The long road back

As expected, Tiff Macklem's first Governing Council meeting as Bank of Canada Governor resulted in no change in the Bank's policy stance.  The target rate remains at 0.25 percent, and the Bank will continue its quantitative easing programme, which sees it buying C$ 5 billion of Canada bonds each week. 

The rate announcement was accompanied by the release of the Bank's updated Monetary Policy Report (MPR), giving the Bank the opportunity to offer more detail on the economic outlook and its policy response. The Bank estimates that by the end of Q2,  Canada's real GDP had shrunk by about 15 percent from its end-2019 level, with most of the decline occurring in March and April. Bad as this is, it suggests that the economy avoided the worst-case outcome the Bank outlined in its April MPR.

Since the end of April, as the economy has started to emerge from its COVID-driven lockdown, there have been plenty of signs of a rebound in economic activity and employment.  Just this morning, for example, Statistics Canada reported that manufacturing sales rose 10.7 percent in May, a jump that still leaves the series 28 percent below its pre-pandemic (i.e. February) level.

The Bank's central scenario seems a similar pattern, that is, a strong but only partial rebound from COVID-depressed levels, for the entire economy in the near term. It expects that about 40 percent of the decline seen in the first half of the year will be recouped in the current quarter. After that, the pace of recovery is likely to be much slower and more uneven. The extent of structural damage to the economy is only starting to become apparent.  Moreover, the increasingly uncertain outlook for the US economy, reflecting the botched handling of the pandemic there, may weigh heavily on Canada's own rebound, although the Bank, somewhat surprisingly, did not focus on this risk in today's announcement. 

Putting all of this together, the Bank's central scenario (a term it prefers over "forecast" in the current environment) sees real GDP falling by about 8 percent for 2020 as a whole. This is followed by growth of about 5 percent in 2021 and about 4 percent in 2022, which means real GDP does not return to its pre-pandemic level until the end of the latter year.

Given this growth outlook, it is no surprise that the Bank intends to maintain its current policy stance for the foreseeable future.  It is also no surprise that Governor Macklem presented the rate outlook in the context of the Bank's tried-and-trusted 2 percent inflation target.  In the words of the press release,   "The Governing Council will hold the policy interest rate at the effective lower bound until economic slack is absorbed so that the 2 percent inflation target is sustainably achieved."  The QE programme will also continue as long as necessary.  In the Bank's central scenario, these measures will be sufficient to get the economy back on track over time, but the press release concludes with a clear assurance that "the Bank is prepared to provide further monetary stimulus as needed."