Economic and Fiscal Outlook – October 2023
This report provides a baseline projection to help parliamentarians gauge potential economic and fiscal outcomes under current policy settings.
Summary
This report provides a baseline projection to help parliamentarians gauge potential economic and fiscal outcomes under current policy settings. Our outlook incorporates economic data up to and including September 30.[^1] It also includes new measures announced by the Government in Budget 2023 and through September 15. The following provides a condensed overview of PBO’s Economic and Fiscal Outlook (EFO). Projection details are provided in Appendices A to I. An accessible version of the appendices is available on the PBO website.
Economic outlook
Following the contraction in real GDP in the second quarter, we project the Canadian economy to stagnate in the second half of 2023 with quarterly real GDP growth averaging 0.1 per cent.
As the Bank of Canada maintains its restrictive monetary policy to restore price stability, we project that consumer spending will remain weak in the second half of this year and the first half of 2024. We project weakness in residential investment to persist through the end of next year. Inventory investment also remains a drag on growth as firms reduce their stock levels.
We project annual real GDP growth in 2025 to rebound to 2.4 per cent, as consumer spending and residential investment recover and the drag from inventory investment reverses (Table 1). Over 2026 to 2028, we project real GDP growth to average 2.1 per cent which is higher than our estimated growth in potential output (1.9 per cent) over the same period.
Despite a decline in the labour force participation rate, the unemployment rate has increased from 5.0 per cent in April to 5.5 per cent in August as moderate employment gains have fallen well short of robust population growth.
As the economy stagnates, we project the unemployment rate to rise to 5.8 per cent by the end of this year. With economic weakness persisting into next year, we project the unemployment rate to reach 6.0 per cent in mid-2024 and remain elevated through the first half of 2025 before gradually declining to 5.6 per cent by the end of the projection horizon.
Upward pressure from commodity prices and strong underlying inflation are projected to keep consumer price inflation[^2] above the 3 per cent upper bound of the control range through the second quarter of 2024.
As the economy enters into material excess supply and commodity prices weaken, we project inflation to return to its 2 per cent target by the end of 2024 and then to average 1.9 per cent over 2025 to 2027 as the economy gradually returns to its potential output, or productive capacity.
We expect the Bank of Canada to hold the policy interest rate at 5 per cent through the first quarter of 2024. With CPI inflation on track to return to its 2 per cent target, we then expect the Bank to start lowering its policy rate in April 2024. We assume that the policy rate will be reduced by 25 basis points at each fixed announcement date, returning the rate to its estimated neutral level of 2.5 per cent in the second quarter of 2025.
Overall, the outlook for nominal GDP—the broadest measure of the government’s tax base—is lower compared to our March 2023 projection due to lower-than-expected GDP inflation in the fourth quarter of 2022 and weaker projected real GDP growth in 2024 owing to tighter-than-expected monetary policy. The level of nominal GDP is projected to be $22.7 billion lower annually, on average, over 2023 to 2027 compared to our March 2023 outlook.
Fiscal outlook
Our status quo outlook includes new measures announced in Budget 2023 and through September 15. Of note, these measures include the production subsidy provided to Stellantis-LG Energy Solutions and Volkswagen, and the Enhanced GST Rental Rebate. Combined, new measures amount to $28.6 billion in (net) new spending over 2022-23 to 2027-28.[^3]
In the absence of final financial results for the past fiscal year, we estimate that there was a budgetary deficit of $38.7 billion (1.4 per cent of GDP) in 2022-23.[^4] For the current fiscal year, 2023-24, we project the deficit to rise to $46.5 billion (1.6 per cent of GDP) due to slower revenue growth and higher expenses (Table 2).
In 2024-25, assuming no new measure are introduced, and existing temporary measures sunset as scheduled, the budgetary deficit is projected to resume its downward trajectory, reaching $8.2 billion (0.2 per cent of GDP) in 2028-29, as growth in tax revenue tracks gains in nominal GDP and growth in program spending remains relatively constrained.
With the increase in interest rates, we project that the debt service ratio (that is, public debt charges relative to tax revenues) will peak at 12.0 per cent in 2023-24 (Figure 1). The debt service ratio is then projected to gradually decline, as growth in public debt charges moderates and interest rates return to their neutral levels, reaching 11.0 in 2028-29—well above its pre-pandemic low of 8.3 per cent in 2018-19.
In 2023-24, due to slower nominal GDP growth and the increase in the budgetary deficit, we expect the federal debt-to-GDP ratio to increase to 42.6 per cent before gradually declining to 37.8 per cent by 2028-29, remaining above its pre-pandemic level of 31.2 per cent of GDP in 2019-20. The federal debt-to-GDP ratio is projected to be 0.7 percentage points higher, on average, over 2023-24 to 2027-28 compared to our March outlook.
Finance Canada;
Statistics Canada;
Office of the Parliamentary Budget Officer.
Finance Canada;
Statistics Canada;
Office of the Parliamentary Budget Officer.
