Budget Review: A Bitter Pill to Swallow
After weeks of pre-budget news releases proclaiming budget-cutting doom and instilling new taxes gloom, Canadians at long last received the 1995 federal budget. Paul Martin delivered his budget address with a sprinkling of apocalyptic adjectives and framed his budget as an "historic response to an historic challenge." Yet citizens crawled out of their beds on February 28 to find the world relatively unchanged. More surprising still, once the rolling rhetorical clouds had dispersed from Mount Martin, most Canadians said they liked the budget, a budget that in the words of the Finance Minister "breaks the back of the deficit."
On the surface, it appears that the Liberals cut heavy and hard into our multilayered web of program spending and government services. Business subsidies will be reduced, 45,000 federal civil service jobs slashed, provincial transfers cut, and even a dash of privatization thrown in for good measure (Petro-Canada, the air navigation system, CNR). Modest tax increases also were included—gas, banks, and private utilities—and more "loopholes" reduced, such as RRSP lifetime over-contributions. Mr. Martin said about the above steps that "our reductions in government expenditure are unprecedented in modern Canadian history."
Don't be duped
Canadians should not be duped by such statements. The Liberals even went so far in their massive marketing effort as to have several long-time Liberals declare publicly that "this budget wasn't Liberal, it was a betrayal of liberalism." Columnists began clucking on cue that perhaps this represented a "sea change" in the mindset of the Liberal Party, as if the Prime Minister went to bed each night with a bust of Ralph Klein on the bedside table! Hardly. Unfortunately, federal politics in Canada has for several decades been driven by the politics of pragmatism. This budget represents the bare minimum of budget-cutting pain the Liberals felt they could get away with.
Beneath the rosy budget rhetoric lies a rather different tale. The naked truth is that this budget represents a tiny, faltering step in the right direction, but hardly constitutes a dramatic reversal of 25 straight years of obese government. For example, total government spending will rise yet again this year, from $162.9 billion to $163.5 billion. True, government program spending (which excludes debt-servicing costs) declines by $4.3 billion to a total of $114 billion, but this is a reduction of less than four per cent. The reduction of civil servants appears draconian, except that at least 6,000 will simply move with the change in airport authority. Still others are being bought out or will take early retirement. In addition, many laid off employees could be returned to the fold on a contract basis, in much the same fashion that Mulroney's much heralded reduction in the federal civil service in 1991 had very little net effect.
The Liberals are not banking on spending cuts; rather they are hoping the economy will "grow" them out of their spending dilemma. Fresh taxes and economic growth will yield an additional $8.2 billion this year, nearly all of which will be consumed by increasing debt-servicing costs. So while Martin has been floating trial balloons on many new forms of taxation and spending cuts, they have placed the bulk of their spending reductions, $6 billion worth, in far off 1996-97. But even when they finally appear to be facing fiscal reality, they are in fact sliding the responsibility to the provinces. Fully $3 billion of that year's planned cuts will take the form of reduced transfers to the provinces for health, welfare, and post-secondary education spending.
These transfers will be lumped together into something called the Canada Social Transfer. The provinces will receive less federal transfers but are to have more control over what they do receive. And in keeping with the Liberal's desire for regional economic equality at all cost, 96 per cent of the funding cuts will be to Ontario, Quebec, British Columbia, and Alberta. This direction by the federal government immediately brings up a number of issues. How do the Liberals expect to exert leadership in a country of increasingly divisive regions if it reduces transfers and the strings they come with? The ever-squabbling provinces remain mired in a mindset typified by attempting to ship welfare cases out of province, bidding for corporate jobs through "loan" provisions, and in general acting rather well... provincial. How much flexibility are the Liberals prepared to give the provinces to do their own thing with the block funding? Reduced federal transfers will likely lead to an increase in outstanding provincial debt or higher provincial taxes. For instance, both Ontario and Quebec are nowhere near coming close to dealing with their runaway deficits. Most foreigners only buy provincial debt because they believe the federal government will ultimately step in and bail out the provinces. Martin's offloading may help his fiscal framework, but it provides little relief to the beleaguered Canadian public and economy. Furthermore, a continued decline in federal presence will over the long run ensure the breakup of Canada into a federation of regions.
