structural reforms to boost productivity are important complements. *Source: IMF staff report excerpt (Canada).* ### 44. Solid growth is envisaged to continue while becoming more balanced. Stronger non- ### 44. Solid growth is envisaged to continue while becoming more balanced. Stronger non- ### Growth outlook - Stronger non-energy exports and business investment, spurred by the U.S. recovery, should sustain Canada’s growth above potential in the near term. - Rising long-term interest rates and weaker terms-of-trade mostly due to significantly lower oil prices would moderate private consumption and residential investment, with an expected ‘soft-landing’ in housing markets. - Core inflation is expected to remain close to the Bank of Canada’s target rate of 2 percent as the remaining slack in the economy is gradually reabsorbed and inflation expectations remain well anchored. ### Balance of risks - Balance of risks is modestly tilted to the downside. - Key downside risks: faster-than-expected tightening of global financial conditions; effects from substantially lower crude oil prices; sluggish global growth. - Amplifying factors for deeper downside: high household balance sheet vulnerabilities and a sharper-than-expected correction in house prices. - Upside possibilities: stronger-than-expected U.S. demand; faster resolution of infrastructure bottlenecks supporting activity in the energy sector. - A depreciating Canadian dollar could help dampen adverse impacts, but net outcomes can still be negative. ### Impact of lower crude oil prices - Lower crude oil prices would likely cool activity in oil-rich provinces, which have been an engine of Canada’s growth in recent years. - Provinces reliant on manufacturing and services would likely benefit from substantially lower oil prices. - Canada’s ability to deliver productivity gains in non-energy sectors will be increasingly important. ### Monetary and macro-prudential policy - Monetary policy can afford to stay accommodative for now given well-anchored inflation expectations and downside risks to export-driven growth. - A monetary policy tightening cycle should await firmer signs of a more balanced and durable recovery with stronger business investment in non-energy sectors. - Further macro-prudential policy action may be needed if household balance sheet and housing market vulnerabilities resume rising (examples: tighter standards for uninsured mortgages). ### Reducing taxpayer exposure and encouraging private risk retention - Desirable actions include changes to collateral used in securitization, tightening portfolio insurance limits, and changes to mortgage insurance products to introduce more risk-sharing. - Any structural change to mortgage insurance and the transition to a different regime would need to proceed gradually to avoid unintended consequences on financial stability. ### Financial sector performance and reforms - Financial sector performance remains strong; Canadian banks’ performance has improved. - Stress tests suggest banks are resilient to credit, liquidity, and contagion risks arising from a tail risk scenario. - Vigilance is essential against risks from housing and banks’ increasing exposure to capital markets and foreign operations. - Performance of life insurance and pension funds has improved noticeably. - International financial reform agenda: Basel III Liquidity Coverage Ratio and leverage standards have been implemented and will take effect in January 2015; banks are well positioned to meet the new requirements. - Staff welcomes OSFI’s draft guideline for Derivatives Sound Practices and progress on the federal authorities’ stress-testing framework and steps toward establishing a cooperative capital markets system. - Outstanding FSAP recommendations on financial sector oversight, safety nets, and macro-prudential frameworks remain to be addressed. ### Fiscal policy recommendations - Fiscal consolidation should proceed at the general government level, but the federal government should consider adopting a neutral stance going forward. - With key fiscal challenges concentrated at the provincial level, particularly from aging-related spending pressures, it is critical that the composition of fiscal adjustment shifts from the federal government towards the provinces. - If the federal authorities were to introduce balanced budget legislation, the new rules-based framework should be transparent, easy-to-communicate, ensure convergence towards the authorities’ medium-term objectives, and allow sufficient flexibility in the face of shocks to avoid pro-cyclicality. - Long-term challenges from aging-related spending call for extending long-term fiscal forecasts at the provincial level and publishing consolidated general government fiscal forecasts in consultation with provinces. ### Structural policy priorities - Continue reform efforts to increase productivity in non-energy sectors by focusing on: - improving skills-job matching; - promoting penetration of information and communication technologies; - fostering business investment in R&D. - Enhance interprovincial and international trade, including through implementation of major trade agreements. - Improve competition in network sectors and address infrastructure constraints in energy exports to boost medium-term growth. *Source: IMF staff assessment contained in the Canada report excerpt.