The Bank of Canada on Wednesday reaffirmed its commitment to the G-7 to address the threat to the economic growth posed by the outbreak of the coronavirus. Canada’s central bank moved aggressively to drop its policy rate by 50 basis points, to 1.25%, following action taken by the Federal Reserve on Tuesday.
The 50 basis point cut followed similar action by the Fed.
We now expect the other major central banks, including the Bank of England, the European Central Bank and the Bank of Japan, to also engage in precautionary rate cuts, make liquidity pledges and increase asset purchases where necessary to prepare for the negative impact of the supply shock cascading through the global economy.
While Canadian financial conditions remain neutral at this time, they will most likely ease in the coming weeks; the rate cut positioned the Bank of Canada to get out ahead of what is going to be a challenging period.
But we want to reiterate the point that we made on the emergency action taken by the Federal Reserve on Tuesday. Monetary accommodation is a necessary but not sufficient condition to address the unusual economic and financial challenges posed by the Covid-19 virus.
What will be needed across the G-7 economies is robust and aggressive fiscal action. Rate cuts cannot solve supply chain shocks, nor are they well-positioned to address demand destruction and the powerful second-order effects of disruption. That will require governments to use their primary weapon: fiscal power. To that end, the House and Senate reached a deal on Wednesday for $8.3 billion in funding to stem the growing health crisis.
The Bank of Canada had been on hold since September 2018, waiting for the U.S.-Canada trade negotiations to work themselves out and for the world economy to get back on track again. Financial conditions were improving by the end of 2019, but the collapse of equity markets in response to the health crisis and the spike in money market spreads suggest a new era of credit risk and uncertainty that could spread to the real economy in the weeks or months ahead.