Looking at the many virtues of (fiscal) discipline
An economic downturn is beginning to take shape and it will hurt public finances. Data that I’ve compiled on past recessions shows that it takes five to eight quarters to rebalance each quarter of economic slowdown. So, we can expect budgetary implications well into 2025. Given that we are still reeling on all levels of government from the financial pain caused by the pandemic—and the federal and some provinces continue to run deficits—it makes me wonder just how well positioned the country is financially.
DEBT AND FINANCES
On the surface, Canada seems to fare well on the international stage, with general government debt representing around 115 per cent of GDP, placing it second among G7 nations (13th among G20 nations). In the U.S., this ratio is around 125 per cent. Unfortunately, this indicator (general government debt-to-GDP ratio) has its limitations: During the pandemic, Canada accumulated nearly $400 billion in debt, while the debt-to-GDP ratio showed little change, as GDP rose under inflationary pressures.
From a fiscal perspective, this debt is unreasonable. Each year, Canada uses 40 per cent of its GDP to finance its government operations at all levels, placing it fourth among G7 nations—16th among G20 nations in terms of fiscal competitiveness. On the other hand, the U.S. uses “only” 30 per cent of GDP to finance its operations. This means that it have more flexibility than Canada to reduce their debt while remaining fiscally competitive in North America.
We also need to anticipate the impact of an aging population. When we look at the numbers, we see that three of the G7 countries with a higher debt-to-GDP ratio than ours (France, 120 per cent; Italy, 150 per cent; and Japan, 250 per cent) have something in common: A more advanced aging population. Clearly, it’s time to get our public finances in order.
GUARDING AGAINST SHORT-TERMISM
The adoption of sound budgeting practices would, in part, limit the scope of discretionary financial decisions made by politicians whose objectives are often short-term. This approach would allow us to leverage the government’s experience and expertise in managing a public budget.
In this respect, public administrations need to resume their rightful place in the balance of power. Politicians wield a great deal of influence, but their ability to manage a budget has proved lacking over the years. Even balanced budgets—a basic principle of public finance—have been politicized, and governments have moved away from this goal. The federal government has gone so far as to forgo explicit debt reduction targets in favour of a “steady decline,” based on models that assume the economy will grow at a constant rate. This is far from sufficient.
There are many options for turning things around and they require nothing more than political courage. From the outset, we need to re-establish specific debt-reduction targets to ensure that our public finances hold up in the face of an uncertain and unpredictable economic reality.
We also need to establish timetables for a return to balanced budgets post-recession. Deficit limits could be established based on the performance of the economy, whereby a deeper recession would create more room to manoeuvre on the deficit front. This type of approach would have allowed us to adjust more quickly during the pandemic, when deficits continued to accumulate despite the recovery. Before resorting to deficits, we should invest more time in planning so if something goes awry, we can forecast in a way that respects of fiscal targets.
Most importantly, we should be accumulating surpluses when the economy is doing well. Just as an individual or household should save for a big purchase, governments can create opportunity to generate and invest surpluses, away from political interference. This is an essential strategy given the political pressure to spend, which is at its peak.
There is also work to be done to restore fiscal balance in the country, at a time when the provinces and territories will bear the brunt of the financial impacts of an aging population. If the status quo is maintained, the federal government will have to transfer more money to the provinces and territories. In this respect, I would very much like to see a reduction of resources being siphoned to simply to move money from the right pocket to the left.
Finally, obtaining independent advice on spending at predetermined intervals is sound advice for anyone, doubly so for government. We readily increase programs, initiatives and spending, but when it comes to making cuts, we are much more reserved. An outside eye would provide a fresh perspective on those billions of dollars being spent, but no longer serving their intended purpose.
JUST HOW MUCH IN DEBT ARE WE?
Read CPA Canada’s recent debt study to learn how Canadians are managing their finances. And see our debt and inflation data for live updates on household and government debt.
Elected officials should show fiscal restraint, says CPA Canada’s Chief Economist David-Alexandre Brassard (Freepik)