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The Fiscal Front

Investment Views, Investments

Posted by Geoff Johnston

Mar 11, 2016 3:39:45 PM

Senior Portfolio Manager
Empire Life Investments Inc.
Gestionnaire principal de portefeuille
Placements Empire Vie

The European Central Bank (ECB) announced a number of new policy initiatives on March 10, including:

  1. Cutting the Deposit rate by 10 basis points to -0.40%
  2. Cutting the refinancing rate by 5 basis points to 0.00%/li>
  3. Cutting marginal lending facility rate by 5 basis points to 0.25%
  4. Increasing monthly asset purchases from 60 to 80 billion Euros.

The reaction was somewhat muted in both the equity and currency markets. Given that the markets were expecting the ECB to be aggressive, this may simply be a case of "buying on rumour, selling on fact". However, there is likely more to the story. The markets may finally be realizing that monetary policy has its limits as a stimulus tool, and if taken too far, it may even be counter-productive.

The Bank of Canada (BoC) appears to agree as they held off lowering rates any further at their March 9 meeting. The BoC stated that they would like to wait for the Federal budget announcement on March 22, and to let the fiscal stimulus work through the system before taking any further actions on the monetary front. In other words, monetary policy has done its thing. It's time for fiscal policy take over.

There is plenty of room on the fiscal front in Canada as the Federal balance sheet is in relatively good shape. According to the Dominion Bond Ratings Service, Canada's Federal net debt to GDP ratio is only around 34% which is the best in the G7. The United States is north of 70% and Japan pulls up the rear at over 200%.

Given Canada's strong balance sheet and ultra-low interest rates, this is a perfect time to borrow money for much needed programs like infrastructure. And unlike monetary policy, which is a very blunt and unpredictable tool, fiscal spending will have a direct, almost immediate positive impact on our economy.