Skip to main content
expert's podium

For years, Bob Farrell ranked among Wall Street's most influential voices. As Merrill Lynch chief market strategist from 1967 to 1992, he formulated 10 market rules that are still essential reading for new entrants to the investment industry.

Number nine on his list: "When all the experts and forecasts agree, something else is going to happen."

Coming out of the G8 and G20 meetings, there was near universal agreement on the need for developed economies to tackle deficits.

There's been lots of attention to the impact on anyone relying on government spending - less attention has been paid to the negative implications for growth in economies and stock markets.

Ken Rogoff's view

In March, the International Monetary Fund issued a warning about debt levels in the world's advanced economies. This year, the ratio of debt to gross domestic product in the United States, Japan and Europe is forecast to reach the same level as was seen in 1950; even with a reduction in fiscal stimulus programs, that ratio is expected to reach 110 per cent by the end of 2014, up from 75 per cent in 2007.

This poses big problems. While attending a meeting in Boston in May, I spent an hour with Harvard's Ken Rogoff, former chief economist of the IMF and co-author of This Time is Different: Eight Centuries of Financial Folly.

Based on eight years of research and starting with the collapse of the Italian banking system in 1340, he found that financial crises and recoveries follow a highly predictable pattern. Often caused by a collapse in housing markets, the ensuing debt and elevated unemployment levels from financial crises take years to resolve.

And once government debt reaches today's levels, two things happen.

First, there is a reduction in economic growth of about 1 per cent annually - a huge drag, representing one-third of the normal growth we expect.

And second, there is a wave of government defaults on debt. Prof. Rogoff pointed out that Greece has been in default for half its history as an independent country.

"It used to be that debt was seen as a problem for our children and grandchildren," he said. "It's not - it's our problem … and it will take years to work through."

Niall Ferguson's view

While in Boston, I also sat down with Harvard economic historian Niall Ferguson, noted for his book The Ascent of Money and for his " " prediction early on in the economic crisis.

He is remarkably pessimistic about most developed economies, with Canada a rare note of optimism. His view is that surging debt levels and a population in denial about the need for fundamental change in countries like the United Kingdom, the United States and Japan are a prescription for serious problems. Japan's woes are compounded by turmoil among its political leadership and an aging population that is especially resistant to reform.

The outlook for Canada

The IMF, Prof. Rogoff and Prof. Ferguson all point to Canada as much better positioned in terms of debt levels than other advanced economies.

There are cautionary voices, however. While attending a meeting of the Canadian Economics Association in Quebec City, I talked to Kevin Page, Parliamentary Budget Officer, who made headlines early this year with deficit forecasts that differed from those of Finance Minister Jim Flaherty and the Finance Department.

Mr. Page says that while we are certainly relatively better off, our absolute deficit level is still a concern. His near-term deficit forecasts aren't hugely different from those of Mr. Flaherty, but in the mid-term he projects a bigger deficit than the government - he doesn't believe that growth alone will skate our deficit onside.

In particular, he's concerned about the future impact of our own aging population - as boomers retire, we'll see reduced economic activity and tax levels and much higher social and health spending.

Mr. Page's analysis suggests that just balancing the federal budget in the mid-term won't be sufficient - to prepare for future pressures, we need to be running surpluses. To do that, we require some combination of lower spending and higher taxes; he believes that we've seen taxes drop too far, too fast, without reduced spending to compensate.

Two alternative conclusions

It's worth noting that there are scattered voices of dissent on this issue. In January, I spoke to Princeton economist and Nobel Prize winner Paul Krugman, who saw U.S. deficit concerns as overblown and advocated another round of fiscal stimulus. Last week, his New York Times column reiterated this view.

Prof. Krugman's dismissal of the magnitude of this problem is an exception, which leads to one of two conclusions.

If you accept Bob Farrell's premise that unanimity means something else will happen, you might conclude that we'll grow our way out of the debt problem and that concerns on this are, in fact, out of proportion.

Alternatively, and a more likely outcome, problematic deficits and debt levels will be with us for many years to come and, for the foreseeable future, will shape public policy and depress growth in the global economy and in stock markets.

Follow related authors and topics

Authors and topics you follow will be added to your personal news feed in Following.

Interact with The Globe