A pedestrian passes the Bank of Canada building in Ottawa.Adrian Wyld/The Canadian Press
As concern about the spread of the COVID-19 outbreak deepens, the phrase “global recession” has quickly re-entered the daily conversation around the financial-sector water cooler. While that sounds, at least for the moment, like hyperbole, Canada’s homemade issues may be leaving its economy increasingly susceptible to the rising tide of worry.
On Wednesday, Bank of America slashed its 2020 growth forecast for Canadian gross domestic product to 1 per cent from 1.5 per cent, citing the spreading impact of China’s coronavirus outbreak as the primary, but not the only, reason for its considerable leap in pessimism. The widespread protests that have disrupted rail service have further clouded Canada’s economic outlook – which, coming out of a final quarter of 2019 with near-zero growth, was murky enough to begin with.
Economists have estimated the COVID-19 outbreak could shave about 0.3 percentage points off the annualized rate of Canadian GDP growth in the first quarter. They’re now talking about a similar figure for the rail disruptions. That’s 0.6 percentage points off a growth rate that, even without these problems, the Bank of Canada was forecasting at a slender 1.3 per cent.
In the case of both the outbreak and the blockades, most economists see the likely impact on the economy as “V-shaped” – a considerable drag to growth over the relatively short term, followed by a roughly equal bounceback as conditions return to normal and temporarily interrupted economic activity makes up for lost time.
But the prospect of rising worries and uncertainties fuelling a more profound global economic slowdown – even, as some fear, a recession – could both deepen and broaden the impact in Canada.
That’s where the worries now look to be headed in the financial markets – where stocks are slumping and bond traders are growing insistent on the need for Bank of Canada rate cuts.
Two weeks ago, bond pricing indicated that traders expected a single quarter-point rate cut this year but foresaw a near-zero chance that the cut would come at the next rate setting on March 4. Now, the market is fully pricing in two rate cuts before year end – and giving one-in-three odds that the bank will start the cutting next week, and three-in-four that it will do so by its mid-April rate decision.
The markets are not renowned as great economic prognosticators; they have a dubious track record for predicting recessions that never happened. Nevertheless, the rising rhetoric is making Canadian economists take notice, given the other obstacles – figurative and literal – that an already tepid Canadian economy faces. Given the slow pace that ended 2019 and has started 2020, it wouldn’t take much of a global shock to tip Canadian growth into the red. That’s a risk the Bank of Canada’s policy makers will have to seriously consider as they prepare for next week’s rate decision.
You have to wonder, though, whether rate cuts will be particularly helpful in this instance. Interest rates can do a decent job of countering demand-driven economic weakness, as they provide an incentive to consume and thus stimulate demand. They are much less effective in doing anything about slowdowns brought on by supply problems – and the Chinese coronavirus outbreak and the rail blockades are, at their roots, supply issues. All the central bank stimulus in the world can’t get Chinese ports flowing or Canadian trains moving.
What Bank of Canada rate cuts can do is exacerbate the country’s housing-driven consumer debt problem – and the bank itself has made it abundantly clear that it sees this as a major downside to rate cuts. It may well decide, as it did last October, that this risk outweighs the possible usefulness of a cut.
“Given the risks of looser policy to financial stability, we continue to think that the bank is unlikely to follow through with [rate] action unless there is firmer evidence of sustained weakness in the domestic data,” Stephen Brown, senior Canada economist for London-based Capital Economics, said in a research note Wednesday.
A key for the Bank of Canada is whether it sees signs that the COVID-19 outbreak and blockades start to affect a wider swath of economic activity beyond the sectors directly affected – and, especially, if that spread starts to weigh on inflation, as the bank’s rate policy is ultimately dictated by its 2-per-cent inflation target.
The bank will also be watching its quarterly surveys of business and consumer sentiment, which come out next in early April. A serious loss of confidence among consumers and businesses could mark a tipping point of worry that signals a broader economic malaise – and force the Bank of Canada into action.
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