Finance Committee on April 28th, 2015

[Stephen S. Poloz]

A bubble is something that is self-sustaining through speculative activity. We have big historical examples like the tulip bubble and these stock bubbles and so on where people are only buying that thing with the belief that it will be worth something more the next day or the next year, not because they actually want it.

As I said before, our housing construction has stayed very much in line with our estimates of demographic demand for housing throughout this entire period. It bobbles around but on average it's always on track. So that's an important ingredient that's missing. If we were all buying a second or a third condo with confidence that it was going to rise in price, and sell it to someone else, that would be one of the ingredients you'd expect to see in a true bubble. We don't see any of that, and furthermore we don't see truly runaway pricing. I mean, if we do see strong pricing, we look for other reasons, as economists.

[The Chair, Conservative, James Rajotte]

But an overvaluation of 30%, and I'm taking your upper limit, is fairly high.

[Stephen S. Poloz]

I understand that 30% is a big number. What we're very carefully saying is that actually our estimate is a fuzzy one and that it's centred on around 20%, which is still an important number. I agree with you. However, we think this is one of the byproducts of what we've been through. It's not something that happened by itself. It's happened as a product of the experience in the post-crisis period, and as the fundamentals catch up to it in our forecast it will be sustained.

[The Chair, Conservative, James Rajotte]

I want to move on. On January 21 of this year, you lowered the target for the overnight rate by one quarter of 1%, you said in response to the effect of the oil price drop. On March 4, 2015, you maintained the overnight rate. At the end of March you said, and I think I'm quoting correctly, “The first quarter of 2015 will look atrocious, because the oil shock is a big deal for us”, and on April 15 you maintained the overnight rate.

Why did you not lower the rate more given the statement you made at the end of March?

[Stephen S. Poloz]

When we lowered the rate in January, we were in an extremely uncertain situation. This is not an arithmetic exercise to decide what the economy will do. In fact, the day Carolyn and I did our press conference, oil prices were still falling and were already $10 lower than the assumption that we had embedded in our forecast. So at the time it felt like we needed to take out some insurance—and we use the term insurance very carefully—because we wanted people to understand that we didn't really know how this would all turn out, but we figured it was on the downside enough that we needed insurance against it.

Over the course of the next few months, oil prices stabilized. They recovered a little bit. Today that oil price of $60 is around $65 for Brent. Things are a little more positive in that sense. With that, plus the fact that after we cut rates other central banks cut rates, and the whole Canadian yield curve went down significantly, and the Canadian dollar went down noticeably—those things in combination allowed us to do a new forecast that shows that the economy gets back to full employment around the end of 2016, which was our hope, our plan. That means that the insurance amount was about right. Therefore there was no need for us to take further action to offset the shock that has occurred—on our current understanding.

[The Chair, Conservative, James Rajotte]

Do you regret using the word “atrocious”, then, at the end of March? It's a very strong word to use.

[Stephen S. Poloz]

What I was trying to describe was that over the course of these few months, the day-to-day data flow could look very negative. That would be not the first quarter number, which we won't know until the end of May, but data on things like manufacturing, shipments, data on GDP, data on spending. Those monthly indicators could look quite negative. We wanted markets to understand that we already believed that the quarter was going to look quite poor, so in that context that markets would not be therefore doubling up on their bets that the Bank of Canada would need to do further actions. At that time, we were redoing our forecast and we needed to do a full assessment to see if the amount of insurance was approximately right. In the end, we believe it was.

[The Chair, Conservative, James Rajotte]

But my understanding of the first quarter is that actually most economists predicted where it ended up. It was not a surprise to most economists. I think it was off by 0.1% in terms of the growth numbers, which shows that it was sort of an expected thing. I guess when you use words like that, or even with the housing situation....

Everybody follows your words very carefully, and I don't know if you're doing it by design, but the previous governor had his forward guidance policy but he was also extremely measured and aware that every single word he said was taken very seriously. Are you by design trying to shock the markets occasionally with these words or with the 10% to 30% overvaluation? Because I think it is having that effect. Even the January 21 change in the overnight rate caught an awful lot of analysts by surprise. Is that by design that you're doing that?

[Stephen S. Poloz]

It's certainly not our intent to surprise or to frighten people.

Just as a slight adjustment to your premise, nobody knows what the first quarter looks like yet. Our forecast is that it's zero. That seems to be reasonably in line with what others are saying. Since the numbers provided by private sector economists to the finance minister for the budget forecasted an average of 2% for this year and our number is 1.9%, it seems like we're quite well in line now with what the private sector is saying.