* ### 54. It is expected that the next Article IV consultation take place on the standard ### _cr1522 - 54. It is expected that the next Article IV consultation take place on the standard ### Growth, demand, and trade - "Private consumption regained strength recently,..." - "Canada's growth remained strong relative to its peers, ..." - "Exports, including non-commodity, picked up as well (especially in volume terms), driven by rising foreign demand..." - Real GDP (Index 2007Q4=100) shown for Australia, Canada, New Zealand, U.S., G7 average, U.K. (figure timeframe up to 2013Q4). - Household Consumption Expenditure Growth and Contributions (Y/Y percentage change) series through 2014Q3. - Drivers of Private Consumption (Y/Y percentage change, in real terms) include Disposable income, Other wealth, Financial wealth, Housing wealth. - Export Value and Foreign Demand (Index, 2007Q4=100 unless otherwise indicated) with Foreign Activity Measure (RHS) 1/ and components: Energy commodity exports, Non-energy commodity exports, Non-commodity exports (data through 2014Q3). - "…and depreciating Canadian dollar while growth in until labor cost slowed recently and terms of trade edged down." ### Monetary conditions and inflation - "Both headline and core CPI inflation picked up recently toward the mid-point of Bank of Canada's inflation target band,..." - "…reflecting temporary factors such sector-specific shocks, in addition to exchange rate pass-through effects." - "Government bond rates have been declining since September 2013, in line with the U.S. rates,..." - "…and overall financial conditions remained exceptionally accommodative,..." - Equity Markets (Index, Jan 2007 = 100): S&P TSX Composite Index, S&P TSX Small Cap Index, S&P TSX Financials Index, S&P 500 Composite Index (series through Dec-14). - Ten-Year Government Bond Yields (Percent) for Canada and U.S. (series through Dec-14). - Financial Conditions Index (Average over last 10 years = 0) (series through Nov-14). - Inflation Measures (Y/Y percentage change): CPI, Core CPI (series through Dec-14). - Nominal Exchange Rates (USD/CAD) series (Dec-04 to Dec-14). ### Labor market - "Canada's Labor Market Has Fared Relatively Well" - "Unemployment rate remained around 7 percent but edged down to post-2008 lows by end-2014." - "Long-term unemployment rate stayed high after the crisis but well below the U.S. levels." - "Labor force participation rates remained stable in Canada,..." - "…but employment growth was subdued ... and was concentrated in part-time jobs,... while wage growth remained modest." - Full-time and Part-time Employment (Y/Y percentage change) through 2014Q4. - Unemployment Rates and Gap (Percent) shown for Canada and United States through 2014Q4; unemployment around 7 percent in recent years. - Labor Force Participation Rates (Index, 2007Q4 = 100) for Canada working-age and prime-age and U.S. counterparts through 2014Q4. - Long-term Unemployment (Percent) for Canada and United States through 2014Q4. - Average Hourly Wages (Y/Y percentage change) for Canada and United States through 2014Q4. - Employment Growth contributions by sector (Construction, Services, Manufacturing, Mining, oil & gas) through 2014Q4. ### Housing sector - "Mortgage rates remained low, and house prices continued rising." - "Figure 4. Housing Sector Remained Strong ...as also compared to international peers." - House Prices and 5-Year Mortgage Rate (Prices: 2006 = 100; mortgage rate: Percent) (2006–2014). - Household Completions and Unabsorbed Dwellings (Units, yearly average) series (1993–2013). - Housing Starts and Real Residential Investment (Y/Y percentage change) through 2014Q3. - House Price and Sales 1/ (Y/Y percentage change) classification of Demand Shock vs Supply Shock (note 1/: defined based on whether house prices and sales move by at least one standard deviation in same/opposite direction). - "Construction activity moderately rebounded recently... as sales stabilized, absent major demand or supply shocks." - House Prices to Household Income and Rent (Ratios) and international House Price-to-Rent Ratios (Index, 2006 = 100). - "Though price relative to household income has edged down, the price-to-rent ratio continues to rise... ...adding to increasing inventory,..." ### Fiscal outlook and public finances - "General government deficit is expected to narrow in 2014,..." - "Figure 5. Fiscal Consolidation Proceeds but Provinces Continue Facing Challenges" - "…driven in part by consolidation efforts at the federal level." - "While starting fiscal positions vary across provinces,... total provincial debt is projected to increase in the medium term...and in the longer run, driven by healthcare spending,..." - Federal Government: Change in Cyclically-Adjusted Primary Balance (Percent of potential GDP) projections with Stimulus and Consolidation periods (series through 2020). - Net Debt Outlook (Percent of GDP) for Federal and Provincial and Local (projections through 2020). - Projected Increase in Health Care Spending (Percent of GDP) showing "Excess cost growth (baseline)" and "Aging only" through 2048. - Federal and Provincial & Local Government Capital Formation (Percent of GDP) (2000–2014 and projections). - Provincial Net Debt, FY 2013/14: Net debt per capita (Can$; RHS) and Net debt (Percent of provinces' GDP) by province (labels QCONNSPEINBMBNLBCSKAB etc.). - Table 1 and Table 2 fiscal projections (selected figures preserved in Table 1/2 entries below). ### Financial sector resilience and banking - "Figure 6. Financial Sector Remains Resilient" - "Profitshave been recently driven by stronger revenues from capital market operations, wealth management, and trading." - "…and banks remain highly profitable, with highest long-term ratings among G-SIBs." - "Canadian banks' capital ratios, while below those of G-SIBs, have been increasing recently,..." - "…and credit growth, especially mortgage credit, has stabilized." - "Non-performing loans are low and at their pre-crisis level,..." - Big 6 Banks: Net Income by region (Canada, U.S., Other international) and share of net income from other international (percent, RHS) (2006–2014). - NPLs/Loans (Percent) by loan type: Consumer loans, Non-residential mortgage, Residential mortgage, Other loans (series through 2014Q3). - Common Equity Tier1 Ratio (Percent): Average, Canadian D-SIBs vs Average, fully loaded G-SIBs (2013Q1–2014Q3). - "The share of banks’ net income derived from non-U.S. foreign operations continues to fall reflecting