Canada’s central bank decided to keep its interest rate at 0.25 per cent on Wednesday even as preliminary data showed that the country’s economy shrank by 9 per cent in March, while the real estate market ground to a halt due to the economic fallout of the COVID-19 pandemic.
Bank of Canada Governor Stephen Poloz said the Canadian economy is experiencing a significant and rapid contraction.
“The shock is a global one, affecting all countries, but commodity-producing countries like Canada are being hit twice,” Poloz said. “In the very near term, policy-makers can do little more than cushion the blow.”
Uncertain outlook
The central bank also suspended its regular economic forecasts, citing exceptional uncertainty over the outlook.
While acknowledging that the outlook is “too uncertain at this point” to provide a complete forecast, the central bank said it expects Canada’s economic activity to be lower by 1 to 3 per cent in the first quarter of 2020, and 15 to 30 per cent lower in the second quarter compared to the fourth quarter of 2019.
“Despite a high level of uncertainty, these estimates suggest that the near-term downturn will be the sharpest on record,” the bank said.
Guarding against deflation
The bank also expects inflation to be close to zero in the second quarter of 2020 primarily due to lower gasoline prices.
Sub-zero inflation, or deflation, would be particularly undesirable, Poloz said.
“Specifically, negative inflation would increase the real value of outstanding debts while it would erode the ability of companies and households to service their debt—a very difficult mix for the financial system,” Poloz said. “Fortunately, the risk of sustained deflation in Canada is low, for several reasons.”
First, there has been a “vigorous and elastic” response from governments to the pandemic, he added. These actions will put a floor under the economy and lay the foundation for the subsequent recovery, Poloz said.
Second, Canada began the pandemic episode with the economy operating near potential and inflation around its two per cent target, he said.
“Just as a healthy, fit individual is more likely to shake off a COVID-19 infection, a healthy economy is more likely to recover quickly from a major negative shock,” Poloz said.
Third, Canada has enjoyed considerable success in keeping inflation close to target for more than 25 years, he added.
Measures to stabilize monetary system
The bank said it has taken several measures to stabilize Canada’s monetary and banking system, including lowering its target for the overnight rate 150 basis points over the last three weeks.
It has also lent money to financial institutions and bought assets in core funding markets to the tune of $200 billion.
The central bank will continue propping up the government’s bond market by purchasing at least $5 billion in federal securities per week and will increase its purchases if necessary.
The bank will also temporarily increase by 40 per cent the amount of Treasury Bills of each new issue, Poloz said.
Poloz also announced the development of a new Provincial Bond Purchase Program of up to $50 billion, to supplement its Provincial Money Market Purchase Program, which acquires provincially-issued money market securities.
The central bank also announced a new Corporate Bond Purchase Program, in which the bank will acquire up to a total of $10 billion in investment grade corporate bonds in the secondary market.
Both of these programs will be put in place in the coming weeks, Poloz said.
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