MASTHEAD-2The 2017 Budget does reveal incremental progress in certain policy areas, writes Sean Speer. But we need to be very wary of significant spending hikes and the prospect of long-term budget deficits.

By Sean Speer, March 31, 2017

Government policy is rarely flawless. A host of factors – including political calculus, insufficient information, and ineffectual state-run administration – often contribute to sub-optimal policy outcomes, described by Nobel Prize-winning economist Ronald Coase as “government failure.” The auspicious result is that it means there is always plenty of work for think-tank scholars.

Last week’s federal budget does nothing to lessen our workload. Quite the opposite. While there is some incremental progress in key areas such as work-family policy and caregiving support, the budget is notable for its lack of progress on the budgetary deficit and its preclusion of a reforming impulse. Think-tank scholars should remain busy for the foreseeable future.

A Missed Opportunity

The budget has prompted the usual deluge of commentary from across the intellectual and political spectrum. The prevailing yet hardly universal view seems to be that the budget was too “modest,” “unambitious,” and “boring.” A “missed opportunity” has become part of the post-budget parlance.

And for good reason. The Trudeau government had spent most of the intervening time between the 2016 and 2017 budgets conducting reviews of major areas of government policy, including taxation, science and innovation, transportation, veterans programs and services, and several others. Expectations were high. Budget 2017 was supposed to deliver “real change” on a wide range of government policies.

Yet instead the government mostly put off major reforms. The budget has rightly become marked for what was excluded as much as what was ultimately included, for better or for worse.

It is telling that most of the government’s defenders continue to point to the Canada Child Benefit and its lowering of the middle-income tax rate from 22 percent to 20.5 percent as evidence of its ambition. Some have even described them as “revolutionary.” This is hyperbolic spin dressed up as real analysis.

Both policies are laudable but hardly revolutionary. The Canada Child Benefit is based on an $18-billion programming foundation established by its predecessors. The lowering of the tax rate also builds on previous efforts to reduce taxes for low- and middle-income Canadians, including as much as $4,300 for a typical two-earner family under the previous Conservative government. The truth is these policies amount to evolution rather revolution.

The risk, of course, is that delaying difficult choices to later in the government’s four-year mandate diminishes the likelihood that we will see meaningful reforms. If the government is not prepared to expend political capital to rationalize the tax code in the second year of its mandate, what reason do we have to believe that it will do so in its third or fourth year as an election looms? This is how inaction begets more inaction and real change fails to materialize.

Some parts of the budget represent real yet incremental progress in the right direction. Others...require course correction.

But, by dismissing the budget as totally vacuous, it is all too easy to miss its other strengths and weaknesses. Some parts of the budget represent real yet incremental progress in the right direction. Others – namely, the ongoing budgetary deficit and absence of a plan to eliminate it – require course correction. We should not lose sight of either.

Signs of Incremental Progress

Positive progress is primarily in two areas – the first is related to the costs and challenges of raising children and caring for a sick or aging loved one, and the second is legislative reforms to strengthen Canada’s intellectual property regime and modernize our broadcasting and telecommunications statutes.

The government is proposing to reform parental benefits to enable greater flexibility for working parents, including extending the duration of benefits up to 18 months in exchange for a lower rate. It is a good move. This type of flexible benefit will be more responsive to the individualized circumstances of working families, and ultimately improve the conditions for upward mobility in Canada.

The budget also consolidates several caregiving-related tax credits and deductions to establish a new, simpler, and more generous Caregiver Credit. This consolidation and simplification was certainly justified and will result in greater support for families assuming caregiving responsibilities for sick or aging family members. It is an important reform that will only grow in relevance due to aging demographics.

The legislative commitments to enact an Intellectual Property Strategy and modernize Canada’s broadcasting and telecommunications laws require more details to understand the government’s goals and specific plans. But the basic ideas are correct and should be lauded. Canada’s legal and policy regime for the digital economy has become outdated due to fast-changing technologies and is now increasingly a barrier to digital adoption, innovation, and other key economic drivers as we have written about over the past year.

