Reluctantly The Bank Of Canada Cuts Its Rate By ½ Percent

While still maintaining that the Canadian economy was operating at its potential and inflation was on target, the Bank of Canada has had to come to terms with the stark reality of the unprecedented public health risks of the COVID-19 virus. It could not have been more direct when it stated in its press release:

However, COVID-19 represents a significant health threat to people in a growing number of countries. In consequence, business activity in some regions has fallen sharply and supply chains have been disrupted. This has pulled down commodity prices and the Canadian dollar has depreciated. Global markets are reacting to the spread of the virus by repricing risk across a broad set of assets, making financial conditions less accommodative. It is likely that as the virus spreads, business and consumer confidence will deteriorate, further depressing activity.

Embedded in the statement are some very serious issues facing the Canadian economy. To begin with, the terms of trade have become more adverse. That is, Canadian prices for its major exports such as oil and other basic commodities have weakened considerably, while at the same time import prices are expected to be volatile owing to major disruptions in worldwide supply chains. National income will be negatively affected by the drop in our terms of trade. Moreover, Canada has suffered several quarters of underperforming business investment and exports, which contributes to an overall slowdown in growth. Finally, political disputes regarding indigenous land claims and environmentally-related energy projects have impeded rail transportation in key industrial regions. The BoC acknowledges that the first quarter will come in below its expectations made earlier in the year.

Having reversed course abruptly, it is now apparent to the BoC that this rate cut does not put Canada out of the woods, by any means. The “Governing Council stands ready to adjust monetary policy further if required to support economic growth and keep inflation on target”. This allows the Bank to offer future additional assistance. That assistance will likely involve making certain that “the Canadian financial system has sufficient liquidity” to support economic growth.  A rate cut may be a necessary condition, but it does not appear to be sufficient to deal with the risks to the economy.