Theo Argitis: Chrystia Freeland's budget shows Ottawa is no longer starving the beast – Financial Post

Canada has entered a period of small structural deficits for the foreseeable future
While there’s been a lot of focus in federal budget coverage on Finance Minister Chrystia Freeland’s upwardly revised deficit and debt numbers, it’s the government’s spending profile a few lines higher in the income statement where the politics will play out and battlelines will be drawn in the next election.
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In her fiscal plan this week, Freeland projected that deficits will total $175 billion in the six years from 2022 and 2027, almost $70 billion more than she had projected late last year. That is a lot and a significant deterioration that piles on already record debt.
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But deficits can be volatile things and move up and down as the economy ebbs and flows.

Spending is stickier and gives us more information about underlying fiscal policy and choices. After three budgets, at least two of which can be characterized as post-pandemic, it’s become clearer where Freeland stands in the spending spectrum.

Program expenditures as a share of the economy are projected to settle in a tight range of between 15.4 per cent and 15.9 per cent through 2027 — apparently a new post-pandemic spending sweet spot for Trudeau and Freeland.

This is a marked step up not only from the previous Conservative government of Stephen Harper, but also the pre-pandemic Trudeau government.

In his four budgets before the pandemic, Trudeau’s fiscal plans averaged program spending of 14.1 per cent as a share of the economy.

The increase in spending has brought levels back to where they were in the early 2000s. This includes two new “entitlement’’ programs (dental care and daycare) brought in since the pandemic. This year, Freeland is offering a slew of tax credits for green investment that will add as much as $80 billion in costs by 2034, as well as billions of new funding for health care demanded by the provinces.

These are all popular expenditures and will be tough to cut.

So while the Conservatives attack Trudeau for his spending policies in the run-up to the next election, the Liberals will be more than happy to draw them into a conversation over what’s the first thing on the chopping block should they lose power.

That’s not to suggest that spending should only be seen crudely through a political lens.

Both Freeland and Trudeau have long believed government should have a big role in solving big problems. At times, before taking power, Freeland criticized the Harper government for trying to “starve the beast’’ — a term used to denote a tax-cutting strategy aimed at depriving government of revenue in order to force it to shrink.

Indeed, Harper had brought revenue levels down to the lowest since at least the Second World War, led by a two percentage point cut in the goods and services tax that did deprive the Canadian state of a lot of revenue.

“I personally, as a Liberal, strongly disagree with that philosophy and that point of view. I do not think it makes sense for our economy, and it does not make sense for our society,’’ Freeland said in parliament as an opposition lawmaker in 2015.

Harper, however, never managed to bring down spending levels during his term.

In his last full fiscal year in 2014, program expenses came in at 12.5 percent of GDP — largely unchanged from his first budget in 2006. (The Conservatives inherited a historically low base of spending, after a decade of debt fighting under the Jean Chrétien and Paul Martin governments, perhaps leaving less fat to trim.)

The Trudeau government has clearly reversed course.

Freeland has overseen an increase in both spending and revenue. Government receipts are expected to remain well above 16 per cent of gross domestic product over the next five years  — settling at levels not seen in two decades and about two percentage points above what was collected by her immediate predecessor and Trudeau’s first finance minister, Bill Morneau.

The beast is being fed.

Trudeau’s 2023 budget could hit one milestone. Net debt in the coming fiscal year is projected to grow to $1.2 trillion — or almost exactly double the level of eight years ago.

This hyper-accelerated pace of debt increase has happened three times before — during the two World Wars and the long period of large deficit-financing between 1970 and 1995, when debt jumped by nearly 30-fold.

The current scenario now projected by the federal government doesn’t fit into either of those cases. After both the World Wars, governments moved quickly into surplus positions. The third episode began with an extended period of runaway inflation that led to higher interest rates and eventually a debt crisis.

Right now, the projection is for the budget to run deficits at just over one per cent of GDP for a couple of years, with perhaps milder deficits afterward should some promised cost saving measures bear fruit. If anyone had any doubt before the 2023 budget, it’s become obvious the country has entered a period of small structural deficits for the foreseeable future.

That is manageable, but is a bet on three things happening in the medium term: inflation returning to more normal levels, interest rates not rising much from here and the economy growing at a decent pace.

Theo Argitis is managing director at Compass Rose Group.

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