Recent economic performance and the outlook
With this, let me now turn to our recent economic performance and the outlook. I'll start with Nova Scotia's economy.The provincial economy has performed quite well over the medium term. From 1997 to 2002, real output grew by an average of more than 4 per cent—one of the best periods of economic growth in recent history. Housing activity has increased in recent years, and incomes have grown at, or above, the national trend.
Here in the Annapolis Valley, the unemployment rate has fallen significantly over the past decade and is now below the provincial average. At the same time, labour force participation rates have risen. More recently, however, Nova Scotia's economy has faced a number of challenges related to international events, national shocks such as SARS, and local issues such as difficult growing conditions for farmers. These shocks have taken their toll on the local economy. For example, exports and shipments have been weak of late—and this is expected to drag down the growth of provincial output this year.
But what is clear is that the economy, both here in Nova Scotia and nationally, has the foundation for sustained growth and is well positioned to weather the shocks that, from time to time, threaten to blow us off course.
To be sure, the Canadian economy continues to adjust to major global developments. These developments include a marked recovery in world economic growth and an associated increase in commodity prices; the growing global presence of major emerging-market economies, such as China and India; and a realignment of world currencies, including the Canadian dollar.
Canadian monetary policy is facilitating the necessary adjustments to these developments by aiming to keep inflation at its 2 per cent target and the economy operating near its production capacity.
On 21 October, we released our semi-annual Monetary Policy Report. I will spend the last few minutes of my presentation today summarizing the key messages of the Report.
The Canadian economy as a whole is currently close to its production capacity. Exports, household spending, and business investment all contributed to stronger growth in the first half of 2004 than we had anticipated earlier in the year.
As we said in the Report, the Bank expects that the economy will remain near its production capacity through to the end of 2006—growing by slightly less than 3 per cent in 2005, and by slightly more than 3 per cent in 2006. The current outlook is for a continued, although more moderate, expansion of exports—but also a pickup in imports—and continuing strong growth in domestic demand. Business investment is projected to strengthen further, and gains in real incomes should support consumer spending. Housing investment is expected to stabilize at current high levels.
We also said that, with the economy operating near its potential over the projection period, and with inflation expectations well anchored, we expect that core inflation—currently at 1.5 per cent—will move up to 2 per cent by the end of 2005 and stay there through 2006. Let me remind you that core inflation, which excludes eight highly volatile components of the CPI, provides a better measure of the underlying trend of inflation.
Movements in crude oil prices will continue to dominate the outlook for total CPI inflation. Given the path suggested by futures prices for crude oil as of 15 October, we said in the Report that we expect total CPI inflation to rise to the top of the 1 to 3 per cent target range in the first half of 2005, before falling below core inflation in early 2006.
The Bank's base-case projection takes into account the quarter-point increase in the target for the overnight rate on 19 October. It also assumes "further reduction of monetary stimulus over time to keep the economy near its production capacity and achieve the inflation target," with "the pace of interest rate increases depending on the Bank's continuing assessment of the prospects for factors that affect pressures on capacity and, hence, inflation."
There are, of course, significant risks and uncertainties around our projection. These risks are related to the ongoing adjustment to changes in the global economy, including changes in commodity prices and exchange rates. And they underscore the importance of the continuous monitoring that we carry out as a key part of the conduct of monetary policy, and of the regular updates that we provide on our assessment of economic developments. However, the single most important point to bear in mind about monetary policy is the Bank's unwavering commitment to our objective. That objective is to keep the economy on the smoothest possible track for solid, sustainable economic growth by keeping inflation low, stable, and predictable.
