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Budget 2001 - Budget Plan - Table of Contents - Previous - Next - Chapter 2 Global Economic Slowdown and Implications for Canada Highlights - Economic growth in all major economies slowed sharply in the first half of this year.
- A variety of factors contributed to the global slowdown, including higher interest rates and energy prices and a sharp decline in global high technology investment.
- The events of September 11 introduced a further shock to the global economy through disruptions in economic activity and sharp declines in confidence, particularly in the United States.
- Forecasters have further downgraded their outlook for the U.S. economy, incorporating a recession now underway. Weakness in the U.S. economy is expected through the first half of 2002, followed by a rebound in the second half of the year.
- This is affecting the Canadian economy, which has slowed considerably in response to weaker export demand from our largest trading partner.
- The Canadian economy contracted in the third quarter, and most private sector forecasters expect further weakness in the fourth quarter. They expect positive but modest growth in the first half of 2002, with growth picking up in the second half of the year.
- There is considerable uncertainty to the global outlook. If U.S. consumer and business confidence erode further, global growth could remain weak and the recovery could be delayed.
- Canada is better positioned than in the previous downturn of the early 1990s to weather difficult economic times because of:
- healthier finances through balanced budgets and debt repayment;
- the $100-billion tax cut, proportionately larger than in the U.S.;
- low and stable inflation;
- declining foreign debt; and
- historically low interest rates.
Note: This chapter incorporates data available up to
December 3, 2001.
The world economic outlook has weakened significantly
![World Real Gross Domestic Product (GDP) Growth - bpc2-1e.gif (9,750 bytes)](bpc2-1e.gif)
- World economic conditions had begun to deteriorate before the
terrorist attacks on the U.S. By early September the IMF expected
global economic growth of 2.6 per cent in 2001 and
3.5 per cent in 2002 – a downward revision of about
0.5 per cent for both years.
- The events of September 11 disrupted economic activity and
affected confidence in all major economies, leading the IMF to further
revise down its growth forecast, particularly for 2002. The IMF
now expects the return to more robust growth to be delayed until
mid-2002, leaving its forecast for world economic growth at just
2.4 per cent for both 2001 and 2002.
- Although average growth is forecast to be the same in 2002 as in
2001, growth is expected to accelerate from a slow pace in early
2002 to a more robust pace by the second half of the year.
Growth was already slowing in all major economies
prior to September 11, particularly in the U.S.
![Real GDP Growth for the U.S., Euro Area and Japan - bpc2-2e.gif (6,602 bytes)](bpc2-2e.gif)
- Even prior to the September 11 terrorist attacks on the U.S.,
all major economies were experiencing a slowdown in growth. This
synchronized slowdown was fuelled by a number of factors, including:
- monetary tightening during 1999 and 2000;
- high energy prices in 2000; and
- a sharp downturn in business investment in information and
communications technology (ICT) goods accompanied by a steep decline
in technology-sector equity prices.
- By the late 1990s both the U.S. and the euro area were experiencing
growth that was widely viewed as unsustainably strong, fuelling fears
of a resurgence of inflation. In response, monetary authorities began
to increase interest rates in an attempt to engineer a soft landing
for these economies.
- Rapid growth in the major economies in the late 1990s
also created strong global demand for energy, which outpaced
supply. In response, energy prices rose sharply and remained at high
levels for longer than expected.
- The monetary tightening and high energy prices weakened global
demand conditions. The slowdown was exacerbated by the sharp downturn
in business investment in ICT goods. Indeed, the impact of the sharp
decline in ICT investment was felt especially strongly in the
U.S. – not surprisingly, as the U.S. is the world’s largest
producer and user of ICT goods.
- In the first half of 2001 real U.S. business demand for ICT goods
fell by 16 per cent (annual rate) – a sharp deterioration from
average growth of over 20 per cent in 2000. This
turnaround was responsible for over three-quarters of the overall
slowdown in U.S. GDP growth from 2000 to the first half of 2001.
The terrorist attacks disrupted an already weakening
U.S. economy...
![Monthly Change in U.S. Employment - Selected Industries - bpc2-3e.gif (8,206 bytes)](bpc2-3e.gif)
- Although the economic slowdown has been global, it has been
particularly pronounced in the U.S. In this context, September 11
represented a significant shock to already weakening U.S. economic
conditions.
- The impacts of the disruptions caused by the terrorist attacks
appear to have been significant and widespread, affecting
manufacturing output and shipments, international trade and consumer
spending.
- The immediate impacts of the attacks were most evident in declines
in employment. In October, in the first monthly survey after the
attacks, U.S. non-farm employment fell by 415,000, its sharpest
monthly drop since May 1980, with close to one-quarter of
these job losses in the accommodation and air transportation
industries.
...and further weakened U.S. consumer and business confidence
![U.S. Consumer Confidence and Business Conditions Indices - bpc2-4e.gif (14,996 bytes)](bpc2-4e.gif)
- The immediate disruptions in specific sectors of activity were
accompanied by sharp declines in both business and consumer
confidence.
- U.S. consumer confidence declined 14.9 per cent in
September and a further 12.1 per cent in October –
its largest decline over any two-month period since the invasion of
Iraq in early 1991.
- The decline in confidence was reflected in the decline in consumer
spending in September, the steepest monthly decline in nearly 15 years. While consumer spending rebounded sharply in October, this
largely reflected unusually attractive car dealer sales incentives.
Falling confidence still suggests potential weakness in consumer
spending looking ahead, although there is considerable uncertainty
about the outlook.
- Business confidence also fell sharply in the wake of the terrorist
attacks. For example, the National Association of Purchasing
Management indices for both manufacturing and non-manufacturing
business activity declined sharply in October. These indices reveal
widespread declines in both current and expected economic activity.
U.S. private sector forecasters expect a recovery beginning by
mid-2002
![U.S. Real GDP Growth - bpc2-5e.gif (8,365 bytes)](bpc2-5e.gif)
- Interruptions in economic activity in September compounded the
existing slowdown, pushing real GDP growth down to -1.1 per cent
in the third quarter.
- And with the deterioration in both consumer and business confidence,
private sector forecasters now expect that the U.S. economy will
contract further in the fourth quarter of 2001 (-1.9 per cent),
leaving real GDP in the fourth quarter 0.3 per cent below its
level at the end of 2000.
- On average, forecasters anticipate that the U.S. economy will return
to positive although modest growth in the first half of 2002. Growth
is expected to accelerate to the 4-per-cent range in the second half
of the year, fuelled by:
- the lagged effects of this year’s interest rate cuts;
- U.S. fiscal stimulus enacted both before and after
September 11; and
- the benefits to consumers and businesses of the recent sharp
decline in energy prices.
- Given the uncertainty in the aftermath of the events of
September 11, the major risk to the forecast is the
possibility that consumer and business confidence will recover more
slowly than anticipated.
The weak first half of 2002 is expected to constrain
U.S. growth to 1.1 per cent next year
Table 2.1 U.S. Forecast Summary
|
|
2001 |
2002 |
|
|
(per cent) |
Real GDP growth |
|
|
October 2000 Economic Statement and Budget Update |
3.5 |
n/a |
May 2001 Economic Update |
1.8 |
3.2 |
December 2001 budget |
1.1 |
1.1 |
CPI inflation |
|
|
October 2000 Economic Statement and Budget Update |
2.7 |
n/a |
May 2001 Economic Update |
2.9 |
2.4 |
December 2001 budget |
2.9 |
2.0 |
3-month Treasury bill rate |
|
|
October 2000 Economic Statement and Budget Update |
6.2 |
n/a |
May 2001 Economic Update |
4.3 |
4.5 |
December 2001 budget |
3.4 |
2.3 |
10-year government bond yield |
|
|
October 2000 Economic Statement and Budget Update |
6.1 |
n/a |
May 2001 Economic Update |
5.0 |
5.3 |
December 2001 budget |
4.9 |
4.6 |
|
Sources:
September 2000, April 2001 and November 2001 Blue
Chip Economic Indicators. |
- Private sector forecasters now expect U.S. real GDP growth to be
1.1 per cent in both 2001 and 2002. As is the case with the
global outlook, however, the relatively slow pace of average growth in
2002 expected for the U.S. economy reflects the expectation of weak
growth in the first half of the year combined with a return to robust
growth in the second half of 2002.
- These forecasts are substantially lower than those earlier this year
and at the time of the October 2000 Economic Statement and
Budget Update.
- In line with lower growth expectations and energy prices, U.S.
inflation is expected to decline to 2 per cent in 2002 from
nearly 3 per cent this year.
- Reflecting the weaker forecasts for U.S. growth and the actions
taken by the Federal Reserve Board since the beginning of the year,
forecasters have sharply lowered their expectations for interest rates
for next year.
Weakness in the U.S. economy has significantly affected Canadian
export
![Canadian Real Export Growth and Real Final Domestic Demand Growth - bpc2-6e.gif (9,338 bytes)](bpc2-6e.gif)
- Given our close trade ties, the downturn in the U.S. economy has had
a negative impact on the Canadian economy.
- Real export growth had been a substantial contributor to overall GDP
growth in Canada through 1998, 1999 and the early part of 2000.
However, it slowed sharply in mid-2000, before posting three
consecutive steep quarterly declines starting in the first quarter of
2001. By the third quarter of this year real exports had declined
4.4 per cent from their level at the end of last year, which
has contributed significantly to the growth slowdown in 2001.
- In contrast, final domestic Canadian demand continued to grow over
the period, albeit at a slower pace than in much of 2000.
- By the third quarter of 2001 real final domestic demand growth had
eased to 1.1 per cent, in large part due to a sharp decline in
consumer spending on goods which occurred immediately following the
terrorist attacks of September 11.
Labour market conditions have weakened in Canada, particularly in
export-oriented manufacturing industries
![Manufacturing Sector Employment and Employment and Unemployment Rate - bpc2-7e.gif (18,956 bytes)](bpc2-7e.gif)
- In tandem with weakening export demand from a slowing U.S. economy,
signs of weakness began to appear in labour markets in Canada early
this year – particularly in export-oriented manufacturing
industries. Total employment has remained virtually unchanged and the
unemployment rate has risen modestly this year.
- In the aftermath of the September 11 terrorist attacks, the
unemployment rate rose and employment in manufacturing industries
declined. At the same time, average hours worked per employee declined
sharply, indicating the possibility of further declines in employment
in the months ahead.
September 11 disruptions impacted on Canadian output
![Real Output by Industry - bpc2-8e.gif (9,761 bytes)](bpc2-8e.gif)
- The immediate disruptions in economic activity were also apparent in
industry output, which declined by 0.8 per cent in
September – its sharpest monthly decline in fifteen years.
- As in the United States, air travel and accommodation and related
service industries were significantly affected in Canada in September,
falling 19.1 per cent and 10.9 per cent, respectively.
Significant declines were also reported in retail trade industries,
which faced a sharp decline in consumer spending in the days following
the terrorist attacks. As well, production of motor vehicles and parts
dropped sharply in the month, in part reflecting delays at the
Canada/U.S. border and supply shortages.
- While these industries account for just over 8 per cent of
aggregate output in the economy, they contributed close to one-half of
the overall decline in September.
- The overall Canadian manufacturing sector, which had already slowed
significantly in response to the existing slowdown in the U.S., fell a
further 2.1 per cent as a result of the September 11
disruption.
A smoothly functioning Canada-U.S. border has become increasingly
important to the Canadian economy
![Two-Way Merchandise Trade Between Canada and the U.S. - bpc2-9e.gif (12,375 bytes)](bpc2-9e.gif)
- A well-functioning Canada-U.S. border is critical to the Canadian
economy, and to the manufacturing sector in particular. In fact,
two-way merchandise trade between the two economies rose from about
$100 billion in 1980 to over $600 billion in 2000, while its
share of Canadian GDP almost doubled to close to 60 per cent
during the same period. Including trade in services, two-way
trade between Canada and the U.S. now totals close
to $2 billion per day – by far the largest two-way trade
between any two countries.
- A smooth flow of goods across the border is also important for the
U.S. economy as Canada is the largest export market for the U.S.,
receiving about 25 per cent of its exports.
- Since September 11 concern has arisen about
predictable and efficient access at the Canada-U.S. border.
- Uncertainty regarding delays translates into real costs for Canadian
and U.S. producers, particularly in the manufacturing sector,
where just-in-time inventory systems mean that a significant
share of inputs and final products are in transit at any one time.
Unless addressed, unpredictable border delays would hinder
production, export growth and investment.
Business and consumer confidence have declined
![Canadian Consumer and Business Confidence - bpc2-10e.gif (11,524 bytes)](bpc2-10e.gif)
- Slower employment growth, concerns over the timing of a rebound in
the U.S. economy, and uncertainty about the near-term economic
outlook have reduced consumer and business confidence in Canada.
- As in the U.S., there has been a significant weakening of consumer
confidence in Canada. The most recent data, based on a special survey
conducted by The Conference Board of Canada in early October,
showed a sharp drop in consumer confidence from the quarterly
survey of early September.
- The impact on business confidence has also been sharply negative, as
the measure showed its steepest quarterly decline on record since
1977. Business confidence had been declining significantly from its
recent peak in late 1999 in tandem with weakening economic conditions.
The private sector outlook for 2001 and 2002
has been revised down sharply
![Real GDP Growth - bpc2-11e.gif (10,223 bytes)](bpc2-11e.gif)
- The Department of Finance conducted its regular survey of Canadian
private sector economists in early October, which is the basis for the
five-year status quo fiscal projections provided in Chapter 4. Since
the October survey new data showed larger than expected GDP
contractions in the third quarter of 0.8 per cent in Canada and
1.1 per cent in the United States. In light of these data, the
Department of Finance again consulted private sector economists in
early December to obtain an update of their October view.
