Saturday, August 8, 2009

Canadian Economic Forecast 2009-2010

The Canadian economy will contract significantly in the first half of 2009 before giving way to a modest recovery in the third quarter. I anticipate that growth in 2010 will be given a boost from combined fiscal and monetary stimulus, but that overall economic growth in 2010 will be sluggish. Overall, I expect the Canadian economy to contract by 2.5% in 2009 before returning to positive growth of 2.4% in 2010. It is important to note that although I've forecast a strong rebound in quarterly real GDP growth in 2010, much of this growth will come from temporary sources such as government stimulus and the rebuilding of depleted inventories by Canadian businesses. Therefore, despite a return to positive quarterly growth, I expect that the economy will remain fundamentally weak, characterized by sluggish employment growth and an over reliance on government stimulus.

I expect the unemployment rate to peak around 9.2% before declining at a measured pace as the economy begins a slow recovery. The enormous amount of slack in the economy should keep core inflation well below the Bank of Canada’s 2% target for all of 2009 and 2010. Low inflation, along with a strong Canadian dollar, will allow the Bank of Canada to keep its conditional promise of holding its overnight rate at 25bps until the second quarter of 2010. However, if core inflation remains near target, the Bank may be eager to bring rates back to pre-crisis levels. The forecast suggest that the second half of 2010 could see the Bank increasing its overnight target by 100 basis points with the first increases announced in June or July.

I should note that this forecast assumes that the normalization of credit markets currently underway continues without further disruption and that GDP growth in the United States turns positive by the end of 2009 and remains positive but below trend growth in 2010. The forecast also assumes that the Canadian dollar stays within a range of 87-95 cents.

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