2009 Article IV Mission to Canada: Concluding Statement
IMF News, March 11, 2009
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- Published: March 11, 2009
Context and outlook
- Canada entered the global financial turmoil on a solid footing, with strong growth, price stability, fiscal and current account surpluses, historically low unemployment, and financial stability through 2007.
- Global environment deterioration toward end-2008:
- real exports fell by 17.5 percent (annual rate) in the fourth quarter;
- the external current account balance registered the first deficit in 10 years;
- unemployment rose to 7.2 percent (as of January);
- core inflation fell from 2.5 percent to 1.9 percent (year on year).
- Near-term outlook:
- output likely to contract significantly in the near term, recovering as policy stimulus effects are felt;
- further export declines and soft commodity prices likely to weigh on employment and income;
- widening economic slack will feed disinflationary pressures;
- downside risks predominate, including negative spillovers if the global environment worsens more than expected.
- Relative resilience:
- Canada’s housing markets less overheated and booms localized;
- financial conditions tightened but strains considerably less severe than in other major countries;
- credit growth remains solid, reflecting a resilient financial system.
Macroeconomic policies
- Fiscal policy assessment:
- The mission supports the large, timely, and well-targeted fiscal stimulus in Budget 2009.
- The stimulus package is appropriately sized—well above the Fund’s benchmark of 2 percent of GDP.
- The package is prudently based on a worse economic outturn than private sector forecasts and emphasizes infrastructure spending and permanent tax cuts.
- Measures to boost the safety net and training enhancements aim to protect vulnerable groups and facilitate worker reallocation.
- The budget leverages provincial stimulus; provinces’ intentions to launch supplementary packages are welcome.
- The mission welcomes the move to cut external tariffs.
- Implementation focus:
- Near-term priority is mobilizing spending and monitoring deployment of the budget to promote effectiveness.
- If downside risks materialize, Canada is well positioned to participate in further possible global policy actions.
- Automatic stabilizers should be given full play to accommodate increased demands on the safety net.
- Medium-term fiscal stance:
- Authorities’ commitment to avoid long-term structural deficits is welcomed.
- Canada’s low debt/GDP ratio (the lowest in the G-7) underpins fiscal credibility.
- Aim to return debt/GDP to a downward path over the medium term is appropriate; numerical targets may be recalibrated when outlook is clearer.
- Monetary policy assessment:
- The Bank of Canada has cut its policy rate by 400 basis points to a record low 0.5 percent (since December 2007), most recently easing on March 3.
- Expanded Bank of Canada facilities (longer terms and a greater variety of collateral) have bolstered liquidity.
- The floating exchange rate has served as a shock absorber; recent depreciation, in line with commodity price declines, will dampen disinflationary pressures and support activity.
- Going forward, maintaining an accommodative monetary stance is appropriate to limit downside risks to inflation and inflation expectations.
- The Bank has kept open the possibility of using more aggressive measures if needed to combat deflationary pressures.
- Continued clear communication of the Bank’s views on the price stability outlook is important to signal commitment.
Financial sector policies
- System-wide assessment:
- Canada’s financial system displayed remarkable stability amid global turbulence; Canadian banks were well capitalized and avoided catastrophic losses experienced elsewhere.
- Canadian banks have not required public capital injections, raising capital in markets at high costs.
- Bank credit growth has held up well, partly reflecting substitution from strained financial markets abroad.
- Equity prices declined broadly in line with foreign markets; financial market conditions generally less strained than elsewhere despite the non-bank ABCP crisis.
- Structural and regulatory strengths:
- Rigorous consolidated supervision and regulation by OSFI, including limits on leverage and target capital ratios well above Basel standards.
- Five-year reviews modernize federal regulatory legislation; interaction among officials via FISC supports information exchange.
- Banks benefit from a profitable and stable domestic retail market and generally lower tolerance for risk, with less exposure to “toxic” structured assets than international peers.
- Risks ahead:
- Coming credit cycle likely to be challenging; downturn will pressure bank credit quality.
- Mortgage delinquencies are already rising (albeit from low levels), particularly in Western provinces hit by collapsing commodity prices.
- High household debt is a concern amid rising unemployment and falling asset prices, despite modest debt-service levels due to low interest rates.
- Pressures on banks may feed back into tighter credit conditions, dampening growth; major insurers and pension funds have been adversely affected by the stock market decline.
- Key policy priority:
- Forestalling an adverse macro-financial feedback loop, supported by appropriately supportive macroeconomic policies and proactive financial stability measures.
- Precautionary steps taken by authorities include:
- offering guarantees on bank and insurance liabilities under the CLAF and CLIAF;
- creating authority for transactions to maintain financial stability (including capital injections);
- increasing purchases of insured mortgage securities to boost bank liquidity and support the mortgage market;
- introducing the Canadian Secured Credit Facility to bolster vehicle and equipment financing for businesses and consumers;
- increasing the resources of Export Development Canada and the Business Development Bank of Canada, to support economic activity;
- and expanding CDIC’s resources and options for dealing with troubled institutions.
- Supervisory cooperation and regulatory improvements:
- Continued close consultation among Federal supervisors and regulators in the context of FISC and other forums should focus on risks to individual institutions, spillovers across institutions (including between banks and non-banks), and macro-prudential risks related to high household debt.
- Continued close cooperation between Federal and provincial supervisors would manage potential spillovers between provincial and national markets.
- Consolidating and enhancing securities regulation, and achieving greater national integration in line with recommendations in the 2008 IMF Financial System Stability Assessment Update, would further strengthen financial stability frameworks.
- The mission welcomes authorities’ intentions in Budget 2009 to follow the recommendations of the Expert Panel on Securities Regulation.
IMF staff preliminary assessment — March 9, 2009.