Canada is adrift without a fiscal anchor

Having no fiscal anchor means that the government is without self-imposed restraints on its spending behaviour

Finance Minister Bill Morneau leaves after holding a news conference before the release of his federal budget in Ottawa, Tuesday March 22, 2016. (Fred Chartrand/CP)

Finance Minister Bill Morneau leaves after holding a news conference before the release of his federal budget in Ottawa, Tuesday March 22, 2016. (Fred Chartrand/CP)

All sailors know that having an anchor at the ready keeps you and your boat safe. When seas are calm, the anchor doesn’t do much except expand your range of options for stopping when you need to. In stormy weather, your anchor may save you from catastrophe—preventing you from being driven on to the rocks and broken apart.

The same is true of fiscal anchors. When times are good, they don’t do much more than provide reassurance to investors and voters that the government’s finances are well managed. However, in times of economic turmoil, fiscal anchors really prove their worth. They give investors and voters valuable information about how the government can be expected to respond to economic challenges and what the impacts will be on government spending, taxation and, especially, borrowing.

Sailors also know that different kinds of anchors work best in different situations. For example, a Danforth anchor works well in mud or sand. A plow anchor re-sets itself more easily if the direction of the wind changes. Likewise, there is more than one kind of fiscal anchor. For example, some finance ministers use budget balance as their fiscal anchor, committing to balance either year-by-year or over a fixed period like a political or economic cycle. Other finance ministers use debt levels as their fiscal anchor, committing to limits on the ratio of government debt to GDP. The fiscal anchor a minister chooses depends, in part, on what kind of fiscal policy they want and how much credibility they already have with investors and voters.

Which brings us to Finance Minister Bill Morneau and his recent budget. The minister decided to abandon the previous government’s fiscal anchor (budget balance) and instead run substantial fiscal deficits over the next five years. His approach formed part of the Liberals’ election platform and therefore came as no surprise. What was surprising, however, was that he did not work very hard to make the case for using a new fiscal anchor—the ratio of debt-to-GDP. Indeed, he even went so far as to say that his government would eventually return to the previous government’s fiscal anchor, a balanced budget, but would not say when. When questioned, the minister suggested that he “might” return to a balanced budget within five years.

Why is this poor fiscal policy? Having no fiscal anchor means that the government is without self-imposed restraints on its spending behaviour. Thus, investors and voters are left to imagine how the government will behave if economic conditions worsen. Such uncertainty can reduce confidence among private sector firms considering whether and in what country to invest in new capacity. While interest rates are low and Canada’s debt burden remains modest compared to most other major economies, such uncertainty also makes government bonds somewhat riskier and less attractive to lenders.

In a second controversial move, the minister used conservative economic-growth assumptions to forecast his revenues. While building “prudence” into the budget is not controversial, using conservative growth forecasts to do so has the effect of making the budget less transparent and more vulnerable to reinterpretation after the fact if things do not turn out the way the government hopes. This lack of transparency diminishes the finance minister’s credibility and his effectiveness as a fiscal policy maker.

Sailors know that course corrections are best done as early in the voyage as possible. How can the finance minister get his fiscal plan back on course? First, he could be clear about what fiscal anchor he is using. Will he pledge to return to budget balance? If so, when? Alternatively, does he believe that the ratio of government debt-to-GDP is the best measure to anchor fiscal policy? If so, what is the maximum debt ratio he will tolerate over the current mandate and over the medium-to-longer run?

Second, he could be transparent about the potential impacts on the government’s future policy decisions of the “prudence” or contingency included in his budget plan. Since its explicit rationale is that the economy might be weaker than forecast—yet again—and that government revenues will in turn be weaker, what will the government do with any “windfall” revenues if the economy generates more than budgeted? For example, if the government’s own assertion that economic growth will be boosted by the budget’s measures does bear out, will it spend the extra tax revenues? Or will it seek to ensure a quicker return to budget balance—closer to what its electoral platform proposed?

Being transparent about how the government will use its contingency under different economic circumstances makes it easier for voters to hold the minister to account.

No prudent sailor would ever head out on a long voyage without an anchor. Likewise, no finance minister should begin a political mandate without a fiscal anchor. Being clear about his fiscal anchor and transparent about how his contingency will affect decisions in the months and years ahead and will help keep the finance minister and his budget plan safe when stormy weather comes our way.

Paul Boothe is professor and director of the Lawrence National Centre for Policy and Management at Western University’s Ivey Business School. He served as Deputy Minister of Finance for Saskatchewan and Associate Deputy Minister of Finance and G7 Deputy for Canada.


