TD Economics Quarterly Economic Forecast – COVID-19, Vaccines, Knowns & Unknowns

On December 15, TD Economics published its Quarterly Economic Forecast, entitled 'COVID-19, Vaccines, Knowns & Unknowns.' This edition of the Forecast is written in a Q&A format to address those questions most relevant to the economic outlook, starting with the impact of the recent surge in the virus and developments on the vaccine front. The full report, which can be found here, also delves into issues on the geopolitical front – China’s performance through the pandemic, the looming risk of no deal between the UK and EU, and the potential impact of a Biden presidency on the economic outlook. Below is a selection of questions from the report. 


By Beata Caranci
Senior Vice President and Chief Economist
TD Bank Group

Will the worsening second wave set back Canada’s recovery? 

Even though caseloads and hospitalization rates per capita in Canada have not matched that of the U.S., provincial governments have been pressing ahead with more impactful restrictions since October relative to their U.S. counterparts. Still, these measures fall well short of the widespread lockdowns implemented in the spring. 

Quebec closed high-touch businesses such as bars, casinos, cinemas and dine-in restaurants in large municipalities through the month of October and into January. Ontario has moved virus hotspots of Toronto, Peel, York and Windsor-Essex into lockdown stage for a minimum of 28 days. This move extends previously-announced restrictions (i.e., closures of indoor dining) to non-essential retailing activities, though schools remain open. Alberta joined the list recently, imposing province-wide closures of similar businesses for at least four weeks. 

These restrictions are expected to have a dampening effect on near-term activity and employment. Indeed, impacts are already showing up in higher frequency economic data. Weekly TD Spend data show a drop off in spending activity in provinces with the toughest restrictions 

In terms of GDP, the second wave of the virus and related restrictions could shave at least a full percentage point (annualized) from Canadian fourth quarter GDP growth. Still, similar to the U.S. story, a stronger hand-off from September than we had anticipated would still leave Canadian growth running at 2.6% (annualized), above our September forecast. 

It’s important to keep in mind that, unlike the spring, the industries most impacted by the policy adjustments were already operating at significantly reduced capacity. The impact on growth, therefore, becomes more restrained relative to the prior experience given the lower starting point. And, other industries are in a better position today to push against the tide, such as professional services, and education. 

Given the concentration of lockdowns at the tail end of the year, we expect peak impact on real GDP to be felt in the first quarter of 2021. This still imbeds a gradual relaxation of restrictions and acceleration in economic activity as the quarter progresses. However, cold winter weather will hold back businesses, especially in food and accommodation services from operating at much higher capacity. It will take a wider availability of the vaccine, which we expect will occur in the second quarter, to provide a boost to consumer and business confidence, and drive economic activity. 

Another development that has added to the Canadian growth outlook in 2021 and beyond are the plans by the federal government to keep the fiscal spigots wide open. In its recent Fiscal Statement, the federal government announced some $25-billion in measures, including an expansion in the wage subsidy and support for hard hit industries. In addition, there are plans for $70-billion to $100-billion of additional stimulus spending over the next three years as the economy recovers, though details at this stage are scarce. 

We expect solid growth through the remainder of 2021, to make up the near-term pain from tighter restrictions and higher caseloads. 

What does the possibility of an earlier vaccine mean for the outlook? 

There have been notable positive developments on the vaccine front. There are more than 200 vaccine candidates under investigation, with 13 in the final stage of trials. Two of those vaccines – Pfizer/BioNtech and Moderna – have been found to be 95% effective. The Pfizer vaccine has already been made available and the Moderna vaccine could be made available as soon as next week. 

With light at the end of the tunnel, high-touch consumer-facing service sectors like restaurants, malls and travel stand to benefit the most from the wide distribution of the vaccine. This likely does not require a herd immunity threshold to be met across the general population. Health risks would fall materially should the vaccine distribution be targeted at the most vulnerable portion of the population. Any subsequent relaxation in government restrictions perceived as permanent then offers the foundation for stronger business investment and hiring. As an example, in Canada, the flu shot had a 42% take-up rate in 2019, which was significantly higher than the prior two years. However, those over 65 years of age showed a 70% take-up rate. 

Accordingly, we have adjusted our baseline forecast to ‘pull forward’ the timing of widespread vaccine distribution to the spring. This is roughly one quarter earlier than our prior assumption and offsets some of the negative near-term economic scarring impact that would occur under the recent surge in cases. The pull-forward of our vaccine assumption into the second quarter is expected to lift the outlook for annual average real GDP growth in the U.S. and Canada in 2021 by around 0.5 percentage points. 

We must remain humble and cautious in this assumption. Several countries are already beginning to roll out the vaccine, but the exact timing of distribution remains uncertain and logistical challenges create another unprecedented moment. The Pfizer and Moderna vaccines come with stringent storage requirements. These challenges are surmountable within advanced economies (AEs), but are a greater barrier for emerging markets with weak infrastructure and logistics. On the plus side, a third vaccine developed by Oxford Astra-Zeneca can be kept at refrigerator temperature, which would make it easier to transport globally. 