Data are in fiscal years (2021 corresponds to fiscal year 2021-22). Fiscal year 2022-23 is an estimate. The projection period covers fiscal years 2023-24 to 2028-29.
Compared to our March outlook, we are projecting budgetary deficits that are $4.0 billion higher, on average, over 2022-23 to 2027-28. This upward revision is due to new measures and the weaker economic outlook, along with higher interest rates impacting public debt charges, which are partially offset by lower-than-anticipated program expenses (Table 3).
Excluding Budget 2023 and off-cycle measures, our revenue outlook is largely unchanged. While lower personal incomes and consumer spending put downward pressure on revenues, higher corporate income tax and other revenues offset this weakness over the projection horizon.[^5]
Excluding new measures, expenses were, on average, revised down by $0.9 billion largely due to lower-than-anticipated operating expenses and major transfers to persons. However, this revision was somewhat offset by the impact of higher interest rates on public debt charges.[^6]
Risks and uncertainty
Our outlook provides a baseline projection to help parliamentarians gauge potential economic and fiscal outcomes under current policy settings (that is, a “status quo” baseline). We judge that the risks to our baseline economic and fiscal projection are roughly balanced.
In terms of downside risks, we judge that the most important risk is a larger-than-expected impact of the Bank of Canada’s restrictive monetary policy (particularly on households and the housing market), which would negatively affect the Canadian economy and federal finances.
In terms of upside risks, we judge that the most important risk is higher-than-projected spending by provincial-territorial governments. Our projection of government spending is informed by recent budgets and updates that reflect restrained program expenditure growth. Higher-than-projected government spending could boost economic activity.
To illustrate uncertainty surrounding our economic and fiscal outlook, we construct distributions of possible future outcomes that are centred on our baseline projection, which are then used to calculate “confidence” intervals.[^7]
Relative to our baseline real GDP growth projection (1.8 per cent annually, on average, over 2023 to 2028), the 30, 50 and 70 per cent confidence intervals shown in Figure 2 are consistent with average annual growth of ±0.2, ±0.4 and ±0.6 percentage points respectively. The lower bound of the 70 per cent confidence interval in 2024 is consistent with a 0.9 per cent decline in real GDP from its 2023 baseline level.
Statistics Canada;
Office of the Parliamentary Budget Officer.
Statistics Canada;
Office of the Parliamentary Budget Officer.
The series are presented on a calendar-year basis. The projection period covers 2023 to 2028.
Given the possible economic outcomes surrounding our baseline projection, and on a status quo basis, we estimate that a 70 per cent confidence interval for the federal debt-to-GDP ratio in 2028-29 would range from 33.0 per cent to 43.2 per cent (Figure 3). We estimate there is a 79 per cent chance that the federal debt-to-GDP ratio in 2028-29 would be below its 2022-23 baseline level of 42.0 per cent.
Finance Canada, Statistics Canada and Office of the Parliamentary Budget Officer.
Finance Canada, Statistics Canada and Office of the Parliamentary Budget Officer.
The series are presented on a fiscal-year basis (2023 corresponds to fiscal year 2023-24). Fiscal year 2022-23 is an estimate. The projection period covers 2023‑24 to 2028-29. The red line corresponds to the baseline level of the federal debt-to-GDP ratio in 2022-23.
On a status quo basis, we estimate that a 70 per cent confidence interval for the budgetary balance in 2028-29 would range from a deficit of $38.2 billion to a surplus of $21.5 billion, with a 38 per cent chance of a balanced budget or better.
Detailed economic outlook
Statistics Canada;
Office of the Parliamentary Budget Officer.
Statistics Canada;
Office of the Parliamentary Budget Officer.
Composition of nominal GDP
Detailed revenue outlook
Finance Canada;
Office of the Parliamentary Budget Officer.
Finance Canada;
Office of the Parliamentary Budget Officer.
Totals may not add due to rounding.
Detailed expense outlook
Employment Insurance Operating Account
Direct program expenses
Federal debt outlook
Comparison to March 2023 outlook
Comparison to Budget 2023
Finance Canada;
Office of the Parliamentary Budget Officer.
Finance Canada;
Office of the Parliamentary Budget Officer.
Totals may not add due to rounding.
Communications
Quotes
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Following the contraction in real GDP in the second quarter, we project the Canadian economy to stagnate in the second half of this year and growth to remain weak through the first half of 2024. We project the unemployment rate to rise to 6% in the middle of next year and to remain elevated through the first half of 2025.
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Assuming no new measures and existing temporary measures sunset as scheduled, the deficit is projected to increase to $46.5 billion in the current fiscal year, 2023-24, and the federal debt ratio to rise to 42.6% of GDP. Under status quo policy, the deficit is projected to decline over the medium term, falling to $8.2 billion in 2028-29.
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In terms of downside risks, we judge that the most important risk is a larger-than-expected impact on the Canadian economy, including housing, from the Bank of Canada’s restrictive monetary policy, which would negatively affect the Canadian economy and federal finances. In terms of upside risks, we judge that the most important risk is higher-than-projected spending by provincial governments.
Parliamentary Budget Officer