When the Trudeau Liberals revealed their economic platform in the 2015 election cycle, they made three promises: the government would run a deficit of no more than $10 billion annually, the debt-to-GDP ratio would decrease each year, and the books would be balanced four years after Election Day. Today, all three promises have been wiped off the map. With the presentation of the first Liberal budget Finance Minster Bill Morneau announced that the 2016 deficit could run as high as $30 billion. The Liberal’s new path is expected to add $113.2 billion to the Canadian debt in just five years; the total addition to the deficit will by then be almost four times what the Liberals initially promised. I think the decision to run such a massive deficit is both economically dubious and democratically concerning.
First, there is much work in the economic community to cast doubt over the Keynesian deficit spending theory on which Trudeau’s policy relies. The most basic challenge comes in the form of “crowding out.” In many areas of the economy- and especially in infrastructure sectors like those Trudeau is targeting- private corporations compete with the government to attract workers and capital. When public sector spending drastically increases, it crowds out private investment: the private sector is left with fewer resources and what remains must be accessed at a higher cost. Hence the increase in jobs and wages generated by increased government spending is offset by a decrease in jobs and wages from private sector corporations that don’t benefit from the stimulus package. On net, the result is a minimal change in the welfare of Canadians- but a significantly higher cost to taxpayers.
In his Nobel prize-winning research, Robert Lucas of the University of Chicago levies a further challenge to the Keynesian theory. Taxpaying corporations and private sector actors anticipate that large deficits will eventually result in higher taxes, and as a result they reduce their investment and consumption to prepare for the tax increases.
If these theories alone are unconvincing, the Trudeau government needs only to look towards its southern neighbors to see the problems with Keynesian economics. As Stanford Professor and Hoover Institute fellow John Taylor points out, the United States government’s release of targeted stimulus packages following the 2008 recession had little direct impact on the country’s GDP. To be sure, the US GDP of course did eventually recover after the recession - but US National Bureau of Economic Research charts show that the US economy had already stabilized before Obama’s stimulus measures were signed into law. Once enacted, the stimulus packages resulted in little further change to GDP. (see chart below)
Direct efficacy of the policy aside, Trudeau’s decision to abandon his election promises is worrying from a promise and commitment perspective alone. There is a purely democratic issue at stake here: setting the budget is a massively impactful decision that alters the lives of Canadians more than most other decisions a government makes. Specifically, a decision to run massive deficits has damning future impacts that are difficult to reverse: as the federal deficit increases, the portion of taxpayer funds that must be allotted to simply paying off interest on that debt increases. Hence, it becomes harder for any future government to undo the damage done now. For this reason governments should feel a moral obligation never to depart so drastically from their electoral budget promises. Beyond this, Trudeau’s departure is particularly egregious given its timing. Since the announcement to explode the deficit comes after less than a year of governance, there is no immediate opportunity for voters to hold the government accountable: they must wait another three years for the next election. By that time, the deficit will be roughly $85 billion more than what voters had agreed to.
Trudeau’s massive increase in spending contradicts both economic research and democratic principle. It is a risk we need not take, and just as importantly, it is a statement that voters’ economic preferences can be ignored. I think this new path is a dangerous one, but with the passage of the budget, Canada has committed to it. Now, we must hope I am proven drastically wrong.
Picture taken by tsaiproject on February 13, 2012, titled "Parliament Hill", obtained through Creative Commons.