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By Jason Clemens,
and Milagros Palacios
The Fraser Institute
The period from the mid-1960s to 1995 was terrible for federal government finances in Canada. The government borrowed every year but one, interest costs consumed ever-greater shares of revenues, the country’s debt ballooned, and we came within a hair of a currency and debt crisis.
It took difficult large-scale reforms by the government of Jean Chretien to get the country’s finances back in order.
Unfortunately, the policies of the current government have again put federal finances in peril by placing the country on track to repeat the mistakes of the past.
In the mid-1960s to the late 1970s, new government programs were introduced and existing programs expanded, laying the foundation for higher levels of spending. That spending, however, wasn’t paid for by current taxes. The governments of Lester Pearson and Pierre Trudeau instead deferred the full cost of those programs by running deficits – borrowing.
The proclivity for higher spending is best illustrated by the fact that between 1965 and 1975, federal revenues exceeded expectations in nine of the 10 years, yet the government failed to balance the budget or make meaningful inroads in reducing the deficit. The windfall revenues were used to finance even more spending.
During this period and throughout the 1980s and early 1990s, successive governments tried to slow spending growth to move towards a balanced budget. But debt continued to accumulate. By 1994, just before the historic Chretien budget of 1995, the country’s accumulated deficit reached $524 billion. In 1995, an almost unimaginable 36 cents of every $1 of revenues collected by Ottawa was used to pay interest on existing debt.
Fast-forward to 2015 and you find signs the federal government is repeating the mistakes of the past. Per-person program spending has increased from $7,740 in 2014 (adjusting for inflation) to an estimated $8,869 in 2018, the highest level in Canadian history.
Like some past governments, the current government has benefited from higher-than-budgeted revenues (in all four years of its tenure). Yet there has been no reduction in the federal deficit because additional spending has consumed all the extra revenue.
For instance, in 2018, the government budgeted $312.2 billion in program spending in its spring budget. By the fall of that year, the government had collected an unexpected $5.5 billion in additional revenues but the deficit remained the same because all the extra revenues were spent.
Some commentators note that the current deficit is relatively small when compared to the size of the economy. And indeed, the deficit-to-GDP is a manageable 0.9 per cent. But this misses the point that the deficit-to-GDP in the mid-1960s was actually lower at 0.7 per cent. The current government has placed federal finances on a troubling path and there are risks going forward.
The Department of Finance forecasts deficits to at least 2040. This projection is optimistic, as it assumes no recession between now and when the federal books are balanced.
Beyond the risk of a recession, federal finances also face worsening demographics. Unlike past decades when labour market participation was increasing, we now face a declining participation rate. As the population ages due to people living longer and birth rates falling, there will be fewer people working (as a share of the population). That means less government revenue at a time when there’ll be more pressure for governments to spend on programs such as health care, income support for seniors and more.
Like in 1995, when the government finally got federal finances under control, the answer to today’s fiscal problems lies in purposefully reducing and reforming spending to achieve a balanced budget within two years.
There’s not much we can do about demographics or many of the other risks to the federal budget, but we can control spending.
Jason Clemens, Tegan Hill and Milagros Palacios are Fraser Institute economists and co-authors of Federal Deficits Then and Now.
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