Are the Liberals repeating the mistakes of the past by betting on healthy economic growth?
The Liberals’ approach to reducing the debt burden caused by the pandemic has been a very slow one that relies on economic growth exceeding interest rates over a long period of decades and allowing for large and permanent budget deficits.
This philosophy was laid out in this week’s fall economic statement, where the Liberals – handed over a $ 126.9 billion tax cushion through higher revenues and lower program spending – chose to spend the majority rather than aggressively reducing deficits. The main measure of Canada’s debt burden, the ratio of net debt to gross domestic product, is now expected to decline slightly faster than forecast in the spring budget. But only slightly.
As shown in the chart below, the government is forecasting a steady, but unhurried decline in the debt-to-GDP ratio over the second half of this decade, a projection that would still leave the debt burden close to 13 percentage points higher than before the pandemic.
According to the forecast in the spring budget, it would not be until at least the middle of the century that the debt burden would be reduced to pre-pandemic levels. As this second chart shows, without measures to galvanize economic growth, debt levels would still be high by 2056. But with spending on child care and other initiatives, according to the Liberals, growth will accelerate as the relative size of debt decreases further. quickly. All of this without having to cut spending or raise taxes.
One caveat: The spring projections do not take into account the improved earnings outlook unveiled this week. But they also do not include new spending since then, nor the tens of billions of additional dollars the Liberals pledged in the recent election campaign.
Even the relatively slow budget debt reduction hinges on a host of favorable assumptions: no new disasters, lower interest rates, slower than Liberal growth in program spending. and a sharp increase in annual productivity growth that would stimulate economic growth.
Much of the criticism of the Liberals’ approach, especially from opposition conservatives, has focused on the risk of rising interest rates and rising debt servicing costs.
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But a recent report from the Organization for Economic Co-operation and Development also highlights the other side of the equation. He predicts slow productivity growth over the next four decades, just over half of the level implied in Ottawa’s projections of a gentle and painless decline in the federal debt burden.
Economist Don Drummond, a former senior finance official, noted that Finance made overly optimistic assumptions about long-term productivity growth that were inconsistent with Canada’s recent economic performance to arrive at its forecast.
Canada will be the worst of the 38 OECD member countries this decade, with average real GDP growth of just 0.7%, noted David Williams, vice president of policy at the Business Council of British Columbia. Worse yet, the OECD also predicts that Canada will be at the bottom of the OECD pack between 2030 and 2060, with average real GDP growth just above 0.8%.
It’s a grim picture, made worse by forecasts of a decline in the capital stock per worker. Dr Williams says statistics indicate a serious problem with the investment climate in Canada. Even this forecast does not capture its full magnitude, as heavy investment and high productivity in the unconventional oil and gas sector skews any assessment of Canada’s economic performance.
The unconventional oil and gas sector, for example, adds $ 1,300 to Canada’s GDP for every hour worked, he says. The natural resources sector as a whole adds far less, $ 350 to GDP for every hour worked. In turn, this is much higher than for the economy as a whole, where one hour of work increases GDP by $ 54.
The unbalanced contribution of oil and gas has been a huge driver of Canada’s prosperity, says Dr. Williams. “These are the sectors that are paying the bills for Canada.
But will this continue to be the case as Ottawa moves to restrain growth in the sector and cap carbon emissions? Mr. Williams has doubts whether green jobs will come close to matching the productivity of the fossil fuel sector of the Canadian economy. Finance Minister Chrystia Freeland has brandished increased government funding for affordable child care as a game changer, comparing its potential effect to that of the North American Free Trade Agreement a generation ago.
Dr Williams disagrees and says, “This is a rounding-off error as a strategy for economic growth. “
University of Calgary economist Trevor Tombe has a less pessimistic view of the trajectory of the federal government’s debt burden, saying Ottawa can return to a pre-pandemic level of debt-to-GDP by 2034s ‘it is slowing the increase in spending to keep pace with inflation and population growth. . Yet, according to Professor Tombe, a more aggressive cut would be preferable in order to increase the federal government’s ability to absorb future economic shocks.
Drummond sees the same dangers as Williams in productivity trends, saying he fears Canada will repeat the same serious mistake that led to growing structural deficits in the 1970s through the 1990s. , a combination of external economic shocks and other factors reduced the healthy economic growth rates that Canada and other Western countries enjoyed in the post-World War II period.
Policymakers continued to assume that the deceleration in growth was, to borrow a phrase, transient. It was not.
It was not until the 1990s, when the Liberal government aggressively cut spending, that Ottawa accepted this economic reality. History may repeat itself, says Drummond. “I am concerned that we are going down permanently to another lower growth rate, and that this will not be recognized.”
Added to this burden are the costs of mitigating climate change and strengthening infrastructure against extreme weather conditions, he said. The federal government should be explicit in discussing these future costs and how they should be paid, including through tax hikes, Drummond said. “I think we have to be open to the fact that it could be a tough race. “
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