headwinds faced by some Latin American and Caribbean economies." - Financial Soundness Indicators (Table 4, selected): - Total Assets (1/ Billions of Canadian dollars): 2,800.7 (2009), 3,019.2 (2010), 3,265.4 (2011), 3,682.2 (2012), 3,854.1 (2013), 4,083.5 (2014Q3). - Percent of GDP: 178.7 (2009), 181.6 (2010), 184.5 (2011), 201.1 (2012), 203.5 (2013), 205.0 (2014Q3). - Total Capital Ratio: 14.7 (2009), 15.6 (2010), 15.9 (2011), 16.2 (2012), 14.3 (2013), 14.0 (2014Q3). - Tier 1 Ratio: 12.1 (2009), 13.1 (2010), 13.3 (2011), 13.4 (2012), 11.7 (2013), 11.9 (2014Q3). - NPLs to Gross Loans: 1.3 (2009), 1.2 (2010), 0.8 (2011), 0.7 (2012), 0.6 (2013), 0.4 (2014Q3). - Return on Assets: 0.7 (2009), 1.1 (2010–2013 range), 1.2 (2014Q3). - Return on Equity: 18.2 (2009), 23.0 (2010), 23.6 (2011), 22.7 (2012), 22.3 (2013), 23.4 (2014Q3). - Liquid Assets to Total Assets: 15.4 (2009), 15.5 (2010), 15.2 (2011), 11.9 (2012), 11.3 (2013), 10.9 (2014Q3). - Customer Deposits to Loans: 113.7 (2009), 113.6 (2010), 114.2 (2011), 96.3 (2012), 98.2 (2013), 99.0 (2014Q3). ### Macroeconomic projections and indicators (Tables 1–3, 2012–2020) - Table 1. Canada: Medium-Term Scenario 2012–2020 (Real GDP and components; Employment and inflation; Fiscal and external indicators). Selected rows (values preserved): - Real GDP: 2012: 1.9; 2013: 2.0; 2014: 2.4; 2015: 2.3; 2016: 2.1; 2017: 2.0; 2018: 1.9; 2019: 1.9; 2020: 1.9. - Q4/Q4: 2012: 1.0; 2013: 2.7; 2014: 2.4; 2015: 2.1; 2016: 2.1; 2017: 1.9; 2018: 1.9; 2019: 1.9; 2020: 1.9. - Net exports (contribution): 2012: -0.4; 2013: 0.2; 2014: 1.2; 2015: 1.2; 2016: 0.4; 2017: 0.2; 2018: 0.1; 2019: 0.0; 2020: 0.0. - Final domestic demand: 2012: 2.5; 2013: 1.5; 2014: 1.6; 2015: 1.2; 2016: 1.6; 2017: 1.8; 2018: 2.0; 2019: 1.9; 2020: 1.9. - Unemployment rate 3/: 2012: 7.3; 2013: 7.1; 2014: 6.9; 2015: 6.8; 2016: 6.8; 2017: 6.7; 2018: 6.7; 2019: 6.6; 2020: 6.6. - CPI inflation: 2012: 1.5; 2013: 1.0; 2014: 2.0; 2015: 1.1; 2016: 1.9; 2017: 2.2; 2018: 2.1; 2019: 2.1; 2020: 2.1. - Core CPI inflation (y/y): 2012: 1.7; 2013: 1.2; 2014: 1.8; 2015: 1.9; 2016: 2.0; 2017: 2.0; 2018: 1.9; 2019: 2.0; 2020: 2.0. - Federal fiscal balance: 2012: -1.0; 2013: -0.7; 2014: 0.1; 2015: 0.0; 2016: 0.1; 2017: 0.3; 2018: 0.3; 2019: 0.3; 2020: 0.3. - General government fiscal balance 5/: 2012: -3.1; 2013: -2.8; 2014: -1.5; 2015: -1.6; 2016: -1.2; 2017: -0.9; 2018: -0.7; 2019: -0.6; 2020: -0.1. - General government gross debt: 2012: 87.9; 2013: 87.7; 2014: 86.5; 2015: 86.8; 2016: 84.9; 2017: 83.0; 2018: 81.4; 2019: 80.0; 2020: 78.7. - Current account balance 2/: 2012: -3.3; 2013: -3.0; 2014: -2.1; 2015: -2.6; 2016: -2.1; 2017: -1.9; 2018: -1.7; 2019: -1.6; 2020: -1.6. - Export volume: 2012: 2.3; 2013: 2.1; 2014: 6.5; 2015: 7.1; 2016: 5.5; 2017: 4.9; 2018: 4.4; 2019: 3.9; 2020: 3.6. - Import volume: 2012: 3.1; 2013: 1.9; 2014: 2.3; 2015: 3.2; 2016: 4.1; 2017: 4.5; 2018: 4.3; 2019: 4.1; 2020: 3.8. - Terms of trade: 2012: -1.1; 2013: 0.0; 2014: -1.4; 2015: -5.7; 2016: 1.6; 2017: 0.9; 2018: 0.6; 2019: 0.3; 2020: 0.3. - Gross national saving: 2012: 21.6; 2013: 21.5; 2014: 21.8; 2015: 21.5; 2016: 21.9; 2017: 22.1; 2018: 22.3; 2019: 22.3; 2020: 22.3. - Personal savings 6/: 2012: 5.2; 2013: 5.2; 2014: 4.7; 2015: 4.0; 2016: 4.5; 2017: 4.7; 2018: 4.8; 2019: 4.8; 2020: 4.9. - Table 2. Canada: General Government Fiscal Indicators, 2012–2020 (selected rows preserved): - Consolidated General Government Revenue: 2012: 41.7; 2013: 41.6; 2014: 41.6; 2015: 41.9; 2016: 42.1; 2017: 42.2; 2018: 42.2; 2019: 42.2; 2020: 42.6. - Expenditure: 2012: 44.8; 2013: 44.4; 2014: 43.1; 2015: 43.5; 2016: 43.2; 2017: 43.1; 2018: 42.9; 2019: 42.8; 2020: 42.7. - Overall balance: 2012: -3.1; 2013: -2.8; 2014: -1.5; 2015: -1.6; 2016: -1.2; 2017: -0.9; 2018: -0.7; 2019: -0.6; 2020: -0.1. - Net public debt: 2012: 36.4; 2013: 37.1; 2014: 37.1; 2015: 37.8; 2016: 37.4; 2017: 36.6; 2018: 35.9; 2019: 35.0; 2020: 33.8. - Memorandum: Ten-year government bond (percent): 2012: 1.9; 2013: 2.3; 2014: 2.2; 2015: 2.5; 2016: 3.6; 2017: 4.3; 2018: 4.7; 2019: 4.7; 2020: 4.7. - Table 3. Canada: Balance of Payments, 2012–2020 (selected rows preserved): - Current Account Balance: 2012: -3.3; 2013: -3.0; 2014: -2.1; 2015: -2.6; 2016: -2.1; 2017: -1.9; 2018: -1.7; 2019: -1.6; 2020: -1.6. - Merchandise Trade Balance: 2012: -0.6; 2013: -0.4; 2014: 0.3; 2015: -0.5; 2016: 0.3; 2017: 0.7; 2018: 0.9; 2019: 0.9; 2020: 1.0. - Exports, goods (percent of GDP): 2012: 25.3; 2013: 25.3; 2014: 26.6; 2015: 25.0; 2016: 25.8; 2017: 26.3; 2018: 26.7; 2019: 27.0. - Terms of Trade (percent change): 2012: -1.1; 2013: 0.0; 2014: -1.4; 2015: -5.7; 2016: 1.6; 2017: 0.9; 2018: 0.6; 2019: 0.3; 2020: 0.3. - Gross External Debt: 2012: 77.0; 2013: 77.0; 2014: 81.9; 2015: 85.3; 2016: 87.0; 2017: 88.1; 2018: 88.4; 2019: 88.3; 2020: 88.1. ### External sector assessment (Annex I) - Background summary: - "After hovering at about -15 percent of GDP in 2009–12, Canada’s net international investment position (NIIP) turned slightly positive by end-2013 (1½ percent of GDP) and stood at 1 percent of GDP in 2014Q3, as foreign equity markets outperformed the domestic market and the currency weakened." - "Canada has a positive net equity position and a negative net debt position, reflecting sizable FDI and portfolio equity investment overseas. Gross external assets and liabilities are each around 160 percent of GDP." - "The NIIP is projected to remain largely unchanged amid projected decline in current account deficits." - Assessment: - "Gross external debt, at about 80 percent of GDP (2014Q3), is low relative to other advanced economies, and is a modest vulnerability." - "Overall assessment: The external position is broadly consistent with medium-term fundamentals and desirable policy settings." - "Non-energy export performance has been disappointing in recent years, and while the depreciation of the Canadian dollar is likely to help, boosting Canada’s exports would require