People shop for produce and seafood at the Granville Island Market in Vancouver on July 20, 2022.DARRYL DYCK/The Canadian Press
The International Monetary Fund said it expects “substantial further cooling” of the Canadian economy, and advised the federal and provincial governments to refrain from spending windfall revenues as the country teeters on the edge of recession.
In a report published on Wednesday, IMF staff predicted the Canadian economy will grow 1.5 per cent in 2023, down from a projected 3.3 per cent this year.
The economic outlook, however, could be “substantially worse” if inflation remains high and forces the Bank of Canada to keep raising interest rates, or the country’s key trading partners, particularly in the United States, fall into a deeper slump than anticipated, the IMF said.
Earlier in the week, the fund warned “the worst is yet to come” for the world economy, which is being battered by high inflation and rising interest rates, geopolitical turmoil caused by Russia’s invasion of Ukraine and COVID-19 disruptions, particularly in China.
High inflation is the biggest concern for finance officials and central bankers who are in Washington this week for the annual meeting of the IMF and World Bank. U.S. Federal Reserve meeting minutes published on Wednesday show that Fed officials are more worried about doing too little to fight inflation than doing too much and causing a recession.
Concern is also growing about financial market stability as central banks raise interest rates to try to get prices under control. The strain is clearest in Britain, where the Bank of England has had to intervene in bond markets to prevent a “fire sale” of government bonds held by pension funds.
The IMF noted on Wednesday that Canada has weathered the pandemic relatively well, and as an energy producer, has been hit less hard by the war in Ukraine than many other countries. But the situation is precarious.
“A mild recession could easily emerge, and the historical distribution of risks suggests a roughly 10-per-cent chance that the economy would contract for 2023 as a whole,” the IMF said.
This echoes a growing number of private-sector forecasters – including economists at Royal Bank of Canada, Desjardins and Bank of Montreal – who say the country will enter a recession in early 2023.
The IMF noted that Canada’s fiscal outlook has improved in recent quarters thanks to windfall tax revenues and resource royalties, as well as a pullback in pandemic-related spending. The federal government posted a $6.3-billion budgetary surplus for April to July, compared to a $47.3-billion deficit for the same period last year.
Nonetheless, the fund advised against new spending beyond targeted inflation-relief measures, and said governments should adopt a formal debt anchor, such as a limit on debt-to-GDP, to guide public spending.
“Revenue windfalls at both federal and provincial levels should be saved, and while some space could be made for limited and highly targeted programs to buffer vulnerable households from high fuel and food prices, more generalized spending increases should be avoided so as not to undercut monetary policy.”
Last month, the federal government announced a $4.6-billion package for Canadians struggling with higher costs. It included new payments to uninsured parents to cover their young children’s dental costs, doubling the GST credit and a boost in rent supports.
“The world is living through a challenging economic period right now, and Canada is not immune to these challenges,” Finance Minister Chrystia Freeland said in a statement on Wednesday after the IMF report.
“I am pleased to note that the IMF confirms that Canada remains, and is projected to be for years to come, the leader in the G7 in terms of fiscal responsibility.”
The IMF has not been shy about criticizing governments that it sees as acting at cross-purposes with central bank inflation-fighting efforts. Two weeks ago, the fund said the British government should “re-evaluate” recently announced tax cuts that could stoke inflation – a sharp rebuke of new Prime Minister Liz Truss and Chancellor of the Exchequer Kwasi Kwarteng.
The report on Canada was published a day after the fund issued a broader warning about global economic growth. The fund expects the world economy to grow by 2.7 per cent next year, the slowest pace since 2001, excluding the 2008 financial crisis and first year of the COVID-19 pandemic. It warned that there’s a 25-per-cent chance global growth will be below 2 per cent next year.
Still, the IMF forecasts that Canada will perform better than many advanced economies. The fund sees Canada posting the second-strongest growth among G7 countries next year after Japan.
It expects unemployment in Canada to average 5.9 per cent next year, up from the current rate of 5.2 per cent, and to average around 6 per cent for the next few years. It sees inflation averaging 4.2 per cent next year, and returning to the Bank of Canada’s 2-per-cent target by the end of 2024 – a slightly lower inflation forecast than the central bank’s projection from July.
RBC economists published a more pessimistic forecast on Wednesday, saying Canada could enter a recession in the first quarter of 2023, and that the unemployment rate will be near 7 per cent by the end of next year.
“Rising inflation and higher borrowing and debt servicing costs are expected to shave almost $3,000 from average purchasing power in 2023,” RBC economists Nathan Janzen and Claire Fan wrote in a note to clients.
“And while drum-tight job markets have pushed wages higher, it hasn’t been enough to offset these losses. This will weigh most heavily on Canadians at the lower end of the wealth spectrum, particularly those whose disposable income has faded alongside pandemic support.”
On Tuesday, the IMF warned of potential disorder in global financial markets. Stock and bond prices have fallen sharply, while liquidity has deteriorated in several key markets, making it harder to match buyers and sellers and adding to price volatility.
In its report on Canada, the fund said financial stability risks are rising, but that the country’s financial system should be resilient.
“Banks are generally well capitalized and liquid, they are seeing their net interest margins widen as rates rise, and the majority of their main borrowers are expected to remain sound,” the report said.
It said that Canada’s large pension funds and insurers also appear to be financially healthy, although it noted that comprehensive financial data are not publicly available. ”It appears that they generally weathered the ‘dash for cash’ episode in March, 2020, relatively well, and they should be well positioned to avoid liquidity squeezes going forward.”
Mark Rendell