by Mostafa Askari
In this note we provide an analysis of Canada’s actual and expected fiscal performance in two decades: 2014-15 to 2023-24 under the Liberal government (assuming it gets re-elected in October 2019) and 2005-6 to 2014-15 under the Conservative government. We will explore whether governments during those two periods designed their fiscal policies to address fundamental economic challenges facing the country or were driven by electoral politics and short-term economic developments.
Since the 2015 election and the first budget of the current government, economists and other commentators have been discussing the fiscal strategy of the Government. In its 2015 election platform the Liberal Party argued that the weak economy and funding gaps in certain areas like children benefits, indigenous population, defense and infrastructure require government “investment” and, if elected, a Liberal government would deficit finance those “investments”. But, the Government also committed to ensure that the resulting rise in the public debt would remain lower than the increase in the size of the economy. That is, the debt to GDP ratio would remain on a downward path.
The Liberal Government has since tabled four budgets. Every budget has shown a budget deficit for every year of the outlook but in all cases the deficit is expected to decline over time and the debt to GDP ratio is expected to fall slowly.
Some commentators and the opposition parties have called this strategy irresponsible. We have seen comments like “the Government is spending like drunken sailors”; “the Government is burdening our children with a lot of debt”; “the Government has left no room to deal with economic shocks”.
The Government, however, maintains that there are social and economic needs, particularly for low income and disadvantaged groups, that require more spending.
The Liberal Government’s first budget in 2016 was based on its election platform that promised spending and tax measures to help “the middle class”, seniors and the Indigenous Peoples. It also included an ambitious infrastructure investment plan, aiming to stimulate the economy in the short run and facilitate economic activity in the medium term to boost productivity. The projected budget deficit in the 2016 Budget was somewhat larger than what the Liberal platform had estimated but the debt to GDP ratio was projected to decline over the projection period.
While the 2016 Budget appeared to be addressing the underlying challenges of the Canadian economy the following three budgets including the 2019 Budget used up any fiscal room created by actual economic developments or changes in the revenue and spending outlook. It has been clear that the Government is satisfied with holding the line on the deficit track and spread the fiscal gains among all demographics. The following graph shows that actual and projected program spending and revenues grow essentially at the same rate from 2014-15 to 2023-24, supporting the view that the Government strategy is to show roughly the same deficit track that it started with in 2016.
A review of the last three budgets of the Liberal Government also shows that the Government has had no intention of revisiting its policy strategy despite the changes in the economic context and the fact that the infrastructure investment policy does not appear to have achieved its objectives so far. Due to lapses and the sub-nationals’ strategy to substitute the federal funding for infrastructure for their own planned spending, the national level of infrastructure investment has been much lower than what the initial plan envisaged (see PBO’s report: Infrastructure Update: Investments in Provinces and Municipalities.)
In 2006 the Conservative Party of Canada won the election. The Government inherited a strong economy with a healthy fiscal situation. The federal Government had been running budget surpluses for the previous 8 years. The new Government had a plan (Advantage Canada) to reduce taxes, reduce regulations, control government spending and eliminate the net debt in less than one generation. As a result, the 2006 Budget showed expected budget surpluses much lower than previous years as the Government used up most of the potential surpluses for implementing its plan.
The following two budgets in 2007 and 2008 generally followed the same strategy of reducing taxes and paying down the debt although in 2008 the Government acknowledged that there were economic uncertainties due to turmoil in financial markets driven mostly by significant downturn in the U.S. housing market. The response of the Canadian government was to introduce further tax reductions in the 2008 Budget.
By the fall of 2008, it was clear that the global economy was about to experience a significant slow-down in growth with recessions in most industrial countries. This forced the Government of Canada off its policy path, culminating in a fiscal plan in the 2009 Budget that significantly raised government spending to stimulate the economy in the face of a severe recession. For the first time in 10 years the Budget 2009 fiscal outlook showed budget deficits. The Government expected deficits from 2008-9 to 2012-2013, peaking at 2.2% of GDP in 2009-10. By the time the 2010 Budget was tabled the budget deficit in 2009-10 had ballooned to close to $54 billion (3.5% of GDP). The Government, however, announced in the 2010 Budget a plan to return to balanced budgets.
The plan involved an “exit strategy” that would end the stimulus measures that had been introduced in 2009 and a review of all departmental expenses. The latter led to significant spending cuts in the departmental budgets in 2012. The plan to return to balanced budgets was based on the belief that a balanced budget has short and long-term economic and social benefits. Although the Government got close to a balanced budget in 2014-15, the austerity measures slowed the pace of the economic recovery in the short run. By 2015, real GDP was still below its potential level, seven years after the 2008 financial crisis.
An examination of program spending and revenues over the period 2005-06 to 2014-15 shows that program spending increased by over 40% and revenues increased by much less partly due to tax cuts and partly due to the severe recession in 2009 (Chart 2).
- Both the Liberal Government in the current decade and the Conservative government in the earlier decade introduced significant economic and fiscal measures in their first budgets. The Conservative government focussed on tax cuts while the Liberal government targeted income inequality and environment. Both governments enhanced infrastructure spending to boost productivity. But, beyond the first budgets, both governments followed a strategy to hold the line on the budget balance track and use any fiscal room to hand out benefits to the full spectrum of demographics. The Conservative government focussed mostly on targeted tax credits while the Liberal government seems to prefer targeted spending increases.
- The Conservative government targeted a surplus or a balanced budget to be able to pay down the debt whereas the Liberal government targeted a declining deficit and debt to GDP ratio. Both were successful in achieving their targets. The recession in 2008-09 moved the Conservative government away from its path temporarily but it managed to return to it by 2014-15. The Liberal government, on the other hand, has been very consistent in holding the line on the deficit and the debt to GDP tracks.
- Comparing Charts 1 and 2 may leave the impression that the fiscal policy in the current decade is more disciplined than the fiscal policy in the earlier decade. However, if one were to look through the impact of the severe recession in 2008-09, the tax and spending profiles would be very similar. Any difference would be due to the fact that the Conservative government started the decade with a relatively large structural surplus it inherited from the previous government, spent it before the 2008-09 financial crisis and ended up with a small structural deficit in 2014-15. On the other hand, the Liberal government started the decade with a small structural deficit it inherited from the previous government and is expected to see a slightly higher structural deficit in 2023-24. There is no evidence that one strategy is superior to the other in terms of improving the welfare of Canadians.
 Initially the Government recorded a surplus of $1.9 billion in 2014-15 but in 2018, following a recommendation from the Auditor General, the Government of Canada modified the accounting rules for recording the Government’s liabilities for pensions and other benefits of the federal government employees. This led to a restatement of government expenses in the previous years. As a result, the surplus of $1.9 billion in 2014-15 was changed to a deficit of 0.5 billion.