Abstract
The Canadian monetary and fiscal policies have remained accommodative, reflecting in large measure the effective response to the crisis. Canada is expected to set the appropriate policy mix in the future, at a time of high uncertainty and significant external headwinds. Given the advanced stage of the recovery, a still-large budget deficit, and the need to address long-term fiscal challenges, fiscal policy has moved toward a tightening stance. Resilient household credit has helped sustain private consumption and the construction sector during the crisis.
1. This note reports on information that has become available after the staff report (SM/11/319) was issued and does not alter the thrust of the staff appraisal.
2. Recent data points to a mixed picture, with stronger-than-expected GDP rebound in Q3 but increasing signs the economy is now decelerating. Real GDP grew by 3½ percent (s.a.a.r.) in Q3, after a small contraction in the previous quarter due to one-off factors. This growth reflected a strong rebound in net exports, while the growth of final domestic demand weakened. On the other hand, rising unemployment (7.4 percent in November) and recent activity surveys (such as the October and November manufacturing PMI) suggest the economy is decelerating. The rebound in net exports led to a decline in Canada’s current account deficit to 2.8 percent of GDP in the third quarter. However, external trade developments remain volatile, with exports falling by 3 percent in October, partially reversing the improvement observed in previous months. Inflation fell slightly in October, with core inflation remaining around the Bank of Canada’s 2 percent target. The fiscal outturn for Q3 suggests that the general government fiscal deficit is broadly in line with staff projections.
3. On December 6, as anticipated, the Bank of Canada left the overnight rate unchanged at 1 percent. In its statement, the Bank noted that the weaker external outlook was expected to dampen GDP growth in Canada through the financial, confidence, and trade channels. While inflation has been somewhat higher than envisaged, inflationary pressures in the quarters ahead are expected to remain subdued, especially given the existing slack in the economy.
4. On November 30, several central banks, including the Bank of Canada, took further coordinated actions to enhance their capacity to provide liquidity support to the global financial system. The Bank of Canada, the Bank of England, the Bank of Japan, the European Central Bank, the Federal Reserve, and the Swiss National Bank agreed to lower the pricing on the existing temporary U.S. dollar liquidity swap arrangements by 50 basis points. These swap arrangements have been extended to February 1, 2013. As a contingency measure, these central banks have also agreed to establish temporary bilateral liquidity swap arrangements, so that liquidity can be provided in each jurisdiction, in any of their currencies, should market conditions so warrant. The Bank’s December Financial System Review noted that risks to Canada’s financial system have increased over the last six months, mainly due to the external environment.