addressing the productivity gap with trading partners and energy export constraints." - "The general government (especially, provincial) fiscal position has deteriorated after the Great Recession, and the ongoing fiscal consolidation would contribute to improving the national saving-investment balance." - Potential policy responses: - "Policies that could help gradually bring Canada’s current account closer to the level implied by fundamentals include measures to improve labor productivity (such as budget programs aimed at improving labor skills and job matching, and fostering research and innovation); to promote investments in infrastructure to transport and export natural resources; and to further facilitate inter-provincial and international trade; as well as policies to restore stronger fiscal position (through the planned and sustained fiscal adjustment at the provincial level)." *Sources: Statistics Canada; Haver Analytics; Bank of Canada; IMF staff estimates; Budget documents; Department of Finance Canada; provincial budget reports; CREA; CMHC; Bloomberg; Banks' Annual Reports; IMF FSI database; IMF staff calculations.* ### 3.0 percent of GDP in 2013 and is projected at 2.1 percent of GDP in 2014. The deterioration reflects Canada’s stronger ### _cr1522 - 3.0 percent of GDP in 2013 and is projected at 2.1 percent of GDP in 2014. The deterioration reflects Canada’s stronger ### Current account (CA) and savings-investment (S-I) balance - CA: 3.0 percent of GDP in 2013 and is projected at 2.1 percent of GDP in 2014. - Drivers of deterioration: - Canada’s stronger rebound from the last recession relative to the United States. - Significant real appreciation of the Canadian dollar. - Weak productivity growth. - Limited refining capacity and lack of transportation infrastructure that curtailed the positive impact on the CA from the boom in unconventional energy production. - S-I balance: - The CA deterioration largely matches the worsening of the general government S-I balance. - The private S-I balance is back to its slightly negative pre-recession levels. ### Assessment: CA gap and cyclically-adjusted CA - EBA CA regression approach estimates: - CA gap of 1.6 percent of GDP for 2014 (down from 3.4 percent of GDP for 2013). - Staff view: - The EBA estimate likely overstates desirable external adjustment due to underestimating the cyclical nature of the CA deficit (given Canada’s smaller output gap relative to the United States and the lower market price for Canadian oil relative to global oil prices). - Staff assesses that the 2014 cyclically-adjusted current account is between 0 to 1 percentage points of GDP weaker than the value implied by medium-term fundamentals and desirable policies. ### Real exchange rate (REER) - Background: - Canada’s exchange rate is correlated with oil prices. - REER appreciated by 30 percent between 2000 and 2010 as energy prices surged. - More recently, interest rate differential with the United States and safe-haven capital inflows became increasingly important. - Reflecting rising market U.S. interest rates, weaker capital inflows, and flatter energy prices, Canada’s REER depreciated by about 10 percent since end-2012. - Assessment: - EBA REER regression approach estimates a REER gap of 3 percent for the 2014 average REER level (against 10 percent for 2013).2/ - Translating staff’s assessment of the CA gap suggests an average 2014 REER overvaluation of between 0 and 5 percent relative to medium-term fundamentals and desirable policy settings (down from the estimated range of 5–10 percent overvaluation reported in the July 2014 Pilot External Sector Report). - Note on timing: - Staff’s REER assessment refers to the average January–October 2014 level and assumes unchanged REER at that level for the rest of the year. - Canada’s REER depreciated by an estimated one percent in November–December 2014. ### Capital and financial accounts: flows and policy measures - Background: - CA deficits of recent years financed primarily by net portfolio inflows. - Average net portfolio outflows from 2000–07 turned into inflows of some 4 percent of GDP as relatively strong growth prospects, sound fiscal position, and high interest rates made Canada a safe-haven and carry trade destination, putting upward pressure on the exchange rate (along with high commodity prices). - Assessment: - Canada has a fully open capital account. - Vulnerabilities are limited by a credible commitment to a floating exchange rate and a strong fiscal position. ### FX intervention and reserves level - Background: - Canada has a free floating exchange rate regime. - The central bank has not intervened in the foreign exchange market since September 1998 (with the exception of participating in concerted intervention for other purposes). - The Government of Canada has moderate reserves. - The Bank of Canada has standing U.S. dollar and foreign currency liquidity swap arrangements with the Federal Reserve and four other major central banks (it has not drawn on these swap lines in the past). - Assessment: - Policies in this area are appropriate to the circumstances of Canada. ### Technical background notes (key points) - EBA may overestimate the CA norm for Canada because: - Adjustment for the business cycle uses Canada’s output gap relative to the world (GDP-weighted average) output gap, while a more relevant measure is the gap relative to the United States. Because the U.S. gap is currently larger, EBA likely underestimates Canada’s CA improvement as the U.S. output returns to potential. - The oil trade balance and terms of trade variables are likely biased upward for Canada because EBA uses WEO global oil prices rather than the lower market price for Canadian oil, particularly heavy crude oil from western Canada’s oil sands (the lower price reflects lower quality, transportation costs, and limited pipeline and refinery capacity). - If differences are due to infrastructure