THE LONG AWAITED CANADIAN BUDGET: HOPE IS NOT A STRATEGY


The Trudeau government has set the longest period in Canadian history in between budgets: this budget was tabled 762 days since the previous federal budget, forcing investors and Canadians to live with uncertainty for over two years. The Trudeau government also has set a new record for the highest level of federal debt in Canadian history. Its last peak was set under Jean Chretien in 1997, at around $600 billion, and it is now projected to reach $1.3 trillion by 2022. Importantly, the budget confirms that in 2020-21 the annual deficit will be the largest since they started to keep track in 1966, at $354.2 billion.


There is also the matter of our highly indebted provinces. The provinces take on the burden of rising health costs from an aging population and not one of them is prepared for what lies ahead. Even as the federal government may be in a position to return debt levels to where we were in 2019 by the late 2030s, early 2040s, the provincial debt is forecast to double during the same time period. This is highly problematic for the country as a whole.


As a reminder, our total Gross Domestic Product (GDP) amounts to around $1.59 trillion (2020), making us the 10th largest economy in the world. The majority of our revenue comes from three main industries: oil and gas and other energy, manufacturing and tourism. Pre-covid, our GDP was at $1.7 trillion and it is hoped it will be back there by 2022. Since 2007-8, according to the Fraser Institute, combined federal and provincial net debt (inflation adjusted) has doubled from $1 trillion to a projected $2.0 trillion this year. This is a large increase as a percentage of our GDP.


It appears that under the excuse of COVID, but in reality reeling from criticism about Federal covid response (or lack thereof), our leadership has decided to divert the public’s attention by spraying money around with a leaf blower. Under the guise that current low interest rates equate to free money, they have decided to spend whatever it takes to get themselves re-elected. If only they could figure out how to keep rates low permanently, they could also rightfully lay claim to the discovery of a “golden goose”: a perpetual and limitless source of free money to cure society’s ills. Unfortunately, with global GDP growth re-accelerating and inflation possibly not far behind, this “accomplishment” too will prove to be illusory. Like the iceberg in the path of the Titanic, higher rates lie dead ahead but unfortunately in the fog of COVID they can’t see a thing. But then again maybe they are counting on the fact that by the time rates go up, it may well be somebody else’s problem to shoulder. Like Donald Trump, Trudeau and Freeland have a love affair with debt. At best it shows a lack of understanding of basic economics, at worst it’s a display of desperation in trying to buy votes from a gullible population, as ultimately, they will pay for promises made to them with their own money. Sadly this appears to be the only strategy for politicians lacking in vision, leadership and real management skills.


Interest rates will return to pre-pandemic levels, borrowing costs will rise accordingly, and this means further pressure on Canadian tax payers who as always, are left to foot the bill. Given our now record breaking level of debt, it is not hard to do the math on how much our debt servicing costs will rise. Even today, with low rates, debt servicing costs are forecast to take up to 6% of total federal revenue. By the middle of the decade this is projected to rise to close to 10%: In other words, 10 cents of every dollar collected by the government, instead of going to much needed social programmes will go to pay just the interest on government debt. The power of compounding interest, the 8th wonder of the world according to Einstein, is fabulous when it comes to saving, but highly detrimental when in debt, as the amount you owe will keep growing. Thanks to the effect of compounding, combined with lack of fiscal discipline, debt servicing costs are one of the government’s fastest growing expenditures.


Increased debt servicing costs ultimately limits the ability for the government to lower taxes or to fund existing or new programmes. The best way to stop wasting taxpayer money on debt service charges is to shrink the federal debt. The government needs a plan to reduce debt by including controls over direct spending on programmes and by introducing tax reform that will increase growth and job creation. Their best plan to get out of debt is to hope we grow out of it. But in order for us to be able to do so, we would need them to focus on tax reform that encourages new business; rather than just targeting the wealthy, which are always the easy targets, a political punching bag that the media love to jump on. This displays a total lack of understanding of the math behind the problem. There are just not enough wealthy people in our country to make up for the frivolous spending of our government; and there will be a lot fewer of them when they are finished either taxing them into oblivion or by incentivizing them to leave for other countries with better tax regimes.


As Warren Buffett well said, when the tide goes out, you discover who has been swimming naked. It is in times of crisis, that the depth of leadership is truly revealed. How they have dealt with containing COVID alone, is a clear example of incompetence on many levels. How they are dealing with our finances, borders on criminal negligence.