Gradualism will not work
This budget represents a pragmatic sidestepping of the core issues confronting Canada. Most of the purported budgetary impact lies in future years, not in the present. Yet that is precisely the same tired tune played out by every finance minister since 1975. There are Canadians graduating from university who have in their lifetime never seen a balanced budget. The Liberals are hoping to gradually address our fiscal woes over five to seven years. Gradualism will not work, and public sentiment to right the ship will certainly peter out beforehand. Ralph Klein managed to remove a yearly deficit of $2,700 per working person in Alberta in a year and a half. The federal deficit is $3,000 per working person. The lesson is that while there are many different public policy routes to resolve the deficit issue, the heart of the matter is that it be done, and done quickly. Gradualism spawns false hope in a welfare state laden with entitlements and encourages the belief that perhaps the cutbacks just won't touch them.
For a host of domestic and international reasons, time is of the essence. Well intentioned inaction is a foolish mistake reminiscent of Chamberlain. Beyond diminishing public sentiment for cutbacks, the Liberal's sanguine debt attitude will soon run smack into reality as the business cycle runs its course in the next few years. Social spending will spike as revenues fall back. Government deficits will again experience rapid growth; witness the experience of 1982-85 and 1991-94. The Liberals hope to get reelected in 1997. Will that be the year they soundly address the deficit?
Even more pressing is the mounting evidence that the world is rushing towards a global liquidity drought. Governments around the world are spending utterly beyond their means. The only net savers reside in Germany, Japan, and South-East Asia. Unfortunately, for nations like Canada that beg for more and more credit on the world capital markets, Germany is reunifying, Japan is repatriating $100 billion immediately to deal with their recent earthquake, and South-East Asia is gearing up to spend hundreds of billions on infrastructure at home. The immediate consequence is that emerging nations like Mexico are out of luck. Canada and the United States are not far behind. The signs are crystal clear as real interest rates rise and our currencies lurch lower on the money markets. Since mid-1990, the US dollar has lost half its value relative to the Japanese yen. The Canadian dollar has lost 80 per cent of its value versus the Swiss franc since 1970. As pools of capital dry up internationally, the spendthrift nations will attempt to outbid each other in a doomed effort to stave off the end of the spending binge.
Beyond our means
Many Canadians don't understand why we borrow abroad. The answer is simple: In 1992, for example, total government borrowing was $48 billion. Net household savings amounted to only $37 billion. Therefore, the government was forced to turn abroad for the difference. Our governments "crowd out" Canadian businesses who borrow to build productive investment, and in doing so raise interest rates and diminish economic growth. Ever desperate for fresh credit, the federal and provincial governments have increasingly begun to borrow in other countries' currencies. This action not only erodes a nation's sovereignty, it also makes our current policy of devaluing the dollar foolish. Exports will rise temporarily before Europe and Japan retaliate; meanwhile, our debt-servicing costs will skyrocket as we struggle to pay our debts in even more costly yen and Deutshmarks.
Finally, there is a growing isolationist "America First" animus rippling through American politics among both the Republicans and Democrats. Both parties are escalating the protectionist rhetoric and Canada's huge trade surplus with the United States will hang in the balance. Our current economic resurgence has nothing to do with awakened domestic consumption, and everything to do with the galloping American economy. All three NAFTA nations' spending is out of control and history reveals hard lessons for nations who wake up too late from living beyond their means.
Paul Martin believes he has broken the back of the deficit while planning to overspend by $32.7 billion this year. We have only so many opportunities to right our profligate ways. The 1995 federal budget constitutes the most minimal action the Liberals felt they could undertake while appearing to placate the restless world financial markets. Canadians have been told repeatedly that they have swallowed a bitter budgetary pill. But the pill is a placebo. The ironclad reality of unaddressed compounding debt means that the only back that may be broken is our national one. The solution is not to await the inevitable arrival of the IMF or a Moody's downgrade of our credit worthiness. The appearance of the IMF on the scene is usually indicative of the discovery of an economic corpse. Canadians have not been well served by the latest Liberal offering.Subscribe