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One of the biggest lessons of the COVID-19 pandemic has been that in a major crisis, government needs economic policy actions that are big, broad and, most of all, fast. Before the current crisis has even worked its way to a conclusion, policy researchers are already kicking around ideas on how Ottawa could better deliver stimulus next time our economy plunges into recession.

Queen’s University professors Robin Boadway and Thorsten Koeppl argue that we already have just the thing for the job: the goods and services tax.

In a paper published last week by economic policy think tank C.D. Howe Institute, the two economists make the case for adopting a rules-based system that would automatically cut the GST rate when the economy goes into recession, and increase the rate when the economy is booming, to recoup the lost revenue.

Doing so would convert the GST from a reliable and stable revenue source into something considerably more: the primary lever to lean fiscal policy against the extremes of the economic cycle, providing stimulus in bad times and withdrawing it in good. Dr. Boadway and Dr. Koeppl call it a “demand stabilization mechanism.”

The GST, which turned 30 years old this year, has garnered a lot of attention from policy experts in the past year and a half, as they debate fiscal options to see our way through a postpandemic recovery. Some have floated the idea of a temporary increase to the GST rate as a means to start paying off the more than $400-billion of debt that the government has incurred in its pandemic fight. Others have gone in the other direction, advocating a temporary GST cut to help accelerate the recovery.

One clear attraction is the immediacy of GST changes. The policy tool that we have traditionally leaned on to cushion downturns and spur recoveries – interest rates, as set by the monetary authority, the Bank of Canada – comes with a long lag; by the central bank’s own reckoning, it takes up to two years for the full effect of a rate change to work its way through the economy. Unlike a new government support program, a GST change requires no new bureaucratic structure to be set up to implement it. Unlike an infrastructure plan, there’s no lag before you can get projects going and money flowing. It’s more or less instant – which, as we saw in the beginning of the COVID-19 crisis, is a very big thing.

The pandemic has exposed that our fiscal structure is sorely in need of more efficient and responsive “automatic stabilizers” – spending programs that by their nature expand when the economy slumps, thus instantly leaning against a downturn. It became clear at the beginning of the pandemic shutdowns that the biggest automatic stabilizer built into the system, the Employment Insurance program, was too slow and left too many workers uncovered to act as an effective cushion to such a deep and wide economic shock.

“We’ve known for a long time that [existing] automatic stabilizers are not very sensitive to the economy,” then-Bank of Canada governor Stephen Poloz said in the spring of 2020.

There are other options. The big one that has been kicked around is a guaranteed basic income – perhaps along the lines of a permanent version of the Canada Emergency Response Benefit, which served the purpose of a high-speed demand stabilizer at the peak of the pandemic. But such a program would represent a fundamental and highly politically charged overhaul of the country’s system of income support. A mechanism to occasionally adjust the rate of a long-established value-added tax sounds, frankly, like a much easier political sell.

Still, Dr. Boadway and Dr. Koeppl refer to their proposal as “provocative,” and for good reason. It would take the tax system into a new realm, one in which it plays a consciously active role in stabilizing the economic cycle. It would move fiscal policy into the realm largely reserved for monetary policy over the past several decades – using taxation in a very similar way to the Bank of Canada’s use of interest rates in response to economic highs and lows.

Frankly, the central bank could use the help. With interest rates already near their effective bottom, there will be limited traditional power in the hands of the monetary authority when the next economic crisis hits. In an August, 2020, workshop discussing ideas for the government’s renewal of the Bank of Canada’s inflation-targeting mandate (which is due before the end of this year), Northwestern University economist Martin Eichenbaum argued that stronger automatic stabilizers would provide critical fiscal support to the central bank’s inflation fight.

“Monetary policy will simply be of less relevance, in isolation, to achieve inflation targets,” he said. “One way or the other, we are going to have to come up with a practical framework for using fiscal policy when we need it, and not using it when we don’t.”

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