OTTAWA — The Canadian economy took a shocking fall during the first quarter, dropping at the steepest pace in at least 50 years to what the Bank of Canada says might be the bottom.
The central bank said Thursday it does not plan any immediate action but is watching for further trouble and considering dramatic new interventions into stressed financial markets.
Gross domestic product fell an estimated 7.3 per cent — the biggest contraction since comparable records began being kept in 1961. And for the year Canada will actually outdo the United States in the race to the bottom with a three per cent slump.
The central bank said another shock would spur it to move in a new direction, now that it has fired the last of its traditional monetary policy bullets by dropping the overnight target interest rate to 0.25 per cent, the lowest level practical, and committing to keep it there for a year.
“If there were a need to do something else — which is a big if — we would look to communicate that at a regularly scheduled announcement date,” said bank governor Mark Carney, indicating no new action is planned until at least June.
Earlier, the central bank laid out just what it had in mind — injecting new money into credit markets through what it calls quantitative and credit easing.
Carney said he remains optimistic that aggressive policy measures by himself and other central bankers and governments will work, but he wants to let markets and Canadians know he is not out of options.
The bank’s remaining arsenal includes unconventional measures rarely tried in modern economies, such as expanding the reserves available for chartered banks to pump up lending or purchasing corporate bonds to bring down credit costs for businesses.
Increasing the money supply increases the risks of high inflation down the road, but Carney said he would only act in a “deliberative and principled” fashion.
The objective, he said, is to ensure that there is enough liquidity in credit markets so that businesses and individuals will have access to credit at low rates. This will help spur economic activity, he said.
But economist Douglas Porter of BMO Capital Markets said the odds on Carney moving into quantitative easing have lessened.
“While the bank is not ‘philosophically opposed’ to quantitative easing, they seem reluctant to do more, at least at this point.,” he said.
Still, the lack of progress both at home and around the world continues to surprise the central bank’s governing council.
The Canadian economy will shrink by three per cent this year, Carney said, as opposed to the 1.2 per cent he predicted in January. The world economy will fall 0.8 per cent, as opposed to 1.1 per cent growth forecast three months ago.
The bank says Canada will begin to recover next year with a growth rate of 2.5 per cent, but in the meantime will suffer a devastating recession — deeper than in the United States, the centre and cause of most of the problems.
The main reason is that U.S. weakness in the housing and auto sectors is hammering critical Canadian export industries — vehicles, parts and forest products.
Meanwhile, the loss of 270,000 Canadian jobs in the first quarter, combined with declining household worth, has sapped consumer confidence and driven down spending.
“Government spending is the only component of demand expected to show positive growth in the quarter,” the bank said.
Carney appeared frustrated with having to revise expectations so sharply in a matter of months, and blamed inaction in the United States and Europe for the fact the recession will be deeper, last longer and its recovery be more muted that it needed to be.
“If we had to boil it down to one issue, it’s the slowness with which other G7 countries have dealt with the problems in their banks,” he said. “There has not been as much progress as we had expected in January.”
But he said recently announced measures will work once implemented, leading to growth in the world economy and also in Canada.
“There is light at the end of the tunnel, the Canadian economy will begin to grow again,” he said, noting that signs of bottoming out are starting to appear.
Still, the recession will leave residual damage, he admitted. Plants have shut down, industries are restructuring, particularly in the auto and forestry sectors, putting a “speed limit” on the economy’s ability to advance in the future.
The country’s capacity for non-inflationary growth has been halved 1.2 per cent this year, and will only be at 1.5 per cent in 2010 and 1.9 per cent in 2011, the bank said.
Although Carney stressed that the bank has not made any decisions on quantitative and credit easing, the Bank of Canada lengthy monetary policy report released Thursday morning gives plenty of reasons to suspect it will be needed.
In an unusually lengthy analysis, the central bank’s governing council said economies need aggressive measures, and massive stimulus moves by governments have produced modest results so far.
“Timely and credible action is required to address the impaired assets on bank balance sheets and to restore the normal flow of credit,” the report said.
However, “progress on these measures has been slower than expected in the United States and other major financial centres.”
The world has already suffered its worst setback in economic activity since the Second World War, global credit markets remain fragile, confidence is at rock bottom, and international banks have lost much of their capacity to lend, the report says.
Canadian financial markets are healthier, it adds, but credit is still tighter than normal and interest rates have risen, particularly for corporations.
If the bank needs to resort to non-traditional interventions, it will, Carney said.