bottlenecks, adding transportation capacity over the medium term should help close the CA gap. - REER assessment timing caveat: - Staff’s REER assessment refers to the average January–October 2014 level and assumes unchanged REER at that level for the rest of the year; REER depreciated by an estimated one percent in November–December 2014. ### Annex II — Key FSAP recommendations and implementation highlights - Expand financial sector data collection and dissemination (Short term) - CMHC established an internal “data gaps” working group; unveiled the Housing Market Information Portal; published new data on condominium ownership in Toronto and Vancouver. - CMHC started publishing a supplement to its Quarterly Financial Reports on insurance underwriting practices. - CMHC plans: add functionality to the Portal; introduce the Housing Price Analysis and Assessment framework (HPAA); possibly publish stress testing results. - OSFI implemented a new data system for easier extraction of regulatory return time series. - Reduce government exposure to mortgage insurance gradually (Long term) - CMHC mortgage loan insurance for multi-unit condominium construction discontinued in June 2014. - CMHC aligned low ratio insurance with high ratio product (maximum house prices, amortization periods, debt servicing ratios) effective July 31, 2014. - CMHC discontinued Second Home and Self-Employed Without 3rd Party Income Validation products effective May 30, 2014. - CMHC increased mortgage loan insurance premiums for homeowner and 1 – 4 unit rental properties effective May 1, 2014 by approximately 15%, on average, for all loan-to-value ranges. - CMHC implemented changes to its portfolio insurance product effective January 1, 2014. - CMHC’s mortgage loan insurance business became subject to a risk fee payable to the Government of Canada of 3.25% of premiums written and an additional 10 basis points on new portfolio insurance written effective January 1, 2014. - For 2014, the Minister of Finance authorized CMHC to provide up to Can$80 billion of new guarantees of NHA MBS and up to Can$40 billion of new guarantees for CMB. - For 2014, CMHC reduced annual issuance of portfolio insurance from Can$11 billion to Can$9 billion. - Augment OSFI’s top-down stress testing framework (Short term) - OSFI started to augment its stress testing framework with econometric models for projections based on longer time series. - Include major regulated entities in a regular, common stress testing exercise (Short term) - OSFI and the BOC began discussions with some provincial regulators to help enhance stress testing capabilities, including sharing scenarios and possible technical assistance. - Equip OSFI with powers to make its own enforceable rules and amend statutory decision legislation (Medium term) - No progress. - Replace informal/ad hoc reporting by FRFIs with formal requirements (Medium term) - OSFI is assessing which reporting requirements should be formalized. - Adopt transparent, consistent group-wide insurance supervision and authority for OSFI at holding company level (Medium term) - No progress. - Address shortcomings in securities regulation risk identification and enforcement (Short term) - Provincial ministers for securities regulation in several provinces and the Minister of Finance Canada signed a memorandum of agreement to establish a Cooperative Capital Markets Regulatory System. - Consultation drafts of uniform provincial capital markets legislation and complementary federal legislation were released for public comment in September 2014. - Enhance supervisory cooperation and intensive supervision of systemically significant institutions (Short term) - OSFI increased contact with provincial regulators to harmonize regulation and improve supervisory cooperation; discussions focus on delineating key touch points. - Provide clear mandate to an entity to monitor systemic risk and carry out crisis preparedness (Short term) - Work begun to address financial sector data gaps to improve the BOC’s research, analysis, and systemic risk monitoring capacity. - A new systemic risk assessment committee chaired by the BoC (a sub-committee of the non-statutory Senior Advisory Committee) was set up, but responsibility for systemic risk remains with the SAC. - Increase ex-ante funding of CDIC and enhance depositor profile analysis (Medium term) - The government announced a review of the deposit insurance framework that will consider the size of the ex-ante fund of the Canada Deposit Insurance Corporation (CDIC), among other issues. *Source: IMF staff report content provided in the supplied PDF excerpt.* ### Annex III. Canada: Public Debt Sustainability Analysis ### Annex III. Canada: Public Debt Sustainability Analysis ### Overview - General government gross debt peaked at about 88 percent of GDP in 2012 and is expected to decline over the medium term under staff’s baseline scenario. - Government financial assets are about 50 percent of GDP, of which about 20 percent are highly-liquid assets, putting the net debt-to-GDP ratio at below 40 percent of GDP in 2013. - Net debt stands currently at 37 percent of GDP—or at 67 percent if only highly-liquid assets are used, and is expected to decline over the medium term after peaking in 2015. - Gross financing needs are relatively large, but are expected to be below 15 percent of GDP after 2016. - The general government debt position is relatively resilient to a series of macro and fiscal shocks in the medium term. ### Stress tests and scenario descriptions - Baseline scenario: - General government gross debt-to-GDP ratio expected to decline to 86½ percent in 2014, after peaking at about 88 percent in 2012, and continue declining to 80 percent in 2019. - Canada’s effective interest rate expected to reach a historical low just below 4 percent in 2014 and then rise towards its historical average of 6 percent by 2018. - Primary balance shock: - A