MNI INTERVIEW: BOC Balance Sheet May Reach 25%-30% of GDP

By Greg Quinn

     OTTAWA (MNI) - The Bank of Canada will swell its record balance sheet to as

much as 30% of GDP and keep an elevated stock of assets until there is clear

evidence a recovery has been completed, a former economic advisor to the

government of Canada's most populous province told MNI.

     The balance sheet could reach CAD500 billion, or as high as CAD700 billion,

said Tony Stillo, Canada director at Oxford Economics and a former forecasting

manager at Ontario's finance ministry. That could take it to 25% of Canada's

CAD2 trillion GDP or even as much as 30%, he said.

     The replacement of Governor Stephen Poloz in June will see things largely

the same way, including his quip that no firefighter is blamed for using too

much water, Stillo said. The BOC on Friday named its former deputy governor Tiff

Macklem as its next chief. Its balance sheet has climbed to CAD349 billion from

CAD119 billion at the start of March, much faster than in the global financial

crisis, and it has yet to roll out another CAD60 billion of corporate and

provincial bond purchases.

     "They could just increase the size and make sure it's big enough to make

sure it's not just helping buffer the economy from contraction, but make sure

it's enough to support the recovery," Stillo said. The economy may need a year

to get back close to where it was before Covid-19 shut down companies and kept

people at home, he said.

     With the central bank's new purchase programs already covering government

and corporate bonds, short-term credit and repos, about the only place left to

go is mimicking the Fed's Main Street lending program, Stillo said. That may be

less likely in Canada where the federal government is already offering some

business credit without involving the central bank, boosting the deficit to a

record 12.5% of GDP.

     --PROVINCIAL STRAINS

     Prime Minister Justin Trudeau has a longer-term financing problem with

provinces like Newfoundland struggling to sell bonds, Stillo said. While

Canadian provinces -- unlike U.S. states -- have few balanced-budget laws, extra

costs like essential worker pay for healthcare staff suggests the federal

government will take on the added burden.

     The government may also look at more expensive income supports, if it can

find a way around creating potential incentives for people to avoid working,

Stillo said. Millions of Canadians sought relief payments after business

shutdowns because gig-type workers did not qualify for unemployment insurance.

     "People are putting moral hazard aside" for now when it comes to emergency

programs like extra cash going to provincial governments, Stillo said.

     The BOC's CAD50 billion provincial bond purchases start in a week and will

buy up to 20% of an issuer's supply. In an extraordinary step, the BOC will not

reveal whose debt is purchased. Energy-heavy provinces like Newfoundland and

Alberta are more vulnerable to a financing squeeze, though Alberta has more

capacity, as the only province without a sales tax.

     "Providing direct support for corporate and provincial borrowing is

important. You think of Newfoundland, they had trouble selling their bonds,"

Stillo said. "Their fifty billion dollars in announced provincial bond

purchases, it's roughly equal to the announced provincial stimulus measures, it

kind of supports the idea that they are almost directly helping fund provincial

programs."

     --SWEET SPOT

     Balance-sheet expansion is more effective than negative rates or

yield-curve control, Stillo said. The BOC has signaled negative rates could

create new problems for the banking system. Curve control is unnecessary given

the global plunge in bond yields, he said.

     The BOC's balance sheet will find a "sweet spot" between the permanent

major expansion the Fed went through and trying to lower it back to where it was

before the pandemic, Stillo said, adding the BOC will favor a go-slow approach.

     "They will have to wind down, and they will do that in a very gradual

transparent way not to spook markets," Stillo said. "They would rather put too

much water on the fire than not enough."

--MNI Ottawa Bureau; +1 613-314-9647; email: greg.quinn@marketnews.com

[TOPICS: M$C$$$,MX$$$$]