Federal budget, CPI support neutral rate outlook

Last week, the federal budget projected medium-term deficit increases, including a deficit of $28.5 billion for 2017-18, and a deficit of $18 billion still remaining by 2021. Read: Feds will keep asking for more to bolster middle class: Morneau The small measures of raising taxes on alcohol and cigarettes, removing the public transit tax credit […]

By Staff | March 27, 2017 | Last updated on March 27, 2017

2 min read

Last week, the federal budget projected medium-term deficit increases, including a deficit of $28.5 billion for 2017-18, and a deficit of $18 billion still remaining by 2021.

Read: Feds will keep asking for more to bolster middle class: Morneau

The small measures of raising taxes on alcohol and cigarettes, removing the public transit tax credit and applying GST to Uber rides won’t “substantially move the needle on revenues,” says TD economist Diana Petramala, in a weekly economics report. However, the government’s wait-and-see budget may be appropriate, she says.

Read: To raise or not to raise rates? What the BoC must consider

Though TD forecasts nominal GDP growth of 4.7% in 2017 (the government projects 4.1%), “the timing might not be right for restrictive fiscal policy given the extensive risks facing Canada and the global economy,” says Petramala.

Read: Inflation ticked lower in February

The report “fits with the [BoC’s] narrative on slack in the economy,” says RBC economist Josh Nye in an economics update. “And, given heightened uncertainty regarding U.S. policy, we doubt [the bank’s] neutral tone will change much at April’s meeting despite the solid run of data we’ve seen in recent months.”

Soft core inflation “is just one additional reason for a fairly dovish BoC outlook and for betting against rate hike pricing,” says Derek Holt, vice-president and head of capital markets economics at Scotiabank, in an economics update on CPI. To the list of economic indicators, he adds things like the collapse in business investment in the last two quarters, lack of export growth, uncertainty on the commodities outlook and the imported bond shock.

Petramala says ongoing Fed hikes could pull up the 10-year government of Canada bond yield by 30 to 40 basis points in 2017 and 2018 above the federal budget assumptions.

Still, despite looming deficits, the debt-to-GDP ratio is not expected to breach 30% over the forecast plan, she says. “This is quite low from a historical perspective, at half the peak reached in the late 1990s, leaving some fiscal room to work down the deficit only gradually,” concludes Petramala.

Read the full TD report here. Read the RBC update here and the Scotiabank update here.