OREANDA-NEWS. On January 28, 2015, the Executive Board of the International Monetary Fund (IMF) concluded the Article IV consultation with Canada.

Canada’s recent growth performance has been solid, alongside a stronger U.S. recovery. U.S. growth momentum, exchange rate depreciation, and high energy demand in early 2014, all led to a pickup in exports, although it has yet to translate into strong investment and hiring. In particular, the slowdown in business investment has been widespread in recent years. Thus, the composition of growth has not yet shifted away from private consumption and residential investment to generate a broader, more durable recovery. Substantially lower oil prices will be a drag on growth through weaker investment in the energy sector. Private consumption has continued to grow thanks to rising household wealth and exceptionally easy financial conditions. Indeed, after a brief pause, Canada’s housing market rebounded in 2014, fueled by low and declining interest rates although there are some welcome signs of cooling especially in overheated markets. IMF staff analysis suggests a national real house price overvaluation between 7–20 percent although with important regional differences.

Growth momentum is expected to continue this year, despite substantially lower oil prices, and become more balanced with a cooling housing market. The stronger U.S. recovery, which is expected to continue, is leading to higher non-energy exports and supporting investment. These factors should mostly offset a moderation of private consumption and residential and energy investment as U.S. interest rates rise, low oil prices persist and households remain highly indebted. Looking beyond the recent past strength in housing markets, staff continues to expect a “soft-landing” as higher interest rates and weaker terms-of-trade prospects would temper housing demand. Downside risks to the outlook have risen in light of further oil price declines, adding to the risks of weaker global growth and still-unfolding effects from the unusually large fall in oil prices. Domestic vulnerabilities in housing markets and the household sector remain elevated but contained from a financial stability perspective. Given interconnections between external and domestic risks, some risks could occur together.

Public finances continued improving in 2014, reflecting federal and some provincial consolidation efforts. The general government fiscal deficit is expected to narrow from about 2? percent of GDP in 2013 to 1? percent in 2014, with the federal government essentially on track to achieving its balanced budget target in FY2015/16 despite lower oil prices. Federal authorities should consider adopting a neutral stance given past consolidation gains and downside risks to growth. Such a stance would still be consistent with achieving the longer-term goals on public debt reduction. Provinces remain committed to their balanced budget targets, but, for some, fiscal adjustment continues posing challenges. They will need to sustain their efforts to strengthen public finances, especially in light of longer-term aging-related fiscal pressures.

In the wake of substantially lower oil prices and increased uncertainty around an otherwise solid economic outlook, the Bank of Canada cut its policy rate by 25 basis points and revised down its projections for GDP growth and headline inflation, on January 21. The Bank’s policy action is in line with staff advice to use available monetary policy space should adverse shocks intensify given the deeper drop in oil prices. Overall, maintaining monetary accommodation along with gradual fiscal consolidation at the general government level would be conducive to achieving a growth composition with stronger exports and, thereby, investment in the economy, while targeted macro-prudential policies would help address housing sector vulnerabilities as needed.

Canadian banks remain highly profitable, with favorable loan quality, low nonperforming loans, and improving capitalization. Stress tests suggest that banks are resilient to credit, liquidity, and contagion risks due to their strong capital position, stable funding sources, and low exposures to the energy sector, as well as extensive government-guaranteed mortgage insurance. Steady progress has been achieved on key parts of the financial reform agenda, such as on implementing the Basel III Liquidity Coverage Ratio and leverage standards. Enhanced coordination across federal and provincial authorities in supervision and stress-testing will further bolster financial system soundness. Also, strengthening macro-prudential and crisis management frameworks will reinforce the overall resilience of the financial system.