deterioration of the structural primary balance of about 1 percent of GDP raises the gross debt-to-GDP ratio by about 3 percentage points over the projection period. - The risk premium on sovereigns is assumed to increase by 25 basis points (bps) for each 1 percent of GDP deterioration in primary balance, with little effects on the debt path. - Growth shock: - A lower real output growth by 1 standard deviation for 2 years starting in 2015 would raise gross debt to 91½ percent of GDP in 2016, but debt would revert to a downward path over the projection period. - Interest rate shock: - An increase in sovereign risk premia by 200 bps for two years would raise the government’s interest bill by about ½ percent by 2016. - Higher borrowing costs would slow the decrease in the debt-to-GDP ratio, which ends up 1½ percentage points higher than in the baseline in 2019, at about 81½ percent. - Exchange rate shock: - If the exchange rate depreciates by about 15 percent, the fiscal impact is minimal because almost 90 percent of Canada’s outstanding marketable debt instruments are in Canadian dollar, and both federal and sub-national governments usually hedge their FX exposures. - Commodity price shock: - Lower than expected commodity prices, by 10 percent on average over the forecasting horizon, would increase gross debt to 91 percent of GDP in 2016 and decline to 85 percent by 2019. ### Debt profile, assets, and mitigating factors - General government financial assets: - Financial assets stood at about 50 percent of GDP in 2013, of which 40 percent of financial assets (20 percent of GDP) are highly-liquid assets (deposits, short-term papers, and bonds). - Staff estimate that liquid financial assets represent about 25% of GDP (staff estimate referenced in heat map caption). - Pension funding effects: - Canada increased gross and net public debt in recent years by funding public sector employee pension plans with market debt. - Unfunded pension liabilities of the public sector are excluded from the general government debt here; funded pension liabilities since 2000 are reflected in public debt. ### Key statistics and projections (selected exact figures) - Net debt: 37 percent of GDP (current), 67 percent if only highly-liquid assets used (current). - Gross debt timeline (selected points): peaked ~88 percent in 2012; 86½ percent in 2014; 80 percent in 2019. - Effective interest rate: just below 4 percent in 2014; historical average 6 percent by 2018. - Interest-rate shock assumed increase: 200 bps for two years. - Sovereign risk premium sensitivity: 25 bps per 1 percent of GDP primary balance deterioration. - Commodity price shock magnitude: 10 percent average decline. - Exchange rate shock magnitude: about 15 percent depreciation. - General government financial assets composition (2013): highly-liquid assets = 20 percent of GDP (40 percent of financial assets); total financial assets ≈ 50 percent of GDP. - Gross financing needs: expected to be below 15 percent of GDP after 2016; staff note gross financing will pass below the 20% benchmark by 2015 (staff caption). - Stress-test outcomes: - In at least two scenarios, gross debt rises above 90 percent of GDP. - Gross financing needs go above 25 percent of GDP in at least one year under some scenarios (heat map statement). ### Projections table highlights (selected exact values from staff projections as of January 12, 2015) - Nominal gross public debt (percent of GDP): 2012: 75.7; 2013: 87.9; 2014: 87.7; 2015: 86.5; 2016: 86.8; 2017: 84.9; 2018: 83.0; 2019: 81.4; (final listed: 80.0). - Public gross financing needs (percent of GDP): 2013: 21.5; 2014: 22.0; 2015: 18.7; 2016: 18.3; 2017: 16.0; 2018: 12.6; 2019: 10.6; 9.3 (final listed). - Net public debt (percent of GDP): 2012: 58.9; 2013: 69.9; 2014: 67.7; 2015: 66.7; 2016: 66.9; 2017: 65.4; 2018: 64.0; 2019: 62.8; 61.7 (final listed). - Real GDP growth (in percent): 2012: 2.0; 2013: 1.9; 2014: 2.0; 2015: 2.4; 2016: 2.3; 2017: 2.1; 2018: 2.0; 2019: 1.9. - Inflation (GDP deflator, in percent): 2012: 2.6; 2013: 1.5; 2014: 1.4; 2015: 1.9; 2016: -0.1; 2017: 2.4; 2018: 2.5; 2019: 2.3. - Effective interest rate (in percent, defined as interest payments divided by debt stock at the end of previous year): 2012: 5.8; 2013: 4.1; 2014: 3.8; 2015: 3.8; 2016: 4.4; 2017: 4.7; 2018: 5.2; 2019: 5.5; (additional value listed 5.9). - Cumulative change in gross public sector debt (projection column totals): cumulative change reported as -7.6. ### Additional stress-test scenario assumptions (selected exact inputs) - Primary Balance Shock scenario: structural primary balance deterioration about 1 percent of GDP. - Real GDP Growth Shock scenario: lower real output growth by 1 standard deviation for 2 years starting in 2015. - Real Interest Rate Shock scenario: sovereign risk premia increase by 200 bps for two years. - Exchange Rate Shock scenario: about 15 percent depreciation. - Commodity Prices Shock scenario: 10 percent lower on average over forecasting horizon. - Combined shocks and other alternative scenarios are analyzed with staff-specified variations to real GDP growth, inflation, primary balance, and effective interest rate (detailed figures are provided in the projections and stress-test tables in the source). ### Policy-relevant observations (from staff analysis) - The sizable general government liquid financial assets mitigate the risks associated with a high gross debt stock and elevated financing needs. - In stress scenarios where gross debt exceeds 90 percent of GDP or gross financing needs exceed critical benchmarks (20 percent or 25 percent of GDP), liquid assets and the composition of debt (high share of local-currency, fixed-coupon bonds) reduce fiscal vulnerabilities. - Exchange rate and FX exposure risks are limited because almost 90 percent of outstanding marketable debt instruments are in Canadian dollar and governments typically hedge FX exposures. - The funding of public sector pension plans with market debt has increased public debt; unfunded pension liabilities are excluded while funded liabilities since 2000 are included in public debt, affecting comparability with other countries. *Source: IMF staff — Annex III. Canada: Public Debt Sustainability Analysis (as presented in the supplied content).