It’s not just governments – ordinary Canadians' borrowing shares some of the blame for this country’s ever-growing and unsustainable reliance on debt.
By Philip Cross, March 2, 2016
Governments aren’t the only ones whose deficits are rising rapidly across Canada. The rising red ink at the federal level and in oil-dependent provinces like Alberta and continued large borrowing by Ontario are just one manifestation of a broader problem. The release of the fourth-quarter National Accounts, Tuesday, shows that almost all the major sectors of our economy are running deficits: households, governments, and external trade.
The one exception is firms, although their surpluses — once famously characterized as “dead money” by former Bank of Canada governor Mark Carney — almost disappeared in the first half of 2015 under the avalanche of snowballing losses in the resource sector.
It’s true that households in Canada are running small positive savings when we compare their disposable income to their spending on goods and services. But it’s easy to get confused in the terminology about saving and net borrowing. That household savings is eclipsed by large borrowing once we factor in Canadians’ capital spending on homes, which is mostly financed by mortgage debt. The same is true for governments: Ontario’s Wynne government claims a projected deficit of only $4.3 billion this year, but as noted last week by the National Post’s Andrew Coyne, Ontario’s net borrowing from debt markets is $12.1 billion once you account for capital spending. So, net borrowing is the true measure of any sector’s resort to debt financing.
Overall, total borrowing in Canada across all categories increased by $77.9 billion last year. That’s more than the $71.6 billion additional debt load we took on during the recession in 2009. How did each sector’s deficit evolve? Total government borrowing amounted to $39 billion in the fourth quarter. With the federal government prepared to increase its deficit by well over $20 billion this year, and Alberta warning of a more than $10 billion shortfall, government deficits could easily surpass the emergency levels at the peak of the 2009 crisis (when a G20 accord obliged nations to run deficits of at least five per cent of GDP). Households have been running sizeable deficits for several years, mostly to finance the housing boom. The trade sector has been in deficit since 2009, reflecting how foreigners have financed all these domestic deficits, allowing Canadians to spend more than they produce.
Canada has come full circle since just before the 2008 recession, when all sectors were running surpluses. This served us well when absorbing the shock of the global financial crisis and recession (aided by a smoothly functioning banking system). Canada was the mirror image of the U.S., where all four sectors were running deficits before the recession, leaving no buffer to absorb the subsequent disruption of credit flows.
It is not unusual or dangerous for one or two sectors to run deficits. What is unsustainable is for several sectors of an economy to be running large deficits. Doing so means complete dependence on foreign financing of the deficits. This dependence has several risks. One is that the terms creditors demand to finance debt will become more onerous, raising the cost of servicing the debt. Another is no longer having a buffer to absorb the next shock from the global economy, and these shocks are unpredictable, as demonstrated by the financial crisis in 2008 and the recent oil price shock. Finally, history demonstrates repeatedly that external financing is prone to “sudden stops,” as occurred in Britain in 1976, Southeast Asia in 1997, the U.S. in 2008, and a wide variety of peripheral nations in southern Europe in 2010. This leads to either sharp, unplanned cuts to domestic spending or the need for a bailout (usually involving the IMF).
Why has Canada become a nation of profligate borrowers? Partly it is the predictable response to the lure of record-low interest rates, especially for households. However, for governments it also reflects an unwillingness to accept the reality of the end of the resource boom. Perhaps a small government deficit was inevitable given the slowdown in the economy, but this does not explain why the governments of Justin Trudeau, Rachel Notley and Kathleen Wynne have eagerly embraced the opportunity to ramp up spending. Trudeau in particular seems willing to restore social spending programs but not reinstate the higher GST rates needed to fund them. The inevitable result is deficits as far as the eye can see.
The Canadian public is not blameless for all this. We are so inured to borrowing in our everyday lives that we consciously elected the Trudeau, Notley and Wynne governments in the full knowledge that they would run deficits, believing that this somehow was a sustainable model of economic growth and budgeting. We want to keep spending as if we are richer than the income our production yields. So far, foreigners have been willing to subsidize our spending. It might seem like a great economic plan — until it isn’t.
Philip Cross is a Senior Fellow at the Macdonald-Laurier Institute.