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The Globe and Mail's Ottawa Bureau Chief, John Ibbitson. (For The Globe and Mail/Brigitte Bouvier)
The Globe and Mail's Ottawa Bureau Chief, John Ibbitson. (For The Globe and Mail/Brigitte Bouvier)

EURO ZONE

Why Germany shuns Canada’s debt model Add to ...

Angela Merkel may be thinking about the Canadian example right now, and not in a good way.

The German Chancellor will be in Canada on Wednesday and Thursday for talks with Prime Minister Stephen Harper about a proposed Canada-European Union free trade agreement. They will also, of course, discuss the state of things in Europe. That is where the unhappy Canadian precedent comes in.

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Many observers expect the chronic European debt crisis to become acute this fall. Push could come to shoved-out-of-the-euro for Greece. Spain and Portugal are also increasingly insolvent. Ireland continues to struggle, and Italy can’t meet its deficit-reduction targets because of a worsening recession.

To prevent a possible collapse of the euro zone, a growing number of European economists and politicians are calling for the mutualization of debt. In essence, at least some of the debt of the nations in the euro zone would be pooled, with the richer countries guaranteeing the loans and helping to pay them down.

Ms. Merkel is strongly resisting the idea, and with good reason. Germany and other northern European “have” states could end up bleeding money year after year to “have not” states in southern Europe. The euro zone could become, in effect, a mirror image of Canadian federalism, with the Mediterranean playing the role of Quebec and the Maritimes.

The various rescue packages that have been put together to solve the crisis, however ineffective they might be, at least come with conditions. In exchange for loans and guarantees, indebted governments are expected to balance their budgets by cutting social programs, laying off public-sector workers, and loosening regulations in order to encourage private enterprise.

By mutualizing debt, the conditions attached to the loans could be weakened or disappear. Countries such as Germany that keep their entitlements in line with tax revenues would annually subsidize governments that spend money on things they can’t afford.

Much the same thing happens in Canada. It’s called equalization. The federal government sends transfers to poorer provincial governments, which spend the money on social programs that would otherwise be beyond their means. Some of those programs – such as Quebec’s daycare and tuition subsidies – are more generous than programs in provinces that don’t qualify for transfers. This is exactly what German taxpayers are warning Ms. Merkel they won’t put up with.

And once debt is pooled, entitlements become pooled as well. Everyone in the euro zone would come to expect certain basic levels of heath care, education and other social services, whether or not they could pay for them, just as Canada’s Constitution guarantees a similar basic level of services across the country.

The Economist warns of exactly such a danger in this week’s issue. “A transfer union across the existing single currency zone based on the Canadian model would seek to make governments’ revenues more equal,” its writers predict. They estimate such a system would cost Germany the equivalent of 3 per cent of GDP annually.

Sounds about right. Ontario loses an estimated 2 per cent of its GDP each year in transfers to other provinces, according to a recent Ontario government report, while Alberta pays considerably more.

But no one has the power to compel have-not provinces to balance their budgets and trim their spending or face a cut-off in transfers. Only the governments themselves and the bond-rating agencies that assess their lending risk have any real say.

Quebec’s debt currently sits at about 55 per cent of the province’s gross domestic product. If Parti Québécois Leader Pauline Marois had her way and Quebec became an independent nation, assuming along the way its share of the national debt, the new country would start life with a debt-to-GDP ratio of just under 100 per cent, instantly making it one of the world’s most indebted countries.

No wonder Ms. Merkel shuns the notion of mutualization of debt. It’s too reminiscent of one Canadian example other countries might wish to avoid.

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