This updated outlook is used in this budget for two-year
fiscal-planning projections provided in Chapter 7 (see
Table 2.2).
- Private sector forecasters expect real GDP to decline further in the
fourth quarter, implying growth of 1.3 per cent in 2001 and
1.1 per cent in 2002, a substantial downward revision from
October 2000. As in the U.S., they expect positive but modest
growth in the first half of 2002, with a solid rebound in the second
half of the year. This reflects the impact of lower interest rates,
fiscal stimulus from federal and provincial tax cuts, and the expected
recovery of the U.S. economy. Growth for 2003 is expected to be
a robust 3.9 per cent.
- The adjusted forecast also indicates GDP inflation of 1.3 per
cent in 2001 and 0.2 per cent in 2002. Together with changes to
forecast real GDP growth, these changes result in expected nominal GDP
growth of 2.6 per cent in 2001 and 1.3 per cent in 2002.
- Reflecting a weaker economy and substantial interest rate reductions
this year, private sector forecasters expect short-term interest rates
of 2.4 per cent in 2002 and 4.0 per cent in 2003. Current
private sector expectations for 10-year government bonds are at
5.5 per cent in 2002 and 5.9 per cent in 2003.
Table 2.2 Evolution of the Average Private Sector Forecasts for Canada
|
|
2001 |
2002 |
2003 |
|
|
(per cent) |
Real GDP growth |
|
|
|
October 2000 Economic Statement and Budget Update |
3.5 |
3.0 |
3.0 |
May 2001 Economic Update |
2.4 |
3.4 |
3.4 |
October 2001 private sector survey |
1.5 |
1.5 |
3.9 |
December 2001 budget |
1.3 |
1.1 |
3.9 |
GDP inflation |
|
|
|
October 2000 Economic Statement and Budget Update |
2.0 |
1.5 |
1.9 |
May 2001 Economic Update |
1.8 |
1.7 |
2.0 |
October 2001 private sector survey |
2.6 |
1.6 |
1.9 |
December 2001 budget |
1.3 |
0.2 |
1.9 |
Nominal GDP growth |
|
|
|
October 2000 Economic Statement and Budget Update |
5.5 |
4.6 |
5.0 |
May 2001 Economic Update |
4.2 |
5.1 |
5.4 |
October 2001 private sector survey |
4.1 |
3.1 |
5.9 |
December 2001 budget |
2.6 |
1.3 |
5.9 |
3-month Treasury bill rate |
|
|
|
October 2000 Economic Statement and Budget Update |
5.8 |
5.5 |
5.4 |
May 2001 Economic Update |
4.6 |
4.7 |
5.4 |
October 2001 private sector survey |
4.0 |
3.2 |
4.7 |
December 2001 budget |
3.8 |
2.4 |
4.0 |
10-year government bond yield |
|
|
|
October 2000 Economic Statement and Budget Update |
5.9 |
5.8 |
5.9 |
May 2001 Economic Update |
5.3 |
5.6 |
5.8 |
October 2001 private sector survey |
5.5 |
5.5 |
5.9 |
December 2001 budget |
5.5 |
5.5 |
5.9 |
|
Sources:
September 2000, March 2001 and October 2001
Department of Finance surveys
of private sector forecasters; December 2001
consultation with private sector forecasters. |
The Canadian economy is better positioned to weather the current
global slowdown than it has been in decades
![Real GDP Growth - bpc2-12e.gif (6,804 bytes)](bpc2-12e.gif)
- Canada is not immune to the current global economic slowdown, in
particular the slowdown of the U.S. economy. However, Canada is better
positioned to cope with negative external economic conditions than was
the case in the previous downturn of the early 1990s.
- At that time economic growth declined significantly and remained
weak for an extended period. This reflected several factors, including
high and rising government deficits, entrenched expectations of high
inflation, which kept interest rates high, and rising levels of
foreign indebtedness.
- Today this situation has improved markedly, which is reflected in
the expectation by private sector forecasters of only a modest
slowdown in growth. This expectation represents an acknowledgement of
the following differences from the early 1990s:
- a return to fiscal balance has allowed the largest reduction of
taxes in Canadian history;
- a solid track record of successfully lowering inflation has
eliminated the fear of a return to a high inflation environment;
- there have been large interest rate cuts; and
- Canada’s current account balance and net foreign debt positions
have improved significantly.
