CANADA:ECONOMIC FORECAST DARKENS

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CANADA’S Economic forecast darkens

The Bank of Canada warned yesterday of drastically slower growth this year, blaming the runaway dollar for cutting Canada out of the global economic recovery.

The economy is now expected to expand by a modest 23/4 per cent this year — a startling half percentage point off the bank’s forecast made just three months ago — as the full effect of the dollar’s surge begins to be felt.

That’s equivalent to a loss of about $5-billion in gross domestic product, a drop that will mean difficult restructuring for many companies (especially those involved in exporting), possible job losses and cutthroat competition from cheap imports that will put added pressure on domestic firms. It will probably also mean lower interest rates in the months to come, economists said.

And Bank of Canada Governor David Dodge acknowledged up front that, given the unprecedented run-up in the currency, he isn’t sure how long the adjustment to a higher loonie will drag on. new The dollar closed at 77.20 cents (U.S.) yesterday, up almost 12 cents from this time last year. end new

It is a striking change in approach from the bank’s upbeat outlook in October, said Toronto-Dominion Bank economist Marc Lévesque. Then, the central bank expected the rebound in the U.S. economy to make up for the high Canadian dollar.

“It is now humming a much more sobering note,” he said.

The central bank issued its forecast just two days after trimming its target interest rate by one-quarter of a percentage point to 2.5 per cent — its lowest level since the summer of 2002, in an effort to kick-start the flagging economy.

The bank also said that 2003 was even worse than it believed in October, with the economy probably expanding by only 1.6 per cent last year, compared with the earlier forecast of 2 per cent. But growth should pick up by 2005, and average about 33/4 per cent.

In order to get there, though, the private domestic economy — that is, investment and consumption, but not trade or government spending — will have to fuel growth, Mr. Dodge said. He hinted that interest rates will remain low in order to support the economy.

“What the appreciation means is that, as we look ahead, we’re going to have to rely more on domestic demand, rather than foreign demand, certainly more than one would have anticipated given the strength of the world economy,” Mr. Dodge told reporters at a news conference to explain the bank’s monetary-policy report update.

“What we’re seeing is a period where we’re going to have to crowd in [stimulate] domestic consumption and investment to maintain aggregate demand, and monetary policy will have to support this.”

Economists interpret the update to mean that the central bank will gradually cut rates over the coming year.

“The one overriding conclusion that can be drawn is that another rate cut is in store, to offset the drag from the Canadian dollar’s flight,” Mr. Lévesque said.

The bank had resisted rate cuts because it was not clear how much the high dollar was hurting the Canadian economy.

But over the past couple of months, the currency’s climb has clearly begun taking a toll, the bank said. And the bank is not able to predict when the pain of adjusting to the new higher dollar will end, Mr. Dodge said.

“The adjustment process, we know from past experience, does take a considerable amount of time,” he told reporters. But he added, ”We’ve not experienced a change in our exchange rate vis-a-vis the United States that has been as rapid as what we have experienced over the last year — what we don’t know is just how that affects the speed of the domestic adjustment process.”

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January 26, 2004 at 9:51 AM