It will be critical that the government lives up to its budget commitments and ultimately enacts positive reforms along these lines

It is time therefore to modernize these laws in order to transform them into a comparative advantage for Canada. It will be critical that the government lives up to its budget commitments and ultimately enacts positive reforms along these lines. Doing so could make a considerable difference for Canada’s economy over the medium- and long-term.

Ongoing Red Ink

Yet notwithstanding these examples of positive progress, it is impossible to overlook the government’s disregard for its budgetary deficit. This is the second budget in a row that fails to set out a plan and timeline for restoring budgetary balance. One is beginning to get the sense that the Prime Minister’s quip about “budgets balancing themselves” was not a case of misspeak but rather a true reflection of his government’s fiscal policy.

The upshot is that the government is now projecting cumulative deficits of $142 billion between now and 2021-22, and more to follow. It represents the largest sustained debt build-up in a non-recessionary period in a quarter century.

To the extent that the deficit has been driven by lower-than-projected revenues, the government deserves absolution. Average revenue growth expected between 2016-17 and 2019-20 has fallen from 4 percent in the 2015 budget tabled by the previous government to 2.6 percent in the most recent one. Any government would face a similar revenue crunch. Conservative Party leadership candidates calling for an immediate restoration of a balanced budget must recognize this arithmetic reality and explain how they would cover this gap.

But the government is fully responsible for its significant spending hikes. Program spending will grow by an annual average of 6.4 percent in the Trudeau government’s first three years. One must go back nearly 15 years to observe such sustained, three-year spending growth.

What have we gotten for nearly 20-percent growth in program spending? Not much. The government’s fiscal multiplier has failed to materialize and its own projections for economic growth have been downgraded. It is not surprise therefore that this year’s budget abandons the previous one’s attempt to attribute estimates of economic impact to its spending hikes.

What is most concerning though is the unreliability of the budget’s underlying assumptions in future years. The budget assumes that average annual spending growth will fall from 6.4 percent in the last three years to 2.5 percent in the next three. How the government exercise such relative restraint is not explained. It is mostly involves a leap of faith. And there is good reason to be sceptical.

The budget projection of 2.5-percent spending growth is up from 2.1 percent in November’s Fall Economic Statement and is bound to climb further between now and next year’s budget. The point is that there is a high probability that average spending growth amounts to something closer to 6.4 percent than 2.5 percent and the result is the budgetary deficit is higher and invariably longer. This is the principal reason that the government would have been prudent to set out a clear, measurable plan to reduce the budgetary deficit.

Now several economists and policy commentators have warned against deficit alarmism. There is something to their notes of caution. The government’s fiscal position is relatively strong and the debt-to-GDP ratio is still set to fall in spite of ongoing deficits.

No government purposefully puts itself into a fiscal hole. Pierre Trudeau did not set out to run 27 consecutive budgetary deficits when his government fell into deficit in 1970.

But if alarmism is wrong, surely so is complacency. No government purposefully puts itself into a fiscal hole. Pierre Trudeau did not set out to run 27 consecutive budgetary deficits when his government fell into deficit in 1970. But that is what ultimately happened.

It is the aggregation of individual choices and decisions that in isolation are not problematic but in totality can produce long-term fiscal challenges. Higher-than-projected spending, an economic downturn, or any other combinations of unforeseen events risk could prolong the deficit and erode the government’s overall fiscal position. It is not to say that we cannot reverse course and minimize this risk. But clearly Budget 2017 fails in this regard.

Conclusion

In sum, while the prevailing opinion that the budget’s main takeaway is its lack of ambition, further investigation finds some incremental steps in the right direction and others in the wrong one.

Attention has already turned to next year’s budget and the prospect of progress some of the issues neglected this year’s around. The good news is it will inevitably produce considerable work for think-tankers.

Sean Speer is a Munk Senior Fellow at the Macdonald-Laurier Institute.