Still, most emerging markets (Ems) simply cannot afford the vaccine. The high price tag means that vaccines are mostly accessible to AEs that have already pre-ordered billions of doses. “Vaccine nationalism” poses another hurdle for the global economy, which could leave EMs without a vaccine for a considerable amount of time and further diverge the fortunes between AE and EM recoveries. Even within AEs, access will depend on several factors including approval by national drug authorities, logistical capabilities and manufacturing/trial locations. 

The positive vaccine announcements have been cheered by financial markets with equities rallying and fixed income selling off on the news. Compared to just a few months ago, expectations for the fed funds rate 10 years from now have risen by approximately 40 basis points, to 0.7%. Even after the recent rise in bond yields, market pricing may still be too dovish. The eventual return to higher policy rates (though a number of years away) is likely to be faster than current market pricing implies. Should market pricing for the federal funds rate move to a policy path that aligns with ours (first increase in 2024), the UST 10-year yield should move toward 1.5% by the end of next year. 

What are the potential impacts of the U.S. election result on Canada? 

Trade relations, which have been increasingly fraught over the last four years, will likely ease. However, trade protectionism remains popular among Americans and the Democratic party, and while Biden appears more likely to avoid punitive tariffs, “Buy American” provisions and other potential irritants may well continue. 

President-Elect Biden campaigned on raising the corporate income tax from 21% to 28%. If Republicans hold onto the Senate this will likely be off the table, which would mean that Canada will continue to have a higher combined federal-provincial corporate income tax rate at around 27%. This could remain a competitive disadvantage for Canada, but history suggests that there is more behind corporate investment decisions than just the tax rate. In the 2014 through 2017 period, just prior to the Tax Cuts and Jobs Act implementation, Canada had a much lower corporate tax rate and still lagged the U.S. in terms of growth in business investment, both total and ex-oil and gas. 

The environmental priorities of the new administration could go a longer way in impacting competitiveness than the tax rates alone. Downside risks are elevated to Canada’s energy sector, most notably the cancelation of the Keystone XL permit. 

Still, there may be opportunities elsewhere. Canada’s carbon tax and other climate-change mitigating policies should be greeted positively by the new administration and may create opportunities in investments in green energy. For example, Ford motor company is investing $US1.35 billion to transform its Oakville Assembly Complex to include battery-electric vehicles (BEV) in 2024. 

Perhaps less tangible but still important, the volatile nature of policymaking, a staple of the past administration, will give way to a more traditional approach. This should bring more certainty to the path of future policies, which could incent Canadian businesses to proceed with investments they may have otherwise delayed. 

How has the economic recovery differed in the U.S. and Canada? 

While both Canada and the U.S. economy were hit hard in the early stages of the pandemic, they have been on different paths since. The U.S. has performed better on measures of output and sales, but Canada has fared better when it comes to the job market. Canada’s economy had a deeper contraction in the first half of 2020, and a sharper early rebound in the third quarter. But on net, Canada is still a bit worse off relative to year ago levels when it comes to real GDP, which is down 5.2% in contrast to 2.9% in the U.S. 

In contrast, Canada significantly outshines when it comes to the labour market. It has regained over 80% of the jobs lost during March and April by November, versus roughly 65% in the U.S. 

Canada has also regained a greater share of full-time employment and Canadian women have also fared better in regaining jobs. Some might find it surprising that the labour force participation rate for core-age women in Canada is now above the February level. Whereas in the U.S. it is still two percentage points below that watermark. Canada outperforms the U.S. in male labour market participation as well, though the rate is still below its pre-crisis level in both countries. 

Despite Canada’s labour market recovery outpacing the U.S. across multiple dimensions, the U.S. unemployment rate has declined faster. From April to November, the U.S. unemployment rate fell by over eight percentage points, to 6.7%, whereas Canada’s has fallen by just over five percentage points (since peaking in May). However, this contrast in underlying dynamics is a reminder that the U.S. unemployment rate overstates the strength of the job market. The labour force has four million workers less than February’s level, indicating people have either given up looking for work, or are unable to work for other reason (such as caregiving etc). 

As we have written, there are many factors that have likely contributed to Canada’s labour market outperformance. Relative success in controlling the spread of COVID-19 allowed for a sturdier recovery during the summer months, while stronger labour market policies such as paid vacation and up to 26 weeks of unpaid leave for employees impacted by COVID-19, kept Canadians engaged with their employer through the pandemic. Finally, substantial government support boosted employment in the public sector, while the U.S. has been cutting more than a quarter million jobs in the critical area of education through the recovery. Better control of the pandemic enabled most Canadian school boards to return to in-person learning in the fall, whereas 36 of the U.S.’s 75 largest school districts did not, and many more have since reversed course. All of these factors in combination likely contribute to some parents being unable to return to their jobs full time. 

Looking ahead, Canada should maintain its lead over the U.S. on job growth, although tougher new restrictions north of the border could narrow the outperformance. Income support programs such as expanded employment insurance and the Canada Recovery Benefit along with others on the business side (Canada Emergency Rent Subsidy), should help underpin an employment recovery in Canada. The U.S. may not see similar support in the short run, while budget restrictions at the state and local level will continue to hold back the U.S. recovery. 

Contributing authors: Beata Caranci, Derek Burleton, James Marple, Sohaib Shahid, Leslie Preston, Sri Thanabalasingam.

To read the rest of the Quarterly Economic Forecast, please visit TD Economics.

Beata Caranci

Senior Vice President and Chief Economist

TD Bank Group