Faced with an unprecedented economic storm, Ottawa is abandoning – at least for the summer – the fiscal anchor that it has used to reassure Canadians and markets about its long-term goals for public debt.
The limited fiscal update delivered by Finance Minister Bill Morneau on Wednesday was noteworthy for many of the numbers it disclosed: a $343.2-billion deficit, and debt set to climb above $1-trillion. But one important number was missing. There was no mention of the Liberals’ fiscal anchor of pushing the ratio of debt to GDP below 30 per cent, a goal meant to be less rigid than the Conservatives’ balanced-budget orthodoxy while still setting a target for the government.
Under the Liberals’ fiscal anchor, the government could run deficits indefinitely, so long as the economy grew fast enough to keep those debts manageable, around 30 per cent of Canada’s gross domestic product.
Of course, with this year’s record-setting deficit, Ottawa is already far adrift from that anchor, and likely headed farther away still if there is significant new spending to boost economic recovery, and if deficits persist in the next few years. Many economists believe the first is a necessity and the second a certainty.
But Mr. Morneau is, so far, declining to set any new goal. Canada’s Finance Minister has cut away his anchor. Speaking to reporters on Wednesday, he defended the omission of a fiscal anchor, at least in the short term, saying his current focus is on “people and jobs.”
“We will, of course, be intending to, to talk more about what the path forward is in the fall when we have more information,” Mr. Morneau said.
“Right now, we’re very focused on how we can ensure that we continue the investments necessary to get people back to work so that we have a strong economy, so that we have good jobs, so that we will be able to have the, the right approach to managing our economy over the long term.” He added that the government is taking steps to limit the cost of the federal debt.
But the lack of visibility is already raising concerns in markets. In a research report released Thursday, the Bank of America noted that the debt-to-GDP ratio will be a key consideration by agencies in assessing Canada’s credit rating, after a downgrade by Fitch Ratings in late June. (Fitch said its chief concern was the gross national debt, which includes amounts owed by the provinces.) “The key to avoid further downgrades lies in stabilizing debt-to-GDP dynamics,” the Bank of America note said.
That stability could come in three ways. The easiest path for the government would be a sharp V-shaped recovery that restores the economy back to where it was before the coronavirus hit. Barring that eventuality – one discounted by many private-sector forecasts – Ottawa could choose to dramatically reduce spending or, alternatively, raise taxes significantly.
Mr. Morneau hinted this week that new spending is on the way this fall; asked about raising taxes, he said that would be “exactly the wrong response.”
The federal government could spend significantly to stabilize the economy, and then gradually withdraw its emergency spending and stimulus as consumer and business spending strengthens. In that scenario, Ottawa could still stabilize its debt-to-GDP ratio, but at a much higher level.
If that is Mr. Morneau’s plan, he isn’t saying.
For Alexandre Laurin of the C.D. Howe Institute, the lack of a fiscal anchor is not only a concern, but an indication that the government also lacks a robust plan for stabilizing Canada’s finances. Providing that reassurance to investors, and taxpayers, is critical when the government is amassing so much debt so quickly, he said. “Confidence is key.”
However, the Liberal government’s track record on delivering on its fiscal goals is spotty. During the 2015 election, the party ran on a platform of limited deficits, and a return to a budget surplus in 2019-20. During the campaign, Liberal candidate and former finance minister Ralph Goodale also talked about the importance of the debt-to-GDP ratio as a fiscal anchor, saying it would “be going down every single year” if his party won the election.
Neither happened. By February, 2016, the goal of temporary and modest deficits was scrapped. Instead of a surplus in 2019-20, the Liberals were forecasting a $26.6-billion deficit, before the onslaught of the coronavirus in March. As for a continually declining debt-to-GDP ratio, that did not materialize. In the last full year of the Conservative government, the 2014-15 fiscal year, that ratio stood at 31.5 per cent. It rose in the next two years, peaking at 32.2 per cent in 2016-17.
Strong economic growth (which the Liberals say was amplified by their deficit spending) did push down that ratio in subsequent years. In 2018-19, net federal debt accounted for 30.8 per cent of GDP, lower than what they had inherited and fulfilling Mr. Morneau’s 2016 promise to reduce that ratio over a five-year period.
However, the Liberals continued to shift their goalposts, as recently as last December. In the budget delivered in March, 2019, Mr. Morneau set out goals for debt declining as a percentage of GDP through to the middle of the decade. By December, he had relaxed those goals so that the debt would be proportionately bigger through to 2023-24.
David Macdonald, senior economist at the Canadian Centre for Policy Alternatives, said the government should focus on restoring economic growth and employment. Deficits aren’t a significant concern, so long as the resulting debt is denominated in Canadian dollars and does not spark inflation, he said.
As for the lack of a fiscal anchor, he said he was glad to note its absence. “Thankfully, the government wasn’t committed to it.”
Tax and Spend is a weekly series that examines the intricacies and oddities of taxation and government spending.
Your time is valuable. Have the Top Business Headlines newsletter conveniently delivered to your inbox in the morning or evening. Sign up today.