MNI: Canada Seen As Resilient To Rate Hikes- Finance Memo

Canadian finance department staff painted a picture of an economy resilient to the highest interest rates in decades according to a major briefing given to its top official as he moved into the job last fall and obtained by MNI through a freedom-of-information request.

“The Canadian economy has slowed though economic activity has been more resilient than projected in Budget 2023 despite historically steep rate hikes,” said the memo MNI obtained Thursday. The document was prepared as Prime Minister Justin Trudeau named Chris Forbes to lead the department on Sept 5.

“Canada, as well as many peer countries, has so far managed to avoid recession, and labour markets remain healthy,” the memo said. “Globally, risks around the outlook remain elevated as central banks continue to probe for how long they need to keep interest rates restrictive to ensure inflation sustainably converges to target.”

The memo arrived between the Bank of Canada’s July interest-rate hike to 5%, the highest since 2001, and preparations for Finance Minister Chrystia Freeland’s fall fiscal update. The Bank hiked in June and July even as investors predicted a recession would force a change of course, and Governor Tiff Macklem said last month that while he could still tighten again if needed to curb inflation there's more evidence his 10 hikes are working.

MASKING LIMITED IMPROVEMENT

Finance officials said “the sharp decline in headline inflation over the last year has masked limited improvement in core inflation,” with those prices tracking from 3.5%-4%. Higher interest rates have produced “early signs of an increase in household financial stress” and slower consumer credit growth, the report said. (See: MNI INTERVIEW: BOC Path Tied To Core Prices- Laurier's Siklos)

Canada's resilience was attributed to record population growth of more than 1 million people over the past year and household and business finances still holding some pandemic subsidy money. Finance officials also saw “no apparent sign of a sharp turning point in the near-term” in the job market. (See: MNI INTERVIEW: Aggressive Wage Bargaining To Extend BOC Hold)

“With regards to the economic outlook, two questions have been front of mind, 1) is the disinflation process progressing as expected, and 2) to what extent economic growth will (or will need to) slow following historically steep rate hikes,” the memo said.

Inflation slowed from 6.3% in December 2022 to 4% by August 2023 and to 3.1% in November, and the BOC says it won't return to the 2% target until 2025. Price gains remain elevated even with GDP stalling over the second half of 2023. Governor Macklem has said a period of slack is needed to rebalance what had been an overheated economy.

WORKAHOLICS

The 215-page briefing devoted a large section to policies the government is advancing to tackle a housing squeeze, a top issue in public opinion polls. Housing shortfalls worsened in recent years because of a desire for more space through the Covid pandemic, “ultra-low rates” and a “surge” in immigration, the memo said. “Removing the barriers to more supply remains the primary solution to improving affordability.”

Almost half of the memo surveyed the department’s culture, part of a wider government review. There was some backlash around return-to-office rules and a “feeling that you must be a `workaholic’ to work at Finance” with a majority of executives unable to finish their tasks within regular work hours.

Parts of the memo were redacted under clauses for things such as cabinet advice. Exempted sections included an update on the troubled Trans Mountain pipeline the government bought a few years ago, the “fiscal anchor” and “Consolidation” of Canada Mortgage Bonds that were modified several weeks later in the budget update. (See: MNI: Canada Could Earn CAD800M/Yr Ending Mortgage Bonds-Memo)

Excerpt of memo: