Aspirations and campaign promises were job one for the Trudeau government's first budget. Getting Canada on a sustainable economic path will be job two for 2017. Finance Minister Bill Morneau mostly did what could and needed to be done. With their wish list on display, the Liberals have kept most of their key spending and tax promises. Still to come is the heavy lifting to get the economy on the right path and to ensure that the overall debt is better balanced and growing less rapidly.
This budget was mostly about putting the past behind. It provides no more than a broad fiscal framework, leaving the Conservatives and New Democrats much to criticize. But in today's world, it was never in the cards that a government just five months into its mandate could figure out where it needs and wants to go.
The budget story is bigger and more complex than the front-page headline it was given in The Globe and Mail – "Spending in search of growth" – would suggest. (A better one appeared above the editorial that day: "A good start, but watch the future.")
If the Liberals think spending on First Nations and big-city transit infrastructure will help growth, they are right. If they think diverting billions toward the middle-class and the less fortunate is the way to boost the economy, they are wrong.
First, increasing consumer demand to stimulate the economy is not needed; it is already overly (and wrongly) stimulated in that regard. Second, essentially nothing in the budget addresses how to deal with the two great supply-side shrinkages from oil prices and the loss of manufacturing capacity – further threatened if a softwood-lumber deal is not made by next October in today's toxic U.S. trade atmosphere. The policy of Stephen Harper's government that increased household-sector debt and borrowing abroad for personal consumption was unsustainable. The middle class will now have to absorb some pain on the road back to balance, and next year the government must decide how to make this happen.
This budget involves a shift to more, but not yet big, government. Will that shift be balanced next year with stronger policies for the private sector? Two years from now, will Canadians like the shift as much as they do now, especially if the economic and job growth is not there, and they have to start paying for it? Are Canadians as confident about more government as the Liberals seem to be?
Rising deficits come from weak economies as well as from increased spending. We have both. Mr. Harper got the country into a big debt hole, a trend it will have to reverse. Canada took more than five years to get there. It will take at least as long to get out.
Rarely about what's needed
The last election campaign was still about having us live beyond our means. The Harper Conservatives and the Liberals offered competing personal tax cuts the country had not earned. The NDP did the same on social spending.
All this ignored the reasons Canada can has lost ground since emerging from the 2008 financial crisis in better shape than any other G20 country:
- Rising household debt, which recently claimed its biggest share ever of the gross domestic product, and persistent current-account deficits create a drag that will take years to overcome.
- Consumers living beyond their means, with foreign borrowing that created jobs in other countries, saw Canada lose ground in manufacturing capacity and on unit-labour costs, compared with the United States.
- The premature withdrawal of the federal fiscal stimulus left more of this burden on the provinces and more of the overall stimulus burden on household debt – neither of which happened in the United States.
- The collapse of the oil price could take years to get back to a viable oil-sands price, if ever, although a relatively decent improvement in government revenues could come sooner.
None of these issues was discussed seriously in the election. And we still don't know the new government's diagnosis of where we are. A cure requires that it be the right diagnosis.
Although many key determinants of Canada's economic future are known, the budget did not address issues affecting long-term growth. Over the next few months, we will need to know the views of both Mr. Morneau and the governor of the Bank of Canada. We must act, but are not at panic stations. It will likely take five to 10 years to rebalance our debt and find a strong economic path forward.
Hope for the private sector
The economy is the biggest downside risk to the Trudeau legacy. Fresh policy aimed at an expanded competitive goods-and-services supply capacity driven by the private sector will be needed in the next budget. The Morneau-appointed economic advisory council was one good sign – the quality of both its leadership (Dominic Barton of McKinsey & Co.) and membership are encouraging. Another was that neither the promised reduction in the small-business tax rate nor the proposed tax on stock options was in the budget. The government appears to realize it needs a comprehensive and coherent approach.
Canada must use the strengths it has that are not facing the challenges posed by oil, other commodities and its shrunken manufacturing capacity. They include basic university research, plentiful food and strong financial institutions, whose large pools of capital can help stronger Canadian investment and entrepreneurial performance. Pension funds already have a capital pool-taxation approach to their capital gains. If the private and the institutional sides were on an equal capital-gains tax footing, it could give each a powerful added push. The shift from a one-transaction-at-a-time system to a pool-withdrawal taxable event needs no other change. It would help to narrow Canada's reward-opportunity gap for the best of every kind of people. It would help investment and entrepreneurship in every part of the country.
