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Finance Minister Chrystia Freeland was channeling her inner Paul Martin in her budget speech on Thursday, vowing that the Liberal federal government is committed to continuing to reduce the nation’s debt burden.

The ratio of net debt to gross domestic product is falling, and will continue to fall, she vowed. “This is our fiscal anchor – a line we shall not cross, and that will ensure that our finances remain sustainable so long as it remains unbreached,” she said, with an echo of Mr. Martin’s come-hell-or-high-water 1996 landmark budget.

That’s the rhetoric. The reality is that Ms. Freeland’s fiscal anchor is more like a rope, pulled in the direction of prevailing fiscal currents.

To be sure, the ratio of the net federal debt to gross domestic product is forecast to decline from the 47.5 per cent peak of fiscal 2020-21, dropping steadily to 41.5 per cent in fiscal 2026-27. On that basis, Ms. Freeland’s promise of a fiscal anchor is intact.

But the budget also contemplates a less favorable macroeconomic environment, predicated on a prolonged Russia-Ukraine war. Under that “heightened impact” scenario, the debt ratio rises in fiscal 2024 and 2025 – cut free of its anchor, seemingly.

By themselves, the debt figures in that budget scenario don’t necessarily mean the government would back away from the pledge of continual declines in the debt ratio. After all, they are just modelling predictions.

But a senior government official demurred when asked whether the government would take steps to prevent a rise in the debt ratio if the heightened impact scenario came to pass. The fiscal response would depend on circumstances, the official said.

So it is possible that the government would cut spending or increase revenue to keep the debt on a downward path. It’s also possible it would not.

In a way, that makes sense: Foolish consistency does not make for good fiscal policy. Spending cuts or tax increases could be precisely the wrong approach if a global recession hit in a couple of years. It would have been dumb for the Tories to stick with their balanced-budget pledge in 2008, just as it would have been grossly irresponsible for the Liberals to stick with their more modest goal of a 30-per-cent debt ratio as the pandemic sent the economy spinning into recession.

But the budget’s heightened impact scenario is not a sequel to those economic disasters. It’s more of a speed bump. Growth is slower, but the economy is still expanding in less favorable circumstances.

Even that speed bump is enough to send the debt ratio rising for a couple of years, underscoring just how little iron there is in the Liberals’ fiscal anchor. The simple goal of the debt ratio declining is far from ambitious, particularly with inflationary pressures surging. It only requires that the Liberals spend nearly all, rather than all, of the windfall revenues that flow to them courtesy of an increase in nominal GDP.

What the government has conspicuously avoided committing to is a firm goal such as getting the debt ratio back to its pre-pandemic level within five years. That would require substantial action on the part of the government to constrain spending growth. Instead, the Liberals have chosen a fiscal goal that, for the most part, is achieved by going with the flow of economic currents.

Taxing questions

Responding to last week’s newsletter, “Ontario’s stealth tax hike,” Lynn Okanski of London, Ont., pointed out that Ontario also does not index its top two income tax brackets, and wondered why there is not more of a kerfuffle about that kind of inflation-driven tax increase.

That’s at once both an excellent point and a politically awkward question. Ontario’s top income tax brackets aren’t that old, dating from 2014, when a rate of 12.16 per cent was imposed on taxable income between $150,000 and $220,000 and a rate of 13.16 per cent applied on taxable income above $220,000.

Those thresholds have not changed in the intervening eight years, as Ms. Okanski notes. Why the inertia? The politics aren’t that hard to deduce. Delivering an almost-invisible tax benefit to the well-to-do isn’t likely to produce much of a political payoff compared to higher social spending (as was the case under the provincial Liberals) or populist-tinged spending and tax breaks (as has been the case under the current Progressive Conservative government). One caveat: Ontario’s non-refundable tax credits are indexed. The tax reductions resulting from those credits do, then, increase over time for Ontarians in higher tax brackets, although they are applied at the rate of the lowest bracket, 5.05 per cent.

Cast forward a few years, and those politics could conceivably shift, particularly as stepped-up inflation accelerates the indexed increases of lower tax brackets. In 2014, the newly created middle tax bracket (at 11.16 per cent) applied over a range of nearly $70,000, from taxable incomes of $80,243 through to $150,000.

Now, that range has been squeezed to just under $60,000, as the lower end of the bracket has risen, but the top has stayed frozen at $150,000. That range will continue to shrink. And at some point, theoretically, it will vanish. Long before that point, however, some future Ontario government will have to decide how to recast the province’s income tax rates in order to avoid that reductio ad absurdum outcome.

Line item

Windfall warning: Corporate profit margins have soared during the pandemic, nearly doubling in 2021, says a new report from Canadians for Tax Fairness that urges Ottawa to boost taxes on businesses in several ways. Corporate profit margins averaged 9 per cent between 2002 and 2019, but rose to 16 per cent in 2021. Those increased profits do increase Ottawa’s corporate tax revenue, but the advocacy group argues that the government should go further, including by raising the corporate income tax rate and introducing an excess profits tax for all sectors.

Follow me on Twitter, @PatrickBrethour or ask your Taxing Question here.

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