* ### 0.2 percentage points in 2011 and 2012, respectively. The main source of the revisions for the three ### _cr1522 - 0.2 percentage points in 2011 and 2012, respectively. The main source of the revisions for the three ### Data revisions and GDP components - Revisions to GDP growth for 2011 and 2012 were +0.2 percentage points in 2011 and 2012, respectively. - The main source of the revisions for the three years is the revision to the value of gross operating surplus. - Among GDP components, business gross fixed capital formation (especially nonresidential construction) and exports (especially services) were revised upward for 2011–13. ### Fiscal sector data availability and developments - Statistics Canada provides quarterly data (a Statement of Government Operations along with a Balance Sheet) on the general government and its subsectors following the Government Finance Statistics Manual 2001 (GFSM 2001) recommendations. - In November 2014, Statistics Canada published the provisional (unconsolidated) data on Canadian Government Finance Statistics (CGFS) for 2008–2012. - This is the first of three releases covering the statement of operations for all components of general government, as well as federal and provincial and territorial government business enterprises. - Data on functional expenses were also released, to be followed by the publication of financial assets and liabilities in early 2015. - Future steps include publication of consolidated accounts and integration of capital estimates. - The Department of Finance Canada provides monthly and annual data on the federal government’s budget (according to the national presentation) and tax policies. - The provided data enable adequate assessment of the impact of fiscal policy measures on Canada’s economic performance. ### Financial sector data and oversight - The Bank of Canada and OSFI provide monthly and quarterly data on a broad range of financial variables. - The 2013 FSSA Update recommended that financial sector data collection and dissemination should be expanded to enhance coverage, regularity, and availability of time-series to facilitate analysis. - Canadian banks are described as highly profitable, with favorable loan quality, low nonperforming loans, and improving capitalization. - Stress tests suggest banks are resilient to credit, liquidity, and contagion risks due to: - strong capital position, - stable funding sources, - low exposures to the energy sector, - extensive government-guaranteed mortgage insurance. - Progress reported on implementing Basel III Liquidity Coverage Ratio and leverage standards. - Recommendations include enhanced coordination across federal and provincial authorities in supervision and stress-testing, and strengthening macro-prudential and crisis management frameworks. ### Monetary sector and recent Bank of Canada actions - The Bank of Canada provides timely and adequate coverage of daily, weekly, monthly, and quarterly data related to the monetary sector. - On January 21, the Bank of Canada unexpectedly lowered its policy rate by 25 basis points. - The Bank revised down its projections for GDP growth by 0.3 percentage points to 2.1 percent for 2015. - Headline CPI inflation was revised down below the target range of 1–3 percent in 2015. - The Bank stated monetary easing is “intended to provide insurance” against downside risks and to bring the Canadian economy back to full capacity and inflation to target within the projection horizon (end-2016). - Market reactions on the day of the announcement: - Canadian dollar depreciated by about 2 percent vis-à-vis the U.S. dollar, - stock prices rose by almost 2 percent, - short-term bond yields fell sharply (by about 30 basis points), - long-term yields edged down slightly. - IMF staff considered the Bank’s policy action consistent with advice to use available monetary policy space to mitigate unfolding downside risks. ### External sector data - Statistics Canada provides timely quarterly information on the balance of payments, external debt, and the international investment position. - Department of Finance Canada provides monthly data on Official International Reserves in a format comparable to the IMF’s reserve data template, enabling adequate surveillance. - Data are published at http://www.fin.gc.ca/pub/oir-ro-eng.asp. ### Recent macroeconomic developments and risks - Housing sector: - Home sales fell in December (-5.8 percent, m/m). - Newly listed homes fell nationally (-6.8 percent, m/m), with larger declines in Calgary and Edmonton. - Residential construction: starts declined to around 180,000 units in 2014, slightly down from 2013. - Completed and unabsorbed dwellings reached 201,000 by end-2014. - House prices rose 5.4 percent (y/y) in December, close to 5.3 percent in November. - Calgary house price appreciation moderated to 8.8 percent in December, down from 9.2 percent (y/y) in the previous month. - Non-energy sector: - Bank of Canada’s winter Business Outlook Survey indicates strengthening demand, especially among export-oriented firms and manufacturers. - Outlook for firms linked to the energy sector has deteriorated. - Manufacturing sales decreased by 1.4 percent in November; total year-to-date sales were 5.2 percent higher than in the first eleven months of 2013. - Oil prices: - Since the staff report was issued, oil price projections for 2015 declined further by about 12 percent based on market futures, posing downside risks through weaker energy-sector investment. - IMF staff analysis suggests a national real house price overvaluation between 7–20 percent, with important regional differences. ### Fiscal outcomes and recommendations - General government fiscal deficit expected to narrow from about 2¾ percent of GDP in 2013 to 1½ percent in 2014. - Federal government essentially on track to achieving its balanced budget target in FY2015/16 despite lower oil prices. - IMF staff recommendation: federal authorities should consider adopting a neutral stance given past consolidation gains and downside risks to growth; this stance would still be consistent with longer-term public debt reduction goals. - Provinces: - Provinces remain committed to balanced budget targets, but some face challenges in fiscal adjustment. - Provinces will need to sustain efforts to strengthen public finances, especially in light of longer-term aging-related fiscal pressures. - Directors recommended fiscal adjustment at the provincial level proceed, including sustained progress in containing aging-related spending, supported by regular spending reviews. - Recommendation to extend long-term fiscal forecasts at the provincial level and publish consolidated general government fiscal forecasts in consultation with provinces. - Executive Directors’ view: - Fiscal consolidation should continue at the general government level, with the composition of adjustment shifting from the federal government to the provinces. - Most Directors saw scope for the federal government to adopt a neutral stance; encouraged using available fiscal resources for growth-friendly measures and strengthening medium-term fiscal frameworks. ### IMF Executive Board assessment and policy advice - Executive Directors agreed with the staff appraisal: continued solid growth, but risks tilted to the downside because of tighter global financial conditions, effects from substantially lower oil prices, and housing/household vulnerabilities. - Directors’ policy guidance: - Monetary policy should remain accommodative given well-anchored inflation expectations, sluggish business investment, lower oil prices, and until there are firm signs of durable recovery with stronger business investment. - Support for the Bank of Canada’s decision to lower the policy rate; encouraged monitoring monetary policy impacts on household debt and house prices. - Macro-prudential measures have been effective for insured mortgage loans; concern over rise in uninsured mortgages and strong segments of housing markets. - Additional macro-prudential action may be needed if household balance sheet and housing market vulnerabilities resume rising, particularly tighter standards for uninsured mortgages. - Encouraged authorities’ initiatives to limit government exposure to the housing sector and further gradual actions to ensure appropriate risk retention by the private sector. - Longer-run: re-examine dimensions of extensive government-backed mortgage insurance. - Financial sector: welcomed progress on FSAP recommendations and encouraged moving forward with outstanding recommendations, enhancing supervisory cooperation, harmonized stress-testing, and strengthening macro-prudential and crisis management frameworks. - Structural reforms to boost productivity and business investment are important to support medium-term growth. ### Key statistics and selected economic indicators (percentage change, unless otherwise indicated) - Real GDP: - 2011: 3.0 - 2012: 1.9 - 2013: 2.0 - 2014: 2.4 - 2015 Proj.: 2.3 - Q4/Q4 Real GDP: - 2011: 3.0 - 2012: 1.0 - 2013: 2.7 - 2014: 2.4 - 2015 Proj.: 2.1 - Net exports (contribution to growth): - 2011: -0.4 - 2012: -0.4 - 2013: 0.2 - 2014: 1.2 - 2015 Proj.: 1.2 - Final domestic demand: - 2011: 2.5 - 2012: 2.5 - 2013: 1.5 - 2014: 1.6 - 2015 Proj.: 1.2 - Private consumption: - 2011: 2.3 - 2012: 1.9 - 2013: 2.5 - 2014: 2.7 - 2015 Proj.: 1.8 - Private fixed domestic investment (percent of GDP): - 2011: 19.2 - 2012: 20.2 - 2013: 20.0 - 2014: 19.9 - 2015 Proj.: 20.1 - Nominal GDP: - 2011: 6.5 - 2012: 3.5 - 2013: 3.4 - 2014: 4.4 - 2015 Proj.: 2.2 - Unemployment rate (percent): - 2011: 7.4 - 2012: 7.3 - 2013: 7.1 - 2014: 6.9 - 2015 Proj.: 6.8 - CPI inflation: - 2011: 2.9 - 2012: 1.5 - 2013: 1.0 - 2014: 2.0 - 2015 Proj.: 1.1 - GDP deflator: - 2011: 3.4 - 2012: 1.5 - 2013: 1.4 - 2014: 1.9 - 2015 Proj.: -0.1 - U.S. dollar / Canadian dollar: - 2011: 1.01 - 2012: 1.00 - 2013: 0.97 - 2014: 0.91 - 2015: n.a. - Percentage change: - 2011: 4.1 - 2012: -1.0 - 2013: -3.0 - 2014: -6.8 - 2015: n.a. - Three-month treasury bill (percent): - 2011: 0.9 - 2012: 1.0 - 2013: 1.0 - 2014: 0.9 - 2015 Proj.: 1.1 - Ten-year government bond yield (percent): - 2011: 2.8 - 2012: 1.9 - 2013: 2.3 - 2014: 2.2 - 2015 Proj.: 2.5 - Current account balance (percent of GDP): - 2011: -2.7 - 2012: -3.3 - 2013: -3.0 - 2014: -2.1 - 2015 Proj.: -2.6 - Export volume: - 2011: 5.0 - 2012: 2.3 - 2013: 2.1 - 2014: 6.5 - 2015 Proj.: 7.1 - Import volume: - 2011: 5.9 - 2012: 3.1 - 2013: 1.9 - 2014: 2.3 - 2015 Proj.: 3.2 - Terms of trade: - 2011: 3.5 - 2012: -1.1 - 2013: 0.0 - 2014: -1.4 - 2015 Proj.: -5.7 - Gross national saving (percent of GDP): - 2011: 21.5 - 2012: 21.6 - 2013: 21.5 - 2014: 21.8 - 2015 Proj.: 21.5 - General government saving: - 2011: 0.8 - 2012: 1.2 - 2013: 1.5 - 2014: 2.6 - 2015 Proj.: 2.4 - Private saving: - 2011: 20.7 - 2012: 20.4 - 2013: 20.1 - 2014: 19.3 - 2015 Proj.: 19.1 - Gross domestic investment (percent of GDP): - 2011: 24.1 - 2012: 24.9 - 2013: 24.5 - 2014: 24.0 - 2015 Proj.: 24.2 - Federal fiscal balance (percent of GDP): - 2011: -1.8 - 2012: -1.0 - 2013: -0.7 - 2014: 0.1 - 2015 Proj.: 0.0 - Provincial fiscal balance (percent of GDP): - 2011: -2.6 - 2012: -2.9 - 2013: -2.9 - 2014: -2.3 - 2015 Proj.: -2.3 - General government fiscal balance (includes CPP and QPP): - 2011: -3.7 - 2012: -3.1 - 2013: -2.8 - 2014: -1.5 - 2015 Proj.: -1.6 *Source: IMF staff report and associated tables as provided in the content unit.* --- _Source: https://www.imf.org/-/media/websites/imf/imported-full-text-pdf/external/pubs/ft/scr/2015/_cr1522.pdf_