Trudeau’s Answer to a Reduced Deficit…No Restraint…Just Spend More

(Bloomberg) 

Canada’s government is projecting smaller deficits as stronger-than-expected growth gives Prime Minister Justin Trudeau more wiggle room to boost spending on families and the middle class.

The Liberal government cut its deficit projection for the fiscal year that ends March 31 to C$19.9 billion ($15.7 billion), down from C$28.5 billion in the March budget, figures released Tuesday show. It now expects a cumulative deficit over the coming five fiscal years of C$86.5 billion, compared with C$120 billion previously.

Canada’s economy is expanding faster than any country in the Group of Seven, and is projected to grow at a pace of 2 percent on average over the next five years, up from its previous estimate of 1.8 percent. With that improving picture come some new spending commitments, though government expenditure as a share of the economy is projected to fall as Trudeau’s team balances dual objectives of reducing the debt ratio while expanding transfers to lower-income groups.

“With a little more wind in our sails, we’re doubling down on a plan with proven results and reinvesting in the middle class,” Finance Minister Bill Morneau told lawmakers in Ottawa as he delivered his Fall Economic Statement.

The spending announced Tuesday totals C$7.7 billion over six years, bringing total new spending since the March budget to C$19.1 billion. The additional measures come at a time when the economy is already firing on all cylinders and the Bank of Canada is raising interest rates to slow growth, potentially creating conflict between fiscal and monetary policy. Governor Stephen Poloz’s next rate decision is due Wednesday.

No Path to Balance

The Trudeau government announced it would index its marquee Canada Child Benefit to inflation beginning in July 2018, two years earlier than scheduled. That will cost C$5.6 billion over five years. It also expanded the Working Income Tax Benefit, which supplements the earnings of low income workers, beginning in 2019.

The total new spending is modest, amounting to less than 1 percent of the current annual GDP over six years, and less than half the new room created by the stronger economy. Trudeau is, in effect, saving more of his new revenue than he’s spending.

Even with the improved economic outlook, there’s no forecast return to budgetary balance. The government is also proceeding with a new tax on investment income held in private corporations and will detail the measure in its 2018 budget. Canada’s economy will expand 3.1 percent in 2017 and 2.1 percent in 2018, Tuesday’s projections show. The spring budget had predicted 2 percent growth for each year.

The 2017-18 deficit number includes a reduction in the risk adjustment, to C$1.5 billion from C$3 billion, at the halfway point of the year. The risk adjustment remains at C$3 billion in coming years. Tuesday’s statement shows the deficit declining to C$12.5 billion by 2022-23, the last year of the projection.

Inflation and Debt

Poloz has said the child benefit has been a key driver of growth. Now that it’s indexed, it in effect buffers lower-income families against the impact of inflation and rising interest rates that may follow. Morneau nonetheless downplayed any concern that additional government spending would put pressure on the central bank to hike.

“We don’t see it that way,” he told reporters, adding programs that transfer wealth to lower earners are driving Canada’s growth and have “paid us back in spades.”

The ratio of debt to gross domestic product is forecast to fall to 29.5 percent by 2020-21, compared to 31.3 percent forecast in the spring budget. It will fall to 8.5 percent by 2022-23, a year for which there was no earlier projection. That’s the lowest level since 1977, Morneau said.

The debt ratio is the last remaining fiscal anchor for the Trudeau government, which had campaigned on deficit caps and a return to balance only to later abandon those pledges. “Despite the deficits expected throughout the horizon, debt will still be falling as a percentage of GDP and be very low by the standards of most other developed countries,” CIBC Senior Economist Andrew Grantham wrote in a research note.

Tax Flap

Trudeau’s team has been backtracking on a trio of tax proposals unveiled by Morneau in July, and offered new details Tuesday. It will proceed to restrict so-called income sprinkling — paying family members who don’t work for a firm — with new legislation due later this year.

That’s expected to raise at least C$215 million annually beginning in 2018-2019. The Liberals will also press ahead in taxing investment income held in private corporations when it exceeds C$50,000 annually, releasing rules for that in its 2018 budget. It has abandoned a third proposal, which changed capital gains rules.

The summer tax changes sparked backlash that was later fueled by questions over Morneau’s own finances. He announced earlier this month that he will sell all his shares in Morneau Shepell Inc., a pension and benefit consulting business founded by his family that he once led. He alluded to the uproar in his speech, saying he’s had “frank discussions” in recent weeks that have been “humbling and inspiring.”