Canada is adrift without a fiscal anchor

  1. Justin Trudeau, Bill Morneau, and the Liberal cabinet and Liberal MP’s are not worried about the debts or deficits they leave behind.

    One thing you can be sure of, every single memeber of the Liberal party will leave office with far more than they ever owned before they came in. And it won’t just be due to the salary they have been paid.

    Sadly, only the auditor general can sort it out……and if the LIberals pick the next AG, then you can be sure none of the corruption will come to light.

    Liberals Lie. Liberals steal. Liberals are corrupt.

    and Canadians still vote for them.

    • Um… you do remember the last nine years, right? $50M for gazebos (would love to know whose bank accounts that ended up in); an ethics point man led off to jail in chains; $2B misplaced; least transparent government ever…

      I saw enough of the CPC over the last nine years to know I definitely did NOT trust them to run the country for another term. Until these Liberals show they haven’t learned to avoid the sins of their predecessors, I’ll assume their nine years in the hinterland has taught them something.

      • Keith,

        the $50 M for gazebos, was actually for a lot of other items in that riding. I agree, it was just used as a slush fund to bolster the incumbent MP, but it was not stolen, and there was a paper trail to follow. We know where the money went, and it wasn’t into anyone’s pocket.

        Same with the Del Mastro thingy. He was caught using HIS OWN money to pay for his campaign and he exceeded his limit. Of course only the Liberals would be shocked and surprised at this idea. After all….why get elected to office if you are going to USE YOUR OWN MONEY? Liberals will never understand that part.

        there was never any $2B misplaced. Stop taking your talking points from the NPD or Liberals.

        Keith, I guess the difference between you and I is this:

        You are ticked off when people use their OWN money to advance their personal ends.

        I am ticked off when LIBERALS STEAL MY MONEY to advance their personal ends.

        I guess it all comes down to perspective.

        I thought the Sponsorship scandal (which was a real scandal involving high office holders stealing hundreds of millions of dollars) was a travesty, and apparently, you just consider it the cost of doing business. Yep…you’re a Liberal through and through.

  2. This doesn’t really flow. The previous government had budget balance as its “fiscal anchor?” Yet it added $150B to the national debt and only balanced its last budget by spending the contingency and selling assets.

    Must we take the previous government at its word, that fiscal balance was its priority? If that were the case, it would have been as cautious in reducing revenues as it was enthusiastic in slashing spending (once they had a majority). Their actions indicate that shrinking the federal government was the real priority – a balanced budget was a marketing line.

    I think the Liberals are finding that the federal government can’t do many of the things Canadians expect it to do with current revenues, especially with such a reliance on fossil fuels. If they haven’t been full-throated about debt-to-GDP as a guiding policy, it’s at least a coherent piece of context for current deficits.

    I think it’s too simplistic for a single priority to act as “anchor” for fiscal policy. The government is coping with slow growth, a contracting oil sector, a structural deficit thanks to HST cuts and a boatload of federal responsibilities that the previous government left unaddressed. Balancing responsibilities may not have marketing “pop” but it’s what needs to happen in Canada.

    • If one accepts that there is a structural deficit and it’s caused by the Conservative’s GST cuts, then the intelligent and prudent course of action would be to restore the GST to 7%. Unfortunately, Trudeau and Morneau have said that that isn’t in the works. I suppose it’s easier for the Liberals to run deficits and tax “the rich” than make a cogent case for the GST.

      • JIM R…

        They will raise revenue by legalizing pot and taxing it, but that will not raise the revenue required by Gerald, er….Justin Trudeau’s program. The carbon tax will be the big one.

    • Yep … selling off assets in order to achieve the appearance of a balanced budget is unsustainable. Harper’s last budget projected to this year would have resulted in a $14.7B deficit – no surprise there with a long history of deficits – one has to wonder where that anchor was all those years.

  3. Great column.

    The people got what they wanted. There were three options in the last election. A left-leaning option who promised to balance the budget with tax increases to pay for increased spending. A right-leaning option who promised to continue on course with balanced budgets and relatively stable spending. Third option was a left-leaning option who promised to dramatically increase spending and planned on running deficits.

    The plurality selected the third option. Why should that option have a fiscal anchor?

    The deficit

    • Shoop, the problem is not that this is the budget or government people voted for…..the problem is that the folks who will be responsible for paying the debt Canadians just incurred due to the Latest budget, are not yet old enough to vote, or they have not been born yet.

      Not really fair is it?

    • Interestingly enough, a majority (51.6%) selected parties that promised balanced budgets.

