PBO published its first scenario analysis of COVID-19 pandemic and oil price shocks on March 27 to help parliamentarians gauge potential economic and fiscal implications.
This report provides an updated scenario analysis that incorporates a revised economic scenario and new federal measures announced up to and including April 24, as well as updated estimates of previously announced measures.
The scenario under consideration is but one of many possible outcomes. We stress that this scenario is not a forecast of the most likely outcome. It is an illustrative scenario of one possible outcome.
- We now assume that current COVID-19 control measures will remain in place in Canada through the spring and then will be gradually relaxed at a relatively slow pace—but not eliminated entirely—over the remainder of the year.
- Despite the April 12 agreement by members of the Organization of the Petroleum Exporting Countries and its partner countries to reduce their production of crude oil, we continue to assume that oil prices will remain well below their pre-crisis levels.
Given the extreme uncertainty surrounding the economic and fiscal outlook, we maintain our focus on the near term exclusively, that is, the quarterly profile through 2020 and fiscal years 2019-20 and 2020-21.
Taking into consideration recent labour market performance and Statistics Canada’s “flash estimate” of the decline in real GDP in March, as well as a bottom-up assessment of affected industries, we have revised down significantly our assumption regarding the impact of the COVID-19 pandemic and oil price shocks on the Canadian economy.
In our updated economic scenario, real GDP is assumed to decline by 2.5 per cent in the first quarter and then again by 20.0 per cent in the second quarter (both rates not annualized). Real GDP is then assumed to rebound modestly in the third and fourth quarters as epidemic control measures begin to be gradually relaxed.
- For 2020, real GDP growth is assumed to be -12.0 per cent, which would be by far the weakest on record since the series started in 1961.
- To put this in historical perspective, the weakest growth in real GDP on record (of ‑3.2 per cent) was observed in 1982—roughly one quarter of our assumed decline.
That said, our assumed real GDP growth rate of -12.0 per cent in 2020 is well within the range of growth rates implied by the illustrative scenarios considered by the Bank of Canada in its April 2020 Monetary Policy Report.
The sharper assumed decline in real GDP and a lower GDP price level combine to reduce the level of nominal GDP—the single broadest measure of the Government’s tax base—by $177 billion in 2020 compared to our previous economic scenario.
- Relative to a counterfactual scenario in which the COVID-19 pandemic and oil price shocks did not occur, the level of nominal GDP in 2020 would be $395 billion (16.6 per cent) lower.
- We assume that there will be further job losses in the second quarter and that the employment rate (the share of the population aged 15 years and older that is employed) will fall to 53.8 per cent, which is 8 percentage points lower than its pre-crisis level in February.
- The employment rate of 53.8 per cent in the second quarter would be the lowest level on record since the beginning of the series in 1976.
Our fiscal results include $146.0 billion in federal budgetary measures that has been announced as of April 24 based on Finance Canada and PBO cost estimates.
- Based on our updated economic scenario and including announced federal measures, the budget deficit would increase to $24.9 billion in 2019‑20 and then to $252.1 billion in 2020-21.
- Relative to the size of the Canadian economy, the deficit would be 1.1 per cent of GDP in 2019-20 and 12.7 per cent of GDP in 2020-21.
As a share of the economy, the budget deficit in 2020-21 would be the largest budgetary deficit on record (since the beginning of the series in 1966‑67) and sit well above the record of 8.0 per cent of GDP observed in 1984‑85.
- Rising budgetary deficits and sharply lower nominal GDP boost the federal debt-to-GDP ratio to 48.4 per cent in 2020-21.
- The last time the federal debt-to-GDP ratio was above 48.4 per cent was in 1999-00. This level, however, still remains well below the peak (since the beginning of the series in 1966-67) of 66.6 per cent of GDP reached in 1995-96.
Despite the recently announced measures, additional fiscal measures may be required to support the economy in the coming months. Moreover, after support measures are provided, fiscal stimulus measures may be required to ensure that the economy reaches lift‑off speed, especially if consumer and business behaviour does not quickly revert back to “normal” conditions.
In the context of fiscal sustainability, it is essential to distinguish between temporary and permanent budgetary measures. The current situation calls for immediate and robust policy actions to face unforeseen and exceptional circumstances. To date, budgetary measures announced by the Government are not intended to be made permanent.
Recall that prior to the COVID-19 and oil price shocks, the Government’s balance sheet was healthy. Given the temporary nature of budgetary measures, credit market access at historically low rates, and looking to historical experience, indicate that the Government could undertake additional borrowing if required.
Once the budgetary measures expire and the economy recovers, the federal debt-to-GDP ratio should stabilize and then start declining under pre-crisis fiscal policy settings. However, should some of the measures be extended or made permanent, the federal debt ratio could keep rising.