Question

Please list the monetary and fiscal policy that Canada has taken to overcome the negative impacts of COVID 19 on the macroeconomy. Choose one specific monetary policy and one special fiscal policy to analyze their effects on interest rate, output, the price level, and the unemployment rate in the short run and in the medium run in Canada, respectively.

Answer 1

Fiscal policy measures :

1) $3.175 (0.1% of GDP) to health system

2) $105 billion (4.6% of GDP ) in direct aid to household and firms ( for funds like wage subsidies and payments to workers without sick leave etc )

3) $85 billion ( 3.7% of GDP ) in liquidity support through tax deferrals

Liquidity support can have effects which are similar to monetary easing like an increase in money supply in the short run. Due to this interest rates will fall causing output to increase due to increased lending and investment activities.This should have lead higher economic growth and reduced unemployment under normal circumstances. But since many production activities are either closed or limited due to the coronavirus pandemic such benefits are rare to imagine. However it would also lead to inflationary pressure in the medium run on the economy.

Monetary policy measures :

1) Reduction of policy rate by 150 bps in March ( to 0.25%)

2) Extension of the bond buyback program across all maturities

3) Expanding the list of eligible collateral for term repo operations to the full range of eligible collateral for the standing liquidity facility except non-mortgage loan portfolio.

The most important tool for any country is the policy rate. Lowering the policy rate is expected to provide support to the Canadian financial system and the economy during this crisis. Lowering the interest rate will cushion the impact of the shocks by easing the cost of borrowing. This will also help in keeping the credit available to people and firms. If the transmission process is to work during the pandemic then the rate cut is most likely to boost economic growth and output in the short run and increase employment. Lower interest rate means rising prices in the medium run. In fact one of the motives behing changing interest rate by central banks is to manage inflation. However what is needed in the short run is that liquidity is maintained in the economy and buisnesses keep on going so that the economy may withstand the aftermath of the criris.