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How Harper's deficit plan fits into his long-term strategy Add to ...

Maclean’s columnist Paul Wells has often pointed out that the best way of interpreting the patterns behind Stephen Harper’s Conservative government is to take the long view: examining incremental changes in trends instead of looking for grand gestures. This isn’t to say that the Conservative agenda is modest in scope. As anyone familiar with growth accounting knows, the cumulative effects of small changes in growth rates can be very large indeed.

This is why we should be paying more attention to the Department of Finance’s Fiscal Monitor, which publishes government expenditures and revenues on a monthly basis. These numbers are noisy and subject to important seasonal swings (for example, there’s always a surge in personal income tax revenues each spring as people file their returns), but they are still a useful way of keeping track of the government’s budget balance between budgets. In what follows, seasonal movements are dealt with by tracking 12-month moving sums.

In the first graph, we see that after a long stretch in which the deficit hovered around $35-billion a year, the annual deficit has finally gone below $30-billion. If the last five months of fiscal year 2011-12 are no worse than the last five months of last year, then the federal government should have no problem meeting its target of $32-billion for 2011-12.

But the real lesson is in the second graph, which traces out changes in revenues and expenditures. It is clear that government’s basic strategy for deficit reduction is to simply hold spending constant and to let revenues -- in particular, personal income tax revenues -- grow to close the gap.

The unilateral decision on the part of the federal government to set the rate of growth of health transfers equal to the rate of GDP growth shouldn’t have surprised anyone who read Section 5 of the last budget, and especially in Table 5.9. The deficit reduction plan is to let transfers to individuals and to other levels of government grow with GDP, while holding other spending constant.

On the face of it, this isn’t radical change: GDP grows roughly one percentage point faster than population and inflation, so real, per-capita transfers will still keep increasing. There will be no decisive moment where a Conservative finance minister will be obliged to break the mold set by previous budgets.

But if this pattern is sustained over time the cumulative effect will be to reduce federal spending as a share of GDP to 13 per cent of GDP over the course of the current mandate. And when the constant reinforcement of anti-tax sentiment is taken into account, it will be a difficult trend to reverse, no matter which party is in power.

Stephen Gordon's recent posts and Twitterfeed can be viewed here.

Economy Lab, winner of the 2011 Eppy Award for best business blog. Follow Economy Lab on twitter

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