  4. As perfect an example of economic ignorance (more likely than dishonesty) as you can find!

    As the issuer of currency, the Government of Canada can never run out of money and can fund every single social requirement it faces, including free education. It is impossible for there to be a limit on the capacity of a sovereign government to pay debts denominated in its own currency.

    For the economy as a whole, in any accounting period, total income must equal total expenditures. The only requirement is, regardless of how many sectors we choose to divide the whole economy into, the sum of the sectoral financial balances must equal zero. For example, if we divide the economy into three sectors – the domestic private (households and firms), government, and foreign sectors – the following identity must hold true:

    Domestic Private Sector Financial Balance + Fiscal Balance + Foreign Financial Balance = 0

    Note that it is impossible for all three sectors to net save, i.e. run a surplus, at the same time. Some sector has to be issuing liabilities. This is an accounting identity, not a theory. If it is wrong, then five centuries of double entry book keeping must also be wrong.

    Those who attack deficit spending are setting up an entirely false constraint. A sovereign government that issues its own currency faces no inherent financial constraints. It cannot produce a financial imbalance. It can buy ANY resources that are for sale in terms of its own currency by using key strokes. That does not mean it should try to buy all the resources, as it can produce inflation in certain circumstances and it can leave too little resources to fulfill the private purpose.

    Government needs to use its sovereign power to move just the right amount of resources to serve the public purpose while leaving enough for the private purpose. However, that balance is entirely POLITICAL, not driven by financial need.

    • Foreigners and citizens can lose confidence in a currency if the government/Bank of Canada conjure up too much fiat debt currency.

      The rub is where exactly is the tipping point. Complex systems typically are not linear or well behaved, and if one pushes items within your compact identity to extremes, unusual things can happen. The music only plays as long as there is confidence in the value of the currency.

      • Your point would might might sense, in the real world, if the quantity theory of money had any value, but it does not. As Randy Wray and others have shown, money is tax driven. That is to say, taxes serve the purpose of creating domestic demand for a currency, which might be defined as that which is accepted by government to settle a debt. So domestic confidence is not a problem, as long as you have a working police force, army, and tax-collecting branch.

        Second, since all government spending is “conjuring up too much fiat debt currency”, I think your statement can be translated as “if government spends too much, then the external value of its currency might depreciate, or it might not, as in Japan”. There is some truth, I concede, to the notion that inflation can be construed as “too much money chasing too few goods”, but generally most inflation problems occur on the supply side. To quote Mike Norman “there isn’t an economist in the whole entire fucking world that will tell you more income necessarily equates to less stuff being produced.” So the issue, then, is the efficiency of investment — and investing massively in green infrastructure and childcare and so-on is, to a massive degree, the greatest contribution that one can make to productivity. I do agree with the two first sentences of your second paragraph, but you have applied them in the wrong context. You should be applying them, IMO, to the effects of rises in domestic private debt, which to a large extent mirrors public surpluses. As modern monetary theorist Bill Mitchell has written, government deficits (surpluses) are equal (dollar for dollar) to non-government surpluses (deficits). If there are external deficits and the government continues to balance its fiscal position (only spends what it raises in taxes) then the private domestic sector will run continuous deficits equal to the external deficit and thus incur ever increasing levels of debt. That is an unsustainable state, and leads to the kind of tipping point you posit.

        • But there is also a tipping point at the level of taxation the general population will support or can sustain…i.e. confidence in the currency and in the system.

          People will revolt if taxes are too high and if the deficits and debt gets too large.

          At some point the state will actually have to use their guns to collect the taxes from the people.

          Your sectoral balances identity is nice, but it doesn’t tell you where the critical points and where the tipping points are, and that is what the MMT theorists fail to ever address. At some point “monetary” economics will conflict with “behaviorial” economics. MMT is a manifestation of financialization, that the real economy (and the real world and real people) really doesn’t matter.

          One ultimately has to anchor monetary and fiscal policy to some real in the real economy to tether the individual terms in your sectoral balances identity within reasonable boundaries where the critical points and the tipping points are not known.

          An identity can hold where the individual terms are infinities, and the infinities mostly cancel each other out. The MMT theorists say…well the identity holds…so there never will be any problem. But that is BS. The individual terms of the sectoral balances identity have real world and real economy consequence. Monetary policy is not omnipotent, and that is the current delusion much of the world has succumbed to as we wait for every word for Yellen, Draghi, and Kuroda.

