Abstract
This 2003 Article IV Consultation highlights that Canada’s strong policy framework has brought impressive economic results, and the Canadian economy has proven exceptionally resilient in the face of the recent global downturn. Economic activity slowed relatively modestly in 2001, with only one quarter of output decline recorded, and growth recovered strongly thereafter, averaging 4 percent over the subsequent four quarters. Household consumption and residential investment have remained robust. Household and business demand was supported by sustained productivity growth, rapid growth of employment and labor incomes, and gains in real estate prices.
1. The following information has become available since the staff report was issued and does not change the thrust of the staff appraisal.
Recent data
2. In December, headline CPI inflation fell to 3.9 percent (y/y) from 4.3 percent in November, and core inflation went down to 2.7 percent from 3.1 percent. To a large extent, the decline in inflation reflected rebates provided by the Ontario government for past electricity price hikes. The effects of heavy price discounting following the terrorist attacks in September 2001 and hikes in insurance premiums continued to boost the year-over-year inflation rate, but most measures of inflation expectations continue to be consistent with a return to the mid-point of the 1-3 percent target range.
3. December’s unemployment rate was unchanged at 7.5 percent. Employment grew by 58,000 jobs—80 percent of which were full time positions—and the participation rate rose to 67.5 percent, matching the January 1990 all-time high. Meanwhile wage growth continued to decline as average hourly wages of permanent employees increased in December by only 1.9 percent from a year earlier.
4. The merchandise trade surplus narrowed in November, driven by a 2.2 percent fall in exports and flat import values. The drop in exports was broad-based and reflected a 2 percent decline in volumes.
5. The Canadian dollar has appreciated so far in January against the U.S. dollar by around 3 percent, and the broad TSX composite index has remained broadly unchanged. Interest rates have remained broadly stable at around 2¾ percent for 3-month treasury bills and 5 percent for ten-year government bonds.
Monetary policy
6. On January 21st the Bank of Canada announced that it was maintaining its target for the overnight rate at 2¾ percent. In its Monetary Policy Report Update, the Bank explained that core and total CPI inflation have risen somewhat more than expected since the previous policy announcement in December, reflecting some broadening of price pressures and that the economy may be operating closer to capacity than previously thought. Nevertheless, the Bank noted that domestic growth had moderated in the second half of 2002 and that, while conditions in financial markets were improving, significant geopolitical and economic uncertainties remained.
7. In the Update, the Bank indicated that it expected economic activity to accelerate in the second half of the year and that average annual growth would reach 3 percent, which would be in line with the Fund staffs estimates. The Bank cautioned that, with the economy possibly operating closer to potential than previously believed, and the current stance of monetary policy still very stimulative, “a reduction of stimulus will be required to return inflation to the 2 percent target over the medium term.”
Health care reform
8. The Prime Minister is expected to meet with his provincial counterparts in early February to discuss health care reform, following the meeting of provincial premiers held last week. The Minister of Health recently indicated that the federal government would support amendments to the existing health care system that would provide for universal home care and catastrophic drug coverage, as well as increased funding for high-tech diagnostic machinery. The federal authorities would also support reforms to encourage greater efficiencies in the area of primary care that would involve the establishment of multidisciplinary professional units. The Minister also proposed to heighten accountability and set up targeted funds—for home care, pharmacare, and high-tech diagnostic equipment—to ensure provinces meet national goals. The fiscal costs of these proposal have not been specified.