The number I think you're referring to is the fourth quarter, where we had 2.5% forecast and it turned out to be 2.4%, which was actually at that time much stronger than what the private sector was expecting.

[The Chair, Conservative, James Rajotte]

Okay.

Finally, you state that the interest rate cut in January is working. What specific evidence would you give to back up this claim?

[Stephen S. Poloz]

Well, the evidence we have at present would be primarily in the export sector. We also know that consumers, those with flexible rate mortgages, have already lower payments. This is important as a buffer to the oil price shock. Those who are renewing, who don't have variable rates—that block of people are already getting the benefit of lower mortgage payments.

We know that companies with existing export contracts receive a substantial boost in their cashflow immediately when the currency moves as it did. That would be not only in the non-energy export sector but in all export sectors. In the case of oil, it provides a partial offset to lower oil prices, but in other sectors where prices have been stable, it's an enormous effect on their cashflow, and then, of course, positions them for more competitive offerings in the next cycle of contracting.

The evidence we have is thin at this stage. It's an accumulation of fundamentals that we believe are there, and as we say in the monetary policy report, our biggest risk is that somebody surprises us. For example, consumers spent less in the first quarter—we believe because of bad weather. However, if it turns out that they've changed their minds about something, then that's something that would carry on longer. That's a risk.

In the case of companies, companies tell us in the non-energy export sector they're ready to invest. They need a little more time perhaps, or they need a little more assurance, and I think the numbers are proving that.

No one is claiming that we know exactly what's happening in the first quarter or the second. That's our job to continue to monitor all those things.

[The Chair, Conservative, James Rajotte]

Okay. Thank you.

Governor and Senior Deputy Governor, I want to thank you for being with us here today. Thank you so much for presenting and for responding to our questions. We appreciate that very much.

Colleagues, we'll suspend for a few minutes and bring the Parliamentary Budget Officer forward.

[The Chair, Conservative, James Rajotte]

I call this meeting back to order. This is meeting 77 of the Standing Committee on Finance. Our orders of the day, pursuant to Standing Orders 108(2), are for a study of the economic and fiscal outlook.

We're very pleased to have with us today the Parliamentary Budget Officer.

Once again, Mr. Fréchette, welcome to the committee.

As well, to your officials who have been with us here many times, welcome back.

I understand you will have an opening statement. Perhaps you want to introduce your officials to us, then we'll have questions from members as well.

[Jean-Denis Fréchette, Parliamentary Budget Officer, Library of Parliament]

Good morning, Mr. Chair, vice-chairs and members of the committee. Thank you for the invitation to appear and discuss our April 2015 economic and fiscal outlook.

Today, I am joined by Dr. Mostafa Askari, Assistant Parliamentary Budget Officer, Chris Matier, a senior director, and Scott Cameron, an analyst. They can also answer any questions you have regarding our outlook or other PBO analyses.

As you know, given the timing of this year’s budget, we provided the committee with a pre-budget economic and fiscal outlook. This outlook was constructed on a status quo basis and was intended to provide parliamentarians with an independent point of reference that could be used to assess budget projections as well as the scope for new measures.

First, I would like to briefly highlight some key findings from our pre-budget report.

We have expanded on our January analysis of the impact of lower oil prices. Based on model simulation results, our estimates indicate that the impact of the decline in oil prices on the Canadian economy is ultimately negative, albeit relatively modest.

In preparing our pre-budget outlook, we assumed, based on recent future prices, that oil prices will increase gradually from US$50 per barrel for West Texas Intermediate in the first quarter of 2015 to a high of US$66 per barrel by the end of 2020.

PBO's pre-budget economic outlook indicated that real GDP growth would slow to 2% in 2015 and then average 1.8% from 2016 to 2020, which is in line with our estimate of potential growth in the Canadian economy.

Prior to accounting for Budget 2015 measures, PBO's fiscal outlook showed that the government's budget would be in surplus in 2014-15 and would be roughly balanced over the next five years.

We have updated our economic and fiscal projections to incorporate budget 2015 measures as well as revisions to the government’s forecast of direct program expenses. There are some notable points of contrast between PBO's updated economic and fiscal outlook and the outlook presented in budget 2015 that I would like to draw to your attention.

