PBO fiscal projections
The Parliamentary Budget Officer (PBO) released an updated federal fiscal projection that estimates the federal deficit at $252.1 billion this year or 12.7 percent of GDP. This would raise the federal net debt-to-GDP ratio to 48.4.
The assessment is reasonable based on the assumptions the PBO has made. In terms of the economic outlook, the PBO is assuming a 12 percent contraction in real GDP this year, which is close to the Deloitte projection of close to 11 percent annualized.
There is, however, a risk of a larger deficit because the PBO is only estimating the impact of fiscal measures announced up to April 24. In our opinion, the federal government is likely to announce significant new fiscal stimulus aimed at accelerating the recovery during the post lockdown period. So, the net debt-to-GDP is likely to climb further. The good news is that this is still financially affordable, particularly given the low interest rate environment. In the 1990s Canadian federal fiscal crisis, the net debt-to-GDP ratio reached 67. Nevertheless, fiscal rebalancing will be a key challenge for years to come in the post-COVID environment.
Canadian growth weak before lockdown
With Statistics Canada providing an advance estimate of real GDP in March, it should come as no surprise that today’s release of the detailed industry real GDP in February was largely ignored by financial markets. Nevertheless, it still provides some insight into the state of the Canadian economy immediately prior to the lockdown.
The Canadian economy delivered meagre growth of 0.1 percent in February. Education services fell 1.8 percent in February, due to teacher strikes in Ontario. The impact of a weakening global economy was evident. Transportation and warehousing fell 1.1 percent. Manufacturing contracted by 0.2 percent. COVID-19 concerns and the impact on personal and business air travel showed up as a 0.9 percent decline in accommodation and food services.
In terms of selected industries posting growth, arts and entertainment climbed 0.9 percent, mining rose 0.8 percent, real estate increased 0.5 percent, wholesale trade gained 0.4 percent and retail trade edged up 0.2 percent.
Statistics Canada did provide new commentary about March. The most important message was that they have not revised their estimated 9 percent economic contraction in the month. They also highlighted that their air travel leading indicator is pointing to a 61 percent drop in travelers arriving by air and the number of returning Canadian international travelers fell 32 percent in March. Real estate activity looks to have experienced a double-digit percentage decline in March. Preliminary indicators of motor vehicle production in March are suggesting a 33 percent drop, with a cascading negative impact on auto parts production.
The bottom line is that there was already weakness in many Canadian sectors heading into the domestic lockdown and the best estimate is that the Canadian economy contracted by 10 percent annualized in the first quarter of 2020. I would also remind readers that the March surveys only pick up the weakness in the first half of the month. The April data should show an equivalent or larger decline and bring to light more of the economic costs of the lockdown.
Pre-lockdown weakness in payrolls are evident in the latest Survey of Employment, Payrolls and Hours. Job losses in wholesale trade, accommodation and food services, and transportation and warehousing resulted in a 35,000 reduction in payrolls in February. Earnings rose 3.7 percent year-over-year in February, which is a solid gain. However, we are all aware of the income shock on workers that happened in March.
International developments
The European Union experienced a 3.5 percent contraction in the first quarter, or at an annualized rate of 13.3 percent. This is deeper than Canada or the US. Of the largest member economies, France and Spain were hit the hardest posting non-annualized quarterly declines of 5.8 percent and 5.2 percent respectively. Italy's real GDP shrank by 4.7 percent after having contracted by 0.3 percent in the previous quarter. Both Italy and France have now entered a recession as defined by two consecutive quarters of contraction.
EU inflation dropped from 0.7 per cent in March to 0.4 per cent in April — the lowest growth in four years. Spain, Greece, Slovenia and Finland had falling prices in the latest reading. While much of the decline is due to falling energy prices, there is a risk of deflation taking hold.
China’s manufacturing sector may have returned to a contraction in April. The IHS Markit China Purchasing Manager Index fell again below the 50 mark, which is the threshold for growth.
Bloomberg is reporting that the world’s biggest banks have budgeted for $66 billion in bad loans in the wake of the economic lockdown. US banks have set aside US$26 billion. Europe’s largest banks have set aside US$11.5 billion. This is an early indication of the scale of the potential financial damage in Europe.
The U.S. Federal Reserve has widened access to its “Main Street Lending Facility”, allowing larger firms to take advantage of the program. The total funding amount has not changed.
