David Rosenberg: Third-quarter bounce expected, fourth quarter is key test for economy
Canada’s economy will take a long time to fully recover from the COVID-19 lockdowns, requiring the central bank to continue purchases of government bonds to keep interest rates at historical lows indefinitely, according to Tiff Macklem.
In his first public speech as governor, Macklem said Canada’s economy should resume growth in the third quarter as containment measures are lifted. He cautioned, however, that any recovery will be “prolonged and bumpy” and the central bank will be “laser-focused” on supporting the rebound with stimulus.
Tiff Macklem arrives at the Bank of Canada in Ottawa on June 22.
“It will be a very long period before we start discussions about removing stimulus,” Macklem said in response to questions after his speech, which he gave via video-conference to Canadian Clubs and Cercles canadiens. “It’s not a discussion we’re engaged in right now.”
The economy will get an immediate boost as containment measures are lifted, people are called back to work, and households resume some of their normal activities,” Macklem said. “But it will be important not to assume that these growth rates will continue beyond the reopening phase.”
The Bank of Canada, under Macklem’s predecessor Stephen Poloz, took unprecedented actions to make sure businesses, institutions and consumers had access to credit. The bank cut interest rates by 175 basis points to 0.25 per cent and launched a series of programs to inject hundreds of billions of cash into the economy. That includes its first ever large scale asset purchase program to buy government debt -- known as quantitative easing.
The central bank will continue to buy government bonds until a rebound is “well underway,” Macklem said, adding that policy makers are worried that demand will be slow in recovering, which could put downward pressure on inflation without the stimulus.
Long and Gradual
Macklem’s comments echo those of Deputy Governor Lawrence Schembri, who said last week the second phase of the recovery will be long and gradual because of the lingering uncertainty around the virus. The bank sees the economy rebounding quickly during the first phase after governments allow normal activities to resume. But after that, the growth trajectory may be uneven and slow, since not all industries will be able to operate until a vaccine is created.
“The expected long road back indicates that the Bank will need to provide more stimulus, likely in the form of a more aggressive quantitative easing program,” Royce Mendes, an economist at CIBC World Markets, said in a report to investors.
The Bank of Canada has bought almost $400 billion (US$296 billion) in assets since the crisis began to inject liquidity into financial markets. Macklem highlighted on Monday how the purpose of that cash injection has been changing, with the focus now on keeping interest rates low rather than ensuring markets are functioning properly. That’s meant more of the liquidity is targeted at buying up government debt, rather than short-term money market instruments held by banks.
Macklem reiterated the bank will continue to purchase at least $5 billion of Canadian government bonds a week to help lower long-term borrowing costs for households and businesses and signal that rates will remain low for a long period.
The bank continues to express concern around the potential for lower inflation. Although businesses are reopening, millions of Canadians remain out of work and spending has dropped. The bank expects supply to be restored faster than demand, which could put downward pressure on prices.
“Our main concern is to avoid a persistent drop in inflation by helping Canadians get back to work,” Macklem said.
Macklem isn’t a fan of negative rates. The governor made sure to highlight in his speech that low rates could lead to distortions in the behavior or financial institutions, while reiterating policy makers will using asset purchases until a recovery is underway. He didn’t specify when he expects that will happen.
What Bloomberg’s Economists Say
“In his first official speech as governor of the Bank of Canada, Tiff Macklem focused on many of the same themes as his predecessor, stressing the central bank’s inflation targeting as the underlying rationale for actions addressing the economic impact of the COVID-19 pandemic.”
- Andrew Husby, Bloomberg Economics
Next month, the bank will deliver its July Monetary Policy Report which will contain a central planning scenario for output and inflation. Still, the bank says the pandemic has created a ‘fog of uncertainty’ which has made it difficult to give a clear outlook.
“The course of the coronavirus is the biggest source of uncertainty,” Macklem said. “Beyond that, we don’t know how global trade and supply chains will evolve, or what will happen with domestic supply and demand,” or even how spending habits will change or confidence rebounds.
Yet, the economy is showing signs of stabilization and as the data comes in, the bank feels more comfortable in its ability to answer some of those questions.