The budget 2015 oil price assumption is that WTI oil prices will rise sharply to $67 U.S. per barrel in 2016 and continue rising, ultimately reaching $78 U.S. per barrel in 2018. You have the table and my remarks that were sent to the clerk prior to the meeting.

In contrast, PBO assumes that oil prices will rise only gradually to $64 U.S. per barrel in 2019, which is also in line with recent futures prices.

While near-term projections of real gross domestic product growth are similar, the budget outlook over 2017-19 is relatively optimistic, with real GDP growth 0.4 percentage points higher annually on average.

Reflecting differences in oil price assumptions and real GDP growth projections, the outlook for nominal GDP in budget 2015 is $20 billion higher annually, on average, over 2017-19 compared to PBO's updated projection.

Updating PBO's fiscal outlook for budget 2015 measures and for the government’s new direct program expense forecast results in relatively small projected budget deficits over 2017-18 to 2019-20.

On balance, our judgment is that the economic and fiscal outlook presented in Budget 2015 is relatively optimistic and that there is downside risk to the medium-term outlook over 2017-18 to 2019-20.

Just before concluding, Mr. Chair, as you are aware, the joint committee on the Library of Parliament recently passed a motion supporting the PBO's access to government information. The motion instructs the PBO to report to your committee and some other committees when I'm unable to obtain the required information from departments. The motion also refers to the standing committee's considerable powers to send for papers and records.

I welcome this parliamentary remedy and look forward to establishing a correspondence with your committee.

My colleagues and I will be happy to respond to any questions you may have regarding our economic fiscal outlook or any relevant matter.

Thank you, Mr. Chair.

[The Chair, Conservative, James Rajotte]

Thank you kindly for your presentation.

Colleagues, we'll do seven-minute rounds again.

We'll begin with Mr. Cullen, please.

[Nathan Cullen, NDP, Skeena—Bulkley Valley, BC]

Thank you very much, Mr. Chair.

Just to confirm something we raised with the Governor of the Bank, over the last 16 months growth of the Canadian economy has been less than 1% per month. That represents the slowest growth rate outside of the recession in the last four decades. Is that your understanding of our current fiscal situation?

[Jean-Denis Fréchette]

Thank you for the question.

I'll ask Mostafa Askari and maybe Chris Matier to answer that question.

[Mostafa Askari, Assistant Parliamentary Budget Officer, Office of the Parliamentary Budget Officer, Library of Parliament]

I'm not sure exactly about the average you are mentioning, but certainly we have had weak growth since the start of the financial crisis.

[Nathan Cullen, NDP, Skeena—Bulkley Valley, BC]

In your estimate, are the government's projections in their budget document overly optimistic?

[Mostafa Askari]

Over the short term, in the first two years actually our projection is very close to what the private sector has, but over the medium term they seem to be more optimistic than what we are projecting.

[Nathan Cullen, NDP, Skeena—Bulkley Valley, BC]

If we're having historically low growth in our economy, where we're increasingly having full-time jobs replaced by part-time precarious work and youth unemployment twice the national average, how we invest right now in this economy is important.

I want to get to projections on some of the tax measures the government has taken. We have in front of us, just released this morning, the Auditor General's report. I'll quote from some of the main conclusions from the Auditor General, that “information provided by the Department of Finance Canada on tax-based expenditures does not adequately support parliamentary oversight”, and they go on to say that, “The Department of Finance Canada does not systematically evaluate all existing tax-based expenditures.”

Do you have anything to say to those two conclusions from the Auditor General?

[Mostafa Askari]

The Department of Finance provides an annual report on tax expenditures, but those are just the current spending, current estimates. What we have done in the past is we have tried to provide a projection for the cost of those kinds of major tax expenditures over time. That's what we did with the TFSA and some other measures.

[Nathan Cullen, NDP, Skeena—Bulkley Valley, BC]

Let's take up the TFSA for a moment. This is a program that's fully reached by less than 16% of Canadians who max out on their TFSA contributions right now?

[Mostafa Askari]

I assume 16% is the correct number, but I can't talk to that right now.

[Nathan Cullen, NDP, Skeena—Bulkley Valley, BC]

The finance minister recently, in response to a question that.... We can't get them from the finance department and we can't get them from the federal government. They announce the program, but won't tell us what they think it will cost. You have this one TFSA program going in cost from a half a billion dollars in the immediate to $13.5 billion in 15 years and accelerating thereon to...and this is per year: $13.5 billion per year to $44 billion per year in cost to the government.

Is that correct?