Canada will need a stronger infrastructure program in both transit and basic university scientific research, matched by a broad-based, private-sector tax incentive for risk and investment. Longer term, as well as reducing its household-sector debt and foreign borrowing, Canada must accept significant federal deficits for some time – as the United States still does. It cannot change the global economy, but it can cope with it better. The last good economic-policy era spanned the Mulroney-Chrétien years, from 1984 to 2004. We need another one now.
The first four years
The journey to address First Nations, climate change and refugee settlement will be a long one – lasting well beyond 2019. Canada has the required capacity for inclusiveness – the ability to operate effectively in an interdependent world. Security and pipelines issues will not be easy, but should be manageable. There is no fundamental barrier to success on either right now.
The danger will come from the economy. Canada has about a year to find a better long-term path. Now that the country's existential and identity challenges are largely behind it, everything the new government hopes to accomplish depends on making this transition. A bad or an unfair economy could undermine this. In fact, how the economy goes will determine the success – and length – of the Justin Trudeau era. It has been almost 25 years since Bill Clinton campaign strategist James Carville declared, "It's the economy, stupid," but the mantra holds true for Mr. Trudeau.
Spending and tax reform
Why the need for deficits? Because preparing the economy for the future will require new program spending that must be paid for. The Harper government used politically targeted personal tax reliefs that cost billions every year. Decades have passed since the last thorough review of the tax system, and Mr. Morneau has promised changes in tax expenditures – the tax breaks given to specific segments of the population, such as tradespeople and public transit riders – that will save about $3-billion annually.
Tax reform is needed but takes a long time. The immediate questions about growth and the federal deficit must be addressed first. Tax expenditures and spending cuts are needed for pay-as-you-go program spending. Deficits should be restricted to supply-side growth.
The fiscal framework
Two initial points about the projected federal deficits: First, on a proportional basis, they will likely be less than that of the United States, which is still in the $500-billion range. Second, the U.S. economy has done much better than Canada's over the last five years, partly because its federal deficit has come down more slowly. The federal government has a year to get a longer-term fiscal framework that makes sense. It has cushions (prudent for uncertain times): a $6-billion contingency to protect against the possibility of oil falling to $25 a barrel, which is below the price forecast by private-sector economists ($35 is more likely, and would increase revenue exponentially), and an estimated economic growth for this year and next that, hopefully, is too low, given that a lower dollar and continuing growth in the U.S. increases demand for our exports.
Art of what's possible
The politics of more public spending right now are easy. The politics of matching private-sector incentive with spending requires explanation and discussion. Great political leaders can see around corners; they can get their supporters to do things they may not want to do, and they can remind us why politics is known as the art of the possible.
The party politics right now look favourable. The Liberals are said to dominate the so-called "progressive majority." This is perhaps not the best longer-term understanding of Canadian politics, which seem more regional than ideological. It is more a "what works" Progressive Conservative/conservative Liberal blend of inclusiveness and mutually supportive economic and social advance. On that basis, their domination of "progressive" issues gives the Liberals political room to move on private-sector growth.
The bottom line
Canada, for the moment, has politics that are broadly good but also at risk because of its economy, whereas the United States has broadly good economics at risk because of its politics. U.S. politics need to recognize that a good economy works for everybody. Canada's politics need to recognize that a good economy gets everyone working for it.
The inclusiveness the new government espouses must apply not only the disadvantaged and the middle-class but to those who build and invest. Postwar Canada has thrived because of the broadly acceptable idea that social and economic advance go hand in hand.
The new government is doing well on Canada's brand management, both at home and abroad. That matters, but has limits. Advertising can get people to try your product, but if they don't like it, the game is over. How the Liberals use their success in managing the brand to address what the economy needs, and how the public feels about it, will determine their success, and their legacy.
We won't know if the first budget was good until we see the second. Don't forget that even Chrétien budgetary maestro Paul Martin didn't get it right on his first attempt. Still, a recent editorial in The Financial Times sounded positive: "Japan and Canada show some fiscal good sense –tax and spending stimulus is needed to help the global economy."
William A. Macdonald has an extensive record of public service. To spark discussion of the nation's future, the Toronto-based president of W.A. Macdonald Associates Inc., and his associate, William R.K. Innes, have created The Canadian Narrative Project, with the help of Trent University. To see more, visit http://www.canadiandifference.ca