By Julie Gordon
OTTAWA (Reuters) -Interest rate hikes in the second half of 2022 will dampen the effect of Canada's planned stimulus spending, leading to lower-than-forecast economic growth in the medium term, the country's budgetary watchdog said on Thursday.
In a review of Canada's 2021 budget, Parliamentary Budget Officer Yves Giroux said he now expects interest rates to rise by 50 basis points in 2022 as the Bank of Canada responds to stronger economic activity and higher inflation.
"Higher interest rates will dampen the stimulative impact of Budget 2021 measures. This means that government revenues will not increase to their full extent," said Giroux, in a statement.
"The cost of servicing the Government's existing debt will also be higher," he added.
Canadian Prime Minister Justin Trudeau's Liberals last month outlined a three-year, C$101.4 billion ($84.1 billion) stimulus plan as part of their first budget in more than two years, saying the expenditure would boost growth sharply in the near-term.
The budget forecasts real GDP growth of 5.8% this year, dropping to 1.8% in 2025. By contrast, the PBO expects real GDP growth of 6.2% in 2021, falling to 1.4% by 2025. The debt-to-GDP ratio in both forecasts is 49.2% by fiscal 2025/26.
"Our fiscal plan is prudent and responsible. Canada had the lowest net debt-to-GDP ratio in the G7 entering this global crisis and we maintain that position today," said Katherine Cuplinskas, spokeswoman for Finance Minister Chrystia Freeland.
She added that the financial assumptions used by the Finance Department in the budget are the averages of private sector economists, ensuring projections are "entirely objective."
The Bank of Canada in late April signaled a shift in its guidance on rate hikes, saying economic slack would now be absorbed in the second half of 2022 rather than into 2023. The budget had already been released.
($1 = 1.2063 Canadian dollars)