Parliament's budget watchdog predicts the Canadian economy could contract by a staggering 25 per cent in the second quarter of this year, while the annual budget deficit could top $112.7 billion by the fiscal year's end.

That prediction is part of the Parliamentary Budget Officer's most recent report, which looks at the economic impacts of the global pandemic and recent oil price shocks.

The PBO said that outlook is based on the assumption that social distancing directives to stop the spread of COVID-19 will remain in effect through August, and there will be no further global oil price shocks.

"We stress that this scenario is not a forecast of the most likely outcome," the report says. "It is an illustrative scenario of one possible outcome."

The report predicts the economy will shrink by 5.1 per cent in 2020-21, beginning with a 2.5 per cent decline in the first quarter, a decline of 25 per cent in the second quarter and a further decline of 1.4 per cent in the third quarter before a rebound in the last three months of the year, with growth of 3.8 per cent.

The decrease in the second quarter, the PBO said, is three times Canada's greatest previous quarterly contraction of 8.7 per cent — which took place in the first quarter of 2009, during the global financial crisis.

The report also predicts that unemployment will rise to 15 per cent by the third quarter of 2020.

The PBO said that as things stand now, the budget deficit for 2019-20 would be $26.7 billion ($5.5 billion higher than initially predicted) and $112.7 billion for 2020-21, or 5.2 per cent of GDP ($89.5 billion more than predicted).

"To put this in perspective, the last time the budgetary deficit was near 5.2 per cent of GDP was in 1993-94," the report said.

Debt-to-GDP ratio

The federal government has said repeatedly that despite deficit spending over the past few years, Canada has a healthy debt-to-GDP radio. The increase in the deficit and the drop in government revenues will push that federal debt-to-GDP radio to 38.1 per cent in 2020-21.

The last time the debt-to-GDP radio was that high was in 2003-04, but the report stresses that the ratio is much better than it was in 1995-96, when it was 66.6 per cent.

"While additional fiscal measures will likely be required to support the economy in the coming months, the government's balance sheet prior to these shocks was healthy," the report said.

"However, even after additional support measures are provided, fiscal stimulus measures may be required to ensure that the economy reaches lift-off speed, especially if consumer and business behaviour does not quickly revert back to 'normal' conditions."

The report said that the Canadian economy tends to recover slowly from shocks and that the return to growth should begin in the third quarter and climb slowly upwards from there.

The report says, however, that projections for a return to growth in the third and fourth quarters of the year are based on the assumption that social distancing efforts will be able to flatten or plank the curve on new cases of COVID-19.

"Of course, this is purely conjecture on our part, given the extreme uncertainty surrounding the pandemic and the impact of measures required to contain it."