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Cablegate: Harper Government Gives Snapshot of Canada's Economic

DE RUEHOT #1502/01 3362157
P 012157Z DEC 08








E.O. 12958: N/A
SUBJECT: Harper Government Gives Snapshot of Canada's Economic

Refs: (A) Ottawa 1495 (B) Ottawa 1395 (C) Ottawa 1372

Sensitive But Unclassified. Protect accordingly. Not for internet

1. (SBU) Summary: The Conservative government's November 27
Economic and Fiscal Statement stated that Canada is well positioned
to weather the uncertainty and risks arising from the global
financial crisis. Finance Minister Flaherty said the health of
Canadian banks and the financial positions of households,
corporations, and government would mitigate the worst impacts of the
international downturn. The government expected the Canadian
economy to grow 0.6 percent in 2008 and 0.3 percent in 2009, and it
planned to run balanced budgets through FY2012-13 - but would not
rule out future deficits. Flaherty indicated that the government
would likely wait until the New Year before unveiling a possible
fiscal stimulus package as recommended at the G20 Summit in
Washington last November. Senior Bank of Canada officials privately
stated that monetary policy remains effective in Canada. As a
result, the Harper government may look to the Bank to stimulate the
economy - instead of using fiscal policy - in the coming months.
End summary.

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Good Fiscal Position May Make Economic Challenges Less Daunting

2. (U) In a November 27 message that triggered a contentious
political row over political party funding (ref a), the Conservative
government's Economic and Fiscal Statement said Canada is well
positioned to weather the uncertainty and risks arising from the
global financial crisis. (The Economic and Fiscal Statement is
typically released in November and provides an update of Canada's
economic and fiscal situation ahead of the federal budget, which is
typically due in late February or early March. The government has
since said the budget would be tabled by January 27, the day after
the House is scheduled to return from its year-end recess.)
Delivering the Statement in the House of Commons, Finance Minister
Jim Flaherty said that the sound footing of Canadian financial
institutions (refs b, c) and the relatively strong financial
positions of households, corporations, and government should
mitigate the negative impacts of the international economic

3. (SBU) Flaherty stated that private sector economic forecasters
expect a "technical recession" in Canada with negative growth in the
fourth quarter of 2008 and the first quarter of 2009, despite
full-year real GDP growth of 0.6 per cent in 2008 and anticipated
growth of 0.3 per cent for 2009. (For its part, the Bank of Canada
sees 0.6 percent GDP growth in both calendar 2008 and 2009 due to
tighter credit flows, falling external demand - primarily from the
United States - and a sharp fall in commodity prices.)

4. (SBU) The government's Statement said Canada enjoyed a strong
fiscal position when the global financial crisis started, with a
budget surplus of C$9.6 billion in FY2007-08 - the best of any G7
country. (Note: Canada's fiscal year runs April 1 to March 31.)
The Statement was clear, however, that the surplus would shrink next
QThe Statement was clear, however, that the surplus would shrink next
year. Canada had only a C$804 million budget surplus from April to
September 2008, compared to C$6.63 billion for the same period in
2007. While the government said it expects to run balanced budgets
and even small surpluses through FY 2012-13, global economic
uncertainty made it impossible to rule out future deficits.
Flaherty, however, promised no "structural deficits." (Federal
deficits are a highly sensitive political issue in Canada; in the
early 1990s Canada faced an environment of rising debt and deficits
and increasing uncertainty about its ability to continue to borrow
money from domestic and international institutional investors, and
the cost of this source of funds. Subsequently, from roughly 1993
to 1998, the Liberal government of Prime Minister Jean Chretien,
with Finance Minister Paul Martin leading the way, erased the

OTTAWA 00001502 002 OF 003

deficit by slashing federal spending. Since that time all Canadian
political parties have subscribed to the shibboleth of "no budget
deficits.") For their part, opposition political parties said the
government's numbers were not credible and that the government was
probably already in deficit.

5. (SBU) The government's Statement said the sharp decline in world
commodity prices in 2008 - primarily for energy and forestry
products - will reduce the level of Canada's nominal GDP in 2009 and
2010 compared to earlier estimates. (The government uses nominal
GDP as the broadest indicator of Canada's tax base. The Bank of
Canada has privately noted that as Canada's nominal GDP growth
slows, government spending may come under further pressure.) The
Statement also said the sharp appreciation of the Canadian dollar in
2007 and the 2008 U.S. economic slowdown hurt export-intensive
sectors, particularly manufacturers and forestry-related products.
The government noted that some 75 percent of Canadian manufacturing
production is located in central Canada (Ontario and Quebec) and
that more than 80 percent of central Canada's manufacturing exports
are shipped to the United States.

