NEW YORK (MaceNews) – Canada’s economy is being hit hard by both the COVID-19 and oil price shock, and the timing and quality of recovery remain uncertain, and hinge on controlling the virus, the Bank of Canada said in its Monetary Policy Report.
As restrictions in activity linked to COVID-19 are lifted, the economy will recover, as businesses reopen, with support from fiscal measures and from bank policies that have supported functioning of the financial system, the bank said. It also helps that the economy was strong before the shocks set in.
But the outlook for recovery is “highly uncertain,” the bank said. “Its speed will depend heavily on how the pandemic and the efforts to control it unfold as well as on developments in global oil markets,” the bank said. “In addition, several forces will influence the dynamic of economic activity after the downturn. Policy stimulus will support the recovery. However, the uncertainty and scarring effects of the recession on confidence and production capacity could prolong the recovery substantially.”
Given these uncertainties, the bank sketched two possible scenarios rather than offering a single base case. It did not make specific economic projections for either scenario. The first features a quick relaxation of COVID-19 containment measures, and a relatively successful outcome for policy measures to limit structural damage to the Canadian economy and Canada’s trading partners.
“Overall, in this less severe and less persistent scenario, the decline in economic activity is abrupt and deep but relatively short-lived. The recession would be rapidly followed by a strong rebound in activity, particularly if the price of oil also bounced back quickly, in line with foreign demand.”
The second scenario envisions a more severe and lingering impact on households and businesses, for example, if the COVID-19 restrictions stay in place longer, with many firms obliged to close permanently, and a much weaker recovery among Canada’s trading partners. “Under this second scenario, future growth would be severely dampened, with economic activity remaining below its pre-pandemic level for an extended period.”
The impact of the economic weakness will push down inflation sharply, with CPI inflation expected near 0% in the second quarter, the bank said. The low inflation rate is mostly due to falling gasoline prices, “and, to a lesser extent, travel services such as hotels and travel.
“The impact on inflation will be partially mitigated by the lower Canadian dollar, which can be expected to result in higher import prices. Under the first, more favorable scenario, inflation would increase gradually as the effects of past oil price declines dissipate, the economy strengthens and excess supply is absorbed. The gradual return to target would be facilitated by well-anchored inflation expectations. How quickly inflation returns to target will depend on the timing and strength of the recovery.”
The bank did not comment on additional steps it may take to address the shocks to Canada’s economy., but pledged to “closely monitor the effectiveness of its actions, “ and the impact of the fiscal policy and other policy.
In its assessment of current conditions, the bank said the near-term impact of the COVID-19 pandemic reflects the shutdown of much economic activity to limit spread of the virus.
“As in other countries, a significant amount of economic activity in Canada has been shut down, causing sudden and sharp drops in both supply (e.g., closed businesses) and demand as well as in income for households and firms. Uncertainty about the duration and severity of the outbreak is affecting the spending decisions of both households and businesses.
“In addition, severely depressed foreign activity is pulling down Canadian exports and investment, as well as our terms of trade, through lower commodity prices. Second, layered on top of the direct impacts of the COVID-19 pandemic is the plunge in global oil prices, which will weigh heavily on the Canadian economy. In particular, the recent drop in prices has dealt a major setback to the oil and gas sector. Production and investment in the sector have declined sharply and will remain low, and could deteriorate further if prices remain well below levels prevailing earlier in the year.”