Our leaders today only seem to know how to spend and tax. There is little vision towards creating growth which is the only true source of wealth for any country. This government sees the cause of global warming as our highest priority even when it is at the expense of jobs and tax revenues created by our biggest industries. Easy decisions when you don’t understand simple math. There is short termism in every decision they make: the focus is on how to buy votes today, at the expense of future generations. This budget presents all sorts of tax changes on cigarettes, vaping, luxury vehicles, boats and airplanes. There are lots of new commitments for spending more, but absolutely nothing is being reduced. Their plan is to grow out of debt with these new programmes but do not show any plans on how to actually get there. Hope is not a strategy. Any electorate is an insatiable beast, give them handouts and the bears will be camping out beside the fire, as they have no need to forage for food. Responsible leadership has to understand this and act accordingly.


Even if low interest rates were to remain in place for the foreseeable future, making the level of debt sustainable, what matters is how quickly the debt is growing relative to our ability to pay. To put that into perspective at the household level, if you take out an interest only mortgage at 2%, and it is costing you $3,000 per month, your income has to double over the next five years if at the end of that mortgage you are looking at refinancing at 4%, because your mortgage will now cost you $6,000 to service. That is basic math. This is why debt/GDP (Gross Domestic Product) matters and at current spending levels and with the growth projected in the budget, it is not forecast to return to pre-covid levels until the fourth decade of this century at best.


In well managed economies, debt is paid down when times are good because the debt capacity is meant for rainy days, as an insurance policy. Right up until COVID hit the Canadian economy was doing very well, yet government debt levels went up every year instead, as politicians made sure their unions were well paid and protected regardless of the circumstances. Our government is possibly the most inefficient when it comes to digitalization and productivity of its workforce, yet its workers are among the highest paid in the country. Low productivity and inefficiency that is not tolerated in the private sector continues to be alive and well under the banner of “necessary government”. Where is the accountability? Although there is a lot of focus on taxing the wealthy, there has been little focus on restructuring public unions with their above average pay, their cushy hours and their above average pensions at everybody else’s expense. Sadly, there are not enough wealthy people in Canada to tax to compensate for the reckless spending we have been subjected to in recent years. As Margaret Thatcher famously said “the problem with socialism is that you eventually run out of other people’s money”.


The government, and much of the media, like to use “tax fairness” to create the impression that the reason there is so much debt is that the top earners are getting away with paying relatively little tax. Sadly, they also use the same “tax fairness” for proposals on how to tax small businesses, the engine of growth of any economy. The facts prove otherwise. The top earners in Canada, as a group, pay a disproportionate share of the country’s taxes, particularly when compared to their share of total income earned. The imbalance is even larger when looking at personal income taxes where the top 1% share of taxes paid is more than two thirds larger than the share of total income earned by this group. How is this “tax fairness”? Obviously, it is not, as the Fraser Institute clearly explains: (https://www.fraserinstitute.org/sites/default/files/measuring-the-distribution-of-taxes-in-canada.pdf).


This year’s budget did not yet target these groups in a large way as many of those in government have been calling for, although there have been many discussions about higher capital gains taxes, taxes even on your first and maybe only home, wealth taxes, and higher income taxes overall. They effectively want to tax your already after tax earnings to compensate for their own mismanagement. However first they need to get elected and have a majority. You can rest assured that if the current leadership stays in place after the next election that this is what as Canadians we have to look forward to. They will continue to burn the furniture until there is no furniture left to burn. Every single Canadian will be worse off as a result, except perhaps for those who work for the actual government, who will continue to be paid above market rates with little productivity for hours worked, and have pensions the rest of the country cannot enjoy. They are the truly elite in today’s society as they remain the most protected working class.


The only time you can make governments accountable is at election time. It is great to want nirvana and of course, we all want the best in terms of social programmes. But common sense must prevail. Just like on an individual basis we all want to live in beautiful big houses in the best neighbourhoods. But just like you would not attempt to buy a $10 million dollar house if your income was $100,000 per year (the property taxes alone would leave you broke), countries have to be mindful of how much debt they take on. Political promises with your money means ultimately you will have to pay for it all, at the expense of your lifestyle. There have been countries (the UK in the 70s come to mind) where income taxes had to go as high as 83% (90% if you include the 15% surcharge on investment income) to pay for the sins of previous governments. That too can happen here, so it is very important to stay on top of how much your government is spending, not just what it is spending it on, relative to the amount of taxes they can collect. Today more than ever, it is very important that the number one reason for electing a political party to power is one that will practice fiscal responsibility above all. Your future as well as that of your children and grandchildren will depend on it.


The Summerhill Team

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