Canada's Economic Strengths

6. (U) Despite the challenges noted above, Flaherty - and the
government's Statement in more detail - stated that Canada may be
well positioned to weather the global economic storm. In
particular, the Statement noted that:

--The Canadian housing sector is sound, with subprime mortgages
accounting for less than 5 percent of new mortgages. Canadian
lenders must also insure against default any mortgages with less
than a 25 percent down payment;

--Canada's banks and other financial institutions are liquid and
well capitalized, and have lower leverage ratios than their
international peers; and

--Core Consumer Price Index (CPI) inflation has remained low, stable
and predictable - and is within the Bank of Canada's targets.

Strengths of the Canadian Financial System

7. (U) The government's Statement also stressed the underlying
strengths of the Canadian financial system:

--Canadian capital requirements for financial institutions are well
above minimum international standards.

--At the start of the financial crisis, Canadian banks' capital
buffers on risk-adjusted assets were 9.5 percent, while many global
banks had capital ratios of only 6 or 7 percent.

--Canadian banks are also less leveraged than many of their
international financial institution counterparts. Canadian banks'
overall assets amounted to less than 20 times their capital, while
major U.S. banks had 30 times more assets than capital and some
European banks were leveraged up to 50 times.

--Large Canadian investment houses are owned by banks, and are
regulated on a consolidated basis by the Office of the
Superintendent of Financial Institutions.

No Stimulus Announced Yet - Other Measures in Meantime are Modest

8. (SBU) Flaherty also announced plans focused on the federal
Q8. (SBU) Flaherty also announced plans focused on the federal
government's internal economy such as a limiting wage increases to
public servants, limiting federal workers' right to strike (although

OTTAWA 00001502 003 OF 003

in the political firestorm of the weekend, they have backtracked
from that stance), cutting federal spending on travel, hospitality,
conferences, exchanges and political services, and most
controversially, eliminating federal subsidies to support political
parties that receive more than 2 percent of the national vote (See
ref a; again something the government appeared to retreat from in
the wake of the political reaction).

9. (U) Minister Flaherty made it clear the government will likely
wait until the actual budget (which, according to statements on the
weekend from the Finance Minister will come, atypically, in late
January 2009) before unveiling a possible fiscal stimulus package as
recommended at the G20 Summit in Washington on November 14-15.
Flaherty - and the government's Statement - said the Harper
government's tax cuts since 2006 were in effect a pre-emptive
stimulus package, with Canadian taxpayers paying C$31 billion less
in taxes (almost 2 percent of GDP) in FY2009-10. The government's
Statement also noted the importance of infrastructure spending in
providing fiscal stimulus and said budget programs supporting
provincial, territorial and municipal infrastructure projects are
scheduled for a large increase to C$6 billion in 2009. The
government also stated that it is looking to speed up the roll-out
of anticipated infrastructure projects.

10. (SBU) Comment: The IMF has recommended that countries spend an
average of 2 percent of GDP on fiscal stimulus actions. Senior Bank
of Canada officials privately tell us that each country faces
differing circumstances, and that monetary policy is still effective
in Canada. As a result, the Canadian government may look to the
Bank to use monetary policy in place of fiscal actions to stimulate
the economy in the coming months. The Bank expects to make further
stimulus rate cuts - on top of the 75 basis points in October
2008(and the 225 basis points since December 2007). Currently the
Bank of Canada "key lending rate" to banks rate is 2.25 percent. The
next Bank announcement on interest rates is scheduled for Tuesday,
December 9. Bank officials also state that cutting consumption
taxes - as, in part, the Harper government has done - is an
inefficient fiscal stimulus that does little to change spending
behavior. The officials say that more efficient spending - such as
on infrastructure projects or direct transfers to individuals- has a
greater domestic multiplier effect than cutting taxes.

11. (SBU) Comment: Given the structure of the Canadian economy (see
para 5) Embassy would not be surprised if the government's
relatively rosy projections do not face at least some downward
revision in coming months. End comment.


© Scoop Media

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