The new normal in Canada—deficits without end

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Appeared in the National Post, April 4, 2016

Alberta’s Finance Minister Joe Ceci, set to deliver his budget April 14, recently said he does not know when the province will eliminate its annual operating deficit, rumoured to be $10.4 billion this coming year. Likewise, in the recent federal budget, the Liberals did not specify when they plan to balance the books.

These events, along with similar developments in Newfoundland & Labrador, mark an important shift in how Canadian governments are thinking about budget deficits. Until recently, an important unwritten fiscal rule prevailed stating that deficits should be generally avoided. Exceptions were made if the deficit was temporary and induced by a major negative economic shock, but at the very least, governments were expected to present a plan to return to balance.

This unwritten rule took hold after the major fiscal reforms of the 1990s, as Canadian governments experienced firsthand the consequences of runaway debt and how it can eventually spark the need for bold and decisive action. For example, the federal government ran a generation worth of consecutive budget deficits during the 1970s, 1980s and 1990s resulting in a serious debt problem. By the early 1990s, a third of all federal government revenue was being used simply to pay interest on the debt.

That experience with routine deficits helped shape the norm that deficit spending must be temporary and accompanied by a plan to return to balance.

Even during the very challenging economic times following the 2008-09 recession, the federal and provincial governments generally at least paid lip service to the notion that deficits shouldn’t become a permanent fixture, regularly presenting plans to return to balance by a target date (although, admittedly, not all of these plans were credible).

While these targets have not always been met, their existence reflected a helpful prevailing norm that deficit spending should be a temporary condition, and that governments should not accept deficit spending to be business as usual.

This norm had served the country well since the reforms in the 1990s, helping governments rein in debt and create the conditions for a prolonged period of strong economic performance. 
That unwritten rule is now being discarded by some governments, as they abandon plans and even the rhetoric of returning to a balanced budget on a fixed timeline. Routine deficits risk a return to the era before the reforms of the 1990s when budget deficits without a set end date were often considered acceptable.

A return to routine budget deficits could pose a number of potential problems. For instance, regular deficits incurred during periods of economic growth (which is what the federal government has planned) puts a country’s or province’s finances at risk should the economy experience a significant slowdown or recession. An unexpected shock can alter the fiscal outlook, and if a government is already in a deficit position when a recession hits, the result can be much larger budget shortfalls and a rapid run-up in debt. Again, Canada’s history is telling about how such a scenario can unfold.

Unfortunately, with the recent developments in Edmonton and Ottawa, we now risk repeating past mistakes with routine deficits becoming the new normal. We’ve seen this movie before in Canada. It doesn’t end well.

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