The fiscal positions of the federal and provincial-territorial
governments have improved significantly
![Federal and Provincial-Territorial Budgetary Balances (Public Accounts Basis) - bpc2-13e.gif (9,126 bytes)](bpc2-13e.gif)
- The most important difference between the current economic situation
and that of the early 1990s is the dramatic turnaround in government
finances in recent years.
- Prior to the slowdown of the early 1990s, governments ran
substantial deficits. This placed constraints on the ability of fiscal
and monetary policy to offset economic weakness. High government
debt also left the Canadian economy far more vulnerable to external
shocks.
- In fact, in the four years leading up to the recession of the early
1990s, the total federal-provincial-territorial government deficit was
over $30 billion. In 2000-01 the federal and
provincial-territorial governments recorded an aggregate budgetary
surplus reaching almost $30 billion.
- As a result, governments are now in a position to play an effective
role in stabilizing the economy without a return to the vicious
circle of deficits and higher interest rates.
This has provided room for timely supportive fiscal measures
![Federal Fiscal Measures and Provincial Tax Relief - bpc2-14e.gif (7,221 bytes)](bpc2-14e.gif)
- The improvement in the federal government’s fiscal position has
allowed it to introduce the largest tax reduction package in Canadian
history, which is providing a substantial, and timely, boost to
domestic demand.
- Indeed, reductions in federal taxes amount to over $17 billion
in 2001, representing 1.6 per cent of GDP, rising to almost
$20 billion in 2002, or 1.8 per cent of GDP. This
represents a much larger share of GDP than U.S. federal tax cuts
announced last spring – 0.4 per cent in 2001 and 0.7 per
cent in 2002.
- In addition, the stimulative impact of new spending measures at the
federal level undertaken since the 2000 budget, including the
initiatives in this budget, total $8.9 billion in 2001 and
$11.0 billion in 2002.
- These measures, combined with federal tax cuts, represent
2.4 per cent of GDP in 2001 and 2.8 per cent in 2002.
- When provincial tax cuts are added, the total amount of supportive
fiscal measures is 3.3 per cent of GDP this year and 4.0 per
cent in 2002.
Improved fiscal conditions and low inflation have improved monetary policy flexibility
![Bank Rate, One-Year Mortgage Rate and Prime Business Rate - bpc2-15e.gif (8,533 bytes)](bpc2-15e.gif)
- The elimination of government deficits, along with a 10-year record
of setting and meeting low inflation targets, has meant that monetary
policy has been able to react to the current weakening economic
conditions, a marked departure from the situation existing prior to
the recession of the early 1990s.
- In early 1990, as signs of weakness began to appear in the Canadian
economy, the combination of high inflation expectations and high
fiscal deficits created conditions which prevented easier monetary
policy. Indeed, interest rates continued to rise, further dampening
economic growth.
Lower interest rates are translating into significant reductions
in debt-servicing costs for households and businesses
Table 2.3 Savings on Interest Payments Since December 2000
|
|
One-year mortgage rate |
Prime business rate |
Rate – December 2000 |
7.70 |
7.50 |
Rate – December 3, 2001 |
4.60 |
4.00 |
Change in rate |
-3.10 |
-3.50 |
Monthly payment – December 2000 |
$744.16 |
$1,562.50 |
Monthly payment – December 3, 2001 |
$559.05 |
$833.33 |
Change in monthly payment |
-$185.11 |
-$729.16 |
Change in annual payment |
-$2,221.32 |
-$8,750.00 |
|
- Lower interest rates will help support domestic demand by sharply
lowering the cost of borrowing for households and businesses.
- For instance, declines in mortgage rates since the beginning of this
year have meant that a household that renegotiates a one-year mortgage
of $100,000 will save more than $2,200 in annual payments compared to
the end of last year.
- Similarly, declines in interest rates for businesses mean that
annual payments on a small business loan of $250,000 tied to the prime
rate would be $8,750 lower than they were at the end of last year.
Canada’s current account and international investment positions are
in their strongest positions in decades
![Current Account Balance and Net Foreign Debt - bpc2-16e.gif (14,918 bytes)](bpc2-16e.gif)
- The turnaround in government fiscal positions has gone hand-in-hand
with a significant improvement in Canada’s current account
balance.
- Since the first quarter of 2000 the current account balance has
averaged 2.9 per cent of GDP – its highest level for any
comparable period on record. In comparison, the current account was in
a significant deficit position prior to the 1990 recession.
- The elimination of the current account deficit has pushed Canada’s
net foreign debt as a share of GDP down to its lowest level since the
1950s. Canada’s net debt to foreigners stood at 23.1 per cent
in 2000, a dramatic improvement from levels seen in the late 1980s and
early 1990s.
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