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Bank of Canada expects economy to shrink due to COVID-19 lockdowns

Jessy Bains
·3-min read
Bank of Canada Governor Tiff Macklem arrives to a news conference in Ottawa, Ontario, Canada December 15, 2020. REUTERS/Blair Gable
Bank of Canada Governor Tiff Macklem arrives to a news conference in Ottawa, Ontario, Canada (REUTERS)

The Bank of Canada is leaving its key benchmark interest rate unchanged at 0.25 per while predicting an economic contraction in the first quarter as further COVID-19 restrictions take their toll.

“Canada’s economy had strong momentum through to late 2020, but the resurgence of cases and the reintroduction of lockdown measures are a serious setback,” said the Bank in a release.

Growth in the first quarter of 2021 is now expected to be negative. But it does expect a strong rebound in the second quarter, assuming restrictions get lifted.

“Consumption is forecast to gain strength as parts of the economy reopen and confidence improves, and exports and business investment will be buoyed by rising foreign demand,” the Bank said.

“Beyond the near term, the outlook for Canada is now stronger and more secure than in the October projection, thanks to earlier-than-expected availability of vaccines and significant ongoing policy stimulus.”

Overall it predicts the economy will grow 4 per cent in 2021, following a 5.5 per cent decline in 2020. It sees further acceleration of 5 per cent growth in 2022, before slower growth of around 2.5 per cent in 2023.

It’s also maintaining the current pace of its quantitative easing (QE) program at $4 billion per week.

Low rates for homeowners

The Bank maintained its expectation for inflation to return to its 2 per cent target range in 2023. That means no increases to its interest rate until then, and interest on variable mortgage rates will remain historically low.

“Anyone with a variable rate mortgage or home equity line of credit (HELOC) should be pleased that their prime will remain unchanged, although they would have been ecstatic had the Bank implemented a micro cut,” said Ratehub co-founder James Laird.

“Anyone shopping for a home should get a pre-approval which will hold today’s fixed rates for up to 120 days and allow them to move quickly in the competitive spring market.”

Bank of Canada Governor Tiff Macklem says he’s looking a range of options if the economy weakens further, including a micro rate cut.

“Reducing the effective lower bound from its current level of 25 basis points to a lower but still positive number is one of those options to provide additional monetary stimulus,” he said in a news conference.

The Bank expects demand for single family homes to continue to outpace supply this year — bolstered by low rates and an improving job market. However, it expects a gradual softening after 2021 as that demand starts to fade and price growth softens.

Risks of a higher loonie

The Canadian dollar rose more than half a cent in the moments following the announcement.

“The loonie was boosted due to improved economic forecasts, which the bank directly stated are stronger than in their October projection,” said Steve Kulchyk, senior corporate dealer at moneycorp International Payments Canada.

“As a result, the loonie is testing multi-year highs against the US dollar as the uptrend for the Canadian currency continues.”

Macklem says a higher loonie has dampened exports and created headwinds for the bank’s outlook, and a further rise would be even more problematic. However, he says the Canadian dollar’s movement has been mostly due the situation in the U.S and its currency.

“Most of the appreciation from the Canadian dollar is coming because of a broad-based depreciation of the U.S. dollar — that’s not a made in Canada development,” he said.

Jessy Bains is a senior reporter at Yahoo Finance Canada. Follow him on Twitter @jessysbains.

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