          • I fear you are rather missing the point. MMTers hold, and they have been shown to have better predictive power than just about anyone, that taxation is only functional if it deprives groups of purchasing power. It does not raise revenue in order to allow the government to spend. The very notion is a non sequitor because there is no “tipping point” at which the government has to “call in its debt or increase its taxes” to meet its financing needs. Furthermore, MMTers agree fundamentally that monetary policy is largely impotent all the time. And they do not base their arguments on “theories” — the term modern monetary theory was applied to them by their opponents. Instead, they just offer an accurate description of monetary operations. MMTers are ALL about recognizing that the constraints on public spending are constraints in the real economy — hence their wisdom about inflation. Equity considerations matter and guide us (the public) on which groups to deprive of purchasing power via taxation and in what magnitude. The public may revolt, if, egged on by Boothe, they falsely believe that there is an economic reason why public debt and deficits should not continue unabated. But the key point is that the money we use to pay taxes, every day, every year, comes from government spending in the first place.

          • Thomas,

            Interesting economic theory you have there. I think I’ll boil it down for you.

            I have a printing press. If I need more money, just hit the button. The entire economy is just an idea in any event, and it only works because we all agree to pretend that it actually has a value.

            It is all a shell game. The goal of course, is to make enough shells to keep the entire thing running. (if people find out the truth…we’re all screwed unless you own land)

  5. @JamesHalifax That’s where you have fundamentally misunderstood the nature of money, Mr. Halifax! As Hyman Minsky said, not unlike you, it is easy to create a currency, but having it accepted is another matter. Currencies issued by sovereign nations are accepted because they are the legal tender in which those nations accept payment of taxes and other debt to government. What you are talking about is a commodity, like gold or bitcoin. And that makes a fundamental difference in the fiscal capacity of the sovereign: take Greece, for example. As long as it was on the drachma it faced no solvency problems (and was able to absord a million or so refugees in 1991, as a result), but because it now is a mere currency user, of the EURO, its fiscal capacities, and ability to provision itself for the public good, let alone refugees, is severely constrained. Unless you take in that fundamental difference, everything you think about public finance and macroeconomics is incorrect.

    • Actually, Thomas, it is you who have misunderstood the concept. In fact, you basically show that my premise is correct when you write, “it is easy to create a currency, but having it accepted is another matter.”

      Which of course, is exactly what I have written. Consider this: Why does something have value? Well, it has value because we SAY it has value and when a group of people all agree to the concept, you get an economy.

      Consider gold and wampum beads. People wanted gold because it could be used to make nice things to look at. It wasn’t very practical, but hey, it looked good. Why did it have so much value though? Well, because of its rarity. It took a LOT of manpower to get a little bit of gold. The value of the gold was in the labour used to extract it due to its rarity.

      Wampum beads were also labour intensive, but they were not rare as the material to make them could be plucked from the nearest stream. Non-natives placed great value on gold, but none on wampum beads; because the labour to make them was not Western labour.

      today’s economy, is basically a big stack of wampum beads; minus the value of labour. We just have to SAY we have this much money, and SAY it has this much value, and as long as everyone agrees…all is good and the machine keeps on running.

      So Thomas, if you are going to respond to one of my posts, please take the time to try and understand what I am writing.

      • JamesHalifax Please, James, read up a bit on this (you don’t have to swallow whole every bit of ECON 101 incoherency that you were taught). Your neo-classical, “Metallist” myth was debunked decades ago. As Randy Wray, Knapp, Michael Hudson, above all Charles Goodhart, and indeed virtually every serious historian who has looked at this has concluded, all the evidence is on the side of the Chartalist explanations.

        The earliest origins of money (used for the last 4000 years, according to Keynes) might be traced to the levies of the palaces of the great granary empires, eventually standardized in the wheat, or barley, weight units of account to lower “tax” (or more generally, fee, fine, rent, tithe, tribute, and tax) collection costs. It also seems likely that the authority played a role in development of “private” debts denominated in the unit of account (especially wergeld). Apparently temples and palaces acted as neutral witnesses, recorders, and enforcers of debts and transactions between third parties. Indeed, it is often surmised that writing was invented in the temples to keep accounting records of debts and credits, inscribed on clay tablets held in the temples for safe-keeping. In the Chartalist/neo-Chartalists account, debts are denominated in a unit of account. The physical representation of these (encased tablets, wooden sticks, paper notes) can circulate among third parties for the purposes of retiring debt. Indeed, the great medieval fairs appear to have begun as a convenient way to bring creditors and debtors together to match tally stock and stub (and to clear bills of exchange — the principle “private” debt instruments used in “international” trade within Europe at the time). To sum up: money derives from obligations (fines, fees, tribute, taxes) imposed