Canada - Staff Concluding Statement of the 2021 Article IV Mission
IMF News, February 16, 2021
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- Published: February 16, 2021
Policy response to COVID-19
- The authorities took timely, decisive, and well-coordinated policy actions at the onset of the pandemic.
- Direct federal fiscal support is expected to amount to almost 15 percent of GDP and includes spending on healthcare, and support for households, firms, and vulnerable groups through cash transfers and wage subsidies.
- Additional federal liquidity support included tax deferrals, credit facilities, and loan guarantees.
- The Bank of Canada cut its policy interest rate to an historical low and announced a range of programs to support liquidity in the financial system.
- Other financial sector policies supported banks, insurers, and pension funds.
From crisis management to supporting the recovery
- Real GDP contracted by an estimated 5.4 percent in 2020 and is projected to expand by 4.4 percent in 2021 as the pandemic fades.
- A more favorable growth projection than outlined in the January WEO update mainly reflects better-than-expected high frequency indicators.
- Upside risks to the outlook include: adoption of fiscal stimulus in the United States (size and timing uncertain), higher oil prices, and stronger-than-expected pent up domestic demand.
- Downside risks include new waves of the virus delaying the recovery.
- Swift vaccination of the population should remain a key short-term policy priority; mitigation efforts must continue while vaccination is rolled out.
- Mitigation efforts should focus on reducing risks associated with social contact while minimizing economic disruptions.
Social safety net, employment insurance, and emergency benefits
- The crisis exposed gaps in Canada’s social safety net; significant job losses at the onset strained the employment insurance (EI) system and many Canadians did not qualify for income support.
- The Canada Emergency Response Benefit (CERB) was rapidly rolled out to help fill gaps; by the time the CERB expired in September 2020, 8.9 million people (almost a quarter of the population) had applied for the benefit.
- After CERB expiration, many claimants transitioned to a revamped EI system; those still not covered transitioned to temporary recovery benefits.
- Recommendation: Use lessons from the crisis as an opportunity to review the EI system, including its role as an automatic stabilizer.
Fiscal policy framework and medium-term fiscal credibility
- The federal government could consider developing a more systematic framework for cyclical stabilization (e.g., linking discretionary fiscal spending to a timely macroeconomic variable such as the unemployment rate to provide automatic triggers for emergency spending and withdrawal).
- Enhanced automatic stabilizers could maximize policy effectiveness over the business cycle and reduce uncertainty.
- The federal government’s “fiscal guardrails” approach to withdrawal of policy stimulus is a welcome step but requires more clarity; lack of information about specific conditions that would trigger withdrawal complicates communication and could add to uncertainty.
- The federal government's commitment to spend up to 4 percent of GDP over the next three years to support the recovery needs further justification; additional spending should be evaluated against objectives of operating at full capacity and preventing long-term output damage.
- The government still has some fiscal space, but unjustified additional spending could weaken the credibility of the fiscal framework.
- Recommendation: The federal government needs to elaborate and clearly communicate medium-term fiscal objectives—consider a well thought-through debt anchor with a clear operational rule or regular publication of longer-term fiscal projections to illustrate fiscal sustainability.
- Fiscal objectives should be clearly communicated at the provincial level, especially in provinces with wide deficits and high levels of debt.
- Note: Expiration of some emergency support programs (e.g., recovery benefits and wage subsidies) later this year could complicate decisions of households and firms, add to uncertainty, and potentially increase fiscal costs.
Monetary policy and financial sector support
- The central bank should continue to clearly communicate its strategy for maintaining and eventually withdrawing policy support.
- Current monetary policy settings are described as well-aligned with the needs of the economy.
- Recommendation: Scale back asset purchases and gradually lift the policy rate to its estimated natural rate once the economy has recovered to promote financial stability and create policy space for the next downturn; clear communication will be key.
- Financial sector support should be gradually phased out as pandemic effects fade.
- Macroprudential policy settings are broadly appropriate, but policy tightening should balance short-term risks against longer-term macro-financial vulnerabilities.
- Policy should mitigate a broad-based and persistent buildup of leverage and address vulnerabilities in the housing market.
Structural reforms to support sustainable and inclusive growth
- Structural challenges that existed prior to the pandemic remain: need to boost productivity, support productivity-enhancing investments, and diversify beyond traditional sectors, including oil.
- Priority reforms include cutting regulatory barriers, reviewing the tax system to improve efficiency, and facilitating internal and international trade.
- The federal government’s “build back better” plan aims to foster an inclusive recovery by investing in training and skills, empowering women and minorities, and creating opportunities for vulnerable groups.
- Any new spending should be evaluated against broader policy objectives, including increasing the productive capacity of the economy.
- Housing affordability is key for sustainable and inclusive growth; policies should focus on expanding the supply of housing.
Climate policy and carbon pricing
- Canada has pledged to become emissions neutral by 2050 and is implementing strong policies in line with this goal.
- The centerpiece is a requirement that provinces and territories implement a carbon price (or equivalent measures) rising to CAN $170 per ton by 2030.
- Energy-intensive, trade-exposed firms are covered by an output-based performance standard (OBPS).
- Carbon pricing is identified as the most efficient policy for reducing emissions; returning revenues to households in transparent tax relief helps with acceptability.
- Recommendation: Consider reinforcing mitigation incentives in sectors difficult to decarbonize through pricing alone (e.g., transport, buildings, forestry, agriculture) with feebates—revenue-neutral sliding scales of fees/rebates on products with above/below average emission rates.
- Recommendation: A medium-term transition from the OBPS to a border carbon adjustment (BCA) could be considered.
- At the global level, Canada’s carbon price floor could be a valuable prototype for an international carbon price floor arrangement among large emitting countries.
Financial sector reform progress and remaining priorities
- Progress since the 2019 Financial Sector Assessment Program includes enhanced information sharing and collaboration among financial oversight authorities through the establishment of the Systemic Risk Surveillance Committee in 2019.
- Remaining priorities include enhancing regulatory capital requirements for banks’ mortgage exposures, which remains relevant amid continuously tight housing market conditions and pandemic-related risks that could affect households’ ability to service elevated levels of debt.
Source: Canada - Staff Concluding Statement of the 2021 Article IV Mission, February 16, 2021