Droughts have multi-billion dollar impacts on the Canadian economy. How can the Bank of Canada predict the financial impacts of droughts before they happen so that they can take action?

Canada is water rich. It contains 7% of the world’s renewable freshwater. This water underpins resource-based economies, providing a critical input for agriculture, forestry, mining and other industries, and it provides countless ecosystem services upon which we rely to live. 

Despite this wealth, or perhaps because of its abundance, Canada’s economy is exposed to drought risks, with predictions that it will cause over $139 billion in financial losses over the next 30 years. Drought can affect various sectors directly and indirectly. These include: 

1. Agriculture: This is the sector most directly affected by drought. Reduced rainfall can lead to lower crop yields, which can affect farmers' income. In severe cases, drought may lead to total crop failure. Livestock production is also affected as grazing lands dry up and the cost of feed increases.
2. Water Supply: Municipalities may need to invest more in water treatment and infrastructure during drought conditions. For example, they may need to drill deeper wells, build new reservoirs, or invest in desalination technology.
3. Energy: Hydroelectric power, which constitutes a significant portion of Canada's electricity production, especially in provinces like British Columbia and Quebec, could be severely impacted by prolonged droughts. Reduced water levels can decrease the generation capacity of hydroelectric dams, leading to higher energy prices.
4. Forestry: Drought-stressed forests are more susceptible to pests, diseases and wildfires. The costs associated with fighting forest fires and managing forest health can be substantial. Additionally, timber yields could decline, affecting the logging industry and related businesses.
5. Insurance: As droughts become more frequent and severe due to climate change, insurance claims related to crop failure and other damages may rise. This could lead to higher insurance premiums, further burdening farmers and other businesses.
6. Tourism: Many regions in Canada rely heavily on tourism for outdoor activities such as fishing, boating and skiing. Prolonged drought can affect these activities, leading to decreased tourism revenue.
7. Food prices: Reduced agricultural output can lead to increased food prices, affecting consumers and potentially leading to inflation.
8. Indirect costs: Many small businesses in communities that rely heavily on agriculture can be affected when farmers have less to spend. Similarly, if energy costs rise, all businesses face increased operating costs.

These impacts can have ripple effects throughout the economy. For example, if farmers lose income, they have less to spend on equipment, which can affect manufacturing. Similarly, if energy prices rise, this can increase costs for businesses across the economy.

The Bank of Canada used SpatiaFi to see how Earth observation data can be used to understand and perform risk analyses around extreme events such as drought. By connecting economic assets to Earth observation data, the Bank of Canada is aiming to track and forecast the economic impacts of drought on the Canadian economy.  Current work is being done to 'operationalize' this work by leveraging future drought forecasts as an early warning system for economic hardships caused by drought events.

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