Canada's Surprising Prosperity II:
Are Balanced Budgets More Important than Tax Cuts?

Previous Article: Introduction

Canada’s economy has been doing well since the recession ended in the early nineties. The crazy thing is, it shouldn’t be. Our neighbour to the south, upon whom a fair chunk of our economy depends, has not been doing well. The United States has added a trillion dollars to its federal debt, and since 2001 has seen more job losses in any time since the onset of the Great Depression.

It is counterintuitive to say that Canada’s high tax economy is responsible for Canada’s surprisingly good performance compared to the United States, so what is responsible? Today, we look at the first of a number of theories that may explain the secret of Canada’s success


I’ve already explained why the deficits that rocked Canada, America and Western Europe through the seventies and the eighties may have been unavoidable. The damage they did, however, was real.

Before the 1970s, when it came to controlling the economy, national governments had it easy: they could raise or lower interest rates. If the economy was too hot, sending inflation up, banks raised interest rates, encouraging saving, discouraging borrowing, limiting economic activity, and throwing people out of work. When inflation was under control but unemployment was at unacceptably high levels, banks lowered interest rates, encouraging borrowing and spending and getting people back to work.

The oil shock and competition from the industrializing third world put external pressure on this system, however. Stagflation made it impossible the use of interest rates to control inflation and unemployment. Societies had to make a choice: accept the fact that, because of external pressures, inflation and joblessness would both remain high, or tell the government to get off its duff and do something to maintain the comfortable standards of living the citizens had come to expect during the fifties and the sixties.

The deficits that started in 1973 limited the fall of personal incomes in the short term. It prevented a massive increase in poverty and it kept society stable while families sent the next generation of workers to good (deficit-funded) schools. The children of these families were largely responsible for the economic successes of the 1990s. But the money borrowed to maintain standards of living in the seventies was no different than a loan taken out by a bank. In a capitalist society, there is no shirking that debt short of bankruptcy. And as we added to the debt, the servicing charges on that debt continued to increase, providing another external pressure that drove down standards of living.

In the seventies and the eighties, some countries ran up debts so large that international loan officers risked the world economy if they tried to foreclose. So the only limit to national deficit spending are the citizens of a nation, and only through the collective realization that the nation cannot live beyond its means forever.

It’s significant to note that, today, two income families are not only common, for many they are a necessity. In the early seventies, a single income was sufficient for many families to make ends meet. One reason why deficits disappeared in the 1990s was because families finally bit the bullet and had reduced their living standards in ways that they could not, and would not do in 1973, “assisted” in no small part by the steady government cutbacks of Brian Mulroney and Paul Martin.

We can complain about how Paul Martin balanced his budgets, piling on responsibilities onto the provinces, and from there onto the municipalities and from there onto the taxpayers (whose responsibility it ultimately is anyway), but the fact that he balanced the budget meant that he stopped the growth of the debt and of related interest charges. Moreover, when the fiscal balance reversed in his favour, he resisted the calls by many in the house to dramatically increase spending and dramatically cut taxes. Today, the cost of servicing our debt is still Canada’s largest expenditure, but it is billions less per year than it was in 1997. When we work ourselves into a position where we actually start paying off our debts, we discover the odd sensation of finally having more money to spend. Sensibly, we should use the money freed up by lowered interest charges to make deferred investments, or pay off the debt faster.

There is even a positive feedback loop, here. International bankers, when they see that a country is a good credit risk (typically deemed to be a nation that doesn’t need credit — i.e., is in a surplus), tend to lower borrowing rates for those nations, reducing servicing costs still further and increasing the monies available to the national government. It’s no different from a family on hard times maxing out on a line of credit; banks look more favourably on you if you get a second income, farm out the kids to work, etc. That’s what’s happened to the western economy since the 1970s.

So while Paul Martin has posted Canada’s seventh straight fiscal year surplus, Bush and Cheney have been accused of saying that deficits “don’t matter”. If they cannot pay for their tax cuts and their expenditures out of a balanced budget, they will borrow money so as to avoid making the hard political decisions of raising taxes or cutting spending. This approach has added a trillion dollars to America’s national debt, and with it billions in additional interest charges and servicing fees, almost half of which is exported out of the United States to foreign interests.

For as long as the United States remains in deficit, and plays by the rules of a capitalist economy, the cost of its national debt will increase. Unless their rate of economic growth outpaces the increasing cost of servicing their increasing debt, they face a choice of either pushing out other government spending (including military spending), raising taxes, or increasing the size of their deficits, spiralling this equation even further out of control.

(They could also decide to print more money in order to pay off debts. The fact that Germany tried this following the First World War, shows why they won’t. One thing capitalist economists are right on is that money represents real work in the economy, and you can’t manufacture money if the economic activity isn’t there to back it up. The result of trying is hyperinflation.)

So, while Paul Martin cannot take full credit for the current surplus, perhaps he can take credit for avoiding a Canadian recession by not going overboard on the tax cuts and the spending increases when the money became available. By refusing to add billions to the cost of servicing Canada’s national debt, he freed up billions that could be spent by average Canadians keeping Canada’s economy booming.

The only problem with this theory is that Martin’s prudence amounts to roughly $9 billion per year, for each year from 1997 to 2003, or $300.00 per year for every man, woman and child in Canada. Is the interest off of $300.00 per person per year enough to sustain an economy like Canada’s, even as the United States’ economy tanks? I have my doubts.

Next Article: Are America’s Energy Needs Fueling Us?

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