Panic in Ottawa: Why worry is setting in after one drastic change in Canadian monetary policy

First, Ottawa delays the federal budget. Now, a surprise decrease in the rate of interest. It’s official: panic has settled in Ottawa.

Objective for government must be to ensure growth and prosperity return to Canada, and create jobs.

The Bank of Canada’s decrease in the rate of interest, which now sits at 0.75%, has taken everyone, including markets, by surprise. (Chris Wattie/Reuters)

First, Ottawa delays the federal budget. Now, a surprise decrease in the rate of interest. It’s official: panic has settled in Ottawa.

Something is going terribly wrong. 

The Bank of Canada’s decrease in the rate of interest, which now sits at 0.75%, has taken everyone, including markets, by surprise. Virtually no one was expecting this sudden move. In fact, only a week before, in Wisconsin, Deputy Governor Timothy Lane was telling us not to expect any ‘drastic’ moves in Canadian monetary policy.

So what happened, and why should we be a little worried?

The move was a remarkable admission by the Bank of Canada that the Canadian economy was in far worse condition than previously believed. So much so, that they had to defy the expectations of virtually all economists, lowering rates now without any warnings.

We knew the oil crisis was going to have an impact on the Canadian economy, we just did not know how much. The Bank of Canada now tells us the impact is going to be considerably more than expected.

Truth be told, the Canadian economy was never on the cusp of a recovery, despite tales many policy makers were spinning.

Since 2010, the official end of the crisis, the Canadian economy was at best anemic, with considerable slack in the labour market. 

Declining unemployment rates were caused more by discouraged worker syndrome than anything else.  And in the last 2 months, this view was confirmed when the economy shed jobs. Part-time work is still too high, a sign Canadians still can’t find full-time employment.

Undoubtedly, the oil crisis was the trigger for lowering rates, but a decline in rates was really inevitable.

In fact, I have been predicting lower rates for more than a year. The oil crisis simply hurried things up. Mr. Poloz will certainly face considerable criticism and accusations over this decision, but I feel, contrary perhaps to most of my professional colleagues, that the rate cut was justified.

During this so-called recovery, the Bank of Canada never raised rates once (not since 2010), which in and by itself was an admission of the fragile state of the Canadian economy. Increasing rates might have jeopardized the weak recovery. But now, the admission from the Bank of Canada is even worse than feared.  The economy is expected to slow to just 1.5%, down from an earlier estimate of 2.4%.  This is a sizable downward revision, and it should worry us all.

In the end, my guess is the economy may contract even more in the next few months.

Why? Well the Bank of Canada’s predictions are based on an average $60 a barrel price of oil. If oil falls below for some considerable time, which it is expected to do, then the Bank’s forecasts will need to be revised again.

The surprise move by the Bank of Canada sent a strong signal that it is panicking, and even a little desperate. And if that was not enough, the federal government, in announcing its decision to delay the federal budget until at least April, sent another negative signal, this one of mismanagement and incompetence.

The oil crisis is wreaking havoc on the federal government’s revenues and its ability to properly forecast its fiscal bottom line. At last count, it is expected to shave about $4.5 billion off government revenues. Now, after having gone on a spending spree to shore up support for its government, Harper will have to face the facts that he totally mismanaged federal finances. 

After all, Harper may not have known the extent of the drop of oil, but he knew it would lower its revenue base. Yet, this did not stop him from spending. This will be a serious impediment to his ability to get re-elected. The government’s sole accomplishment was how he managed to balance the budget in difficult times. Now he does not even have that to offer Canadians in October.

In delaying the budget, the Harper government has now admitted it made a huge mistake. It is telling the world and Canadians not to trust it when it comes to managing its finances.

No matter how you slice it, both announcements amount to a government in panic mode, not really sure of the extent of what is happening. It’s time to take a step back, come clean, and restrategize. 

The first and only objective is to ensure growth and prosperity return to Canada, and create jobs.

Let’s put Canada first.

Louis-Philippe Rochon is an associate professor at Laurentian University and co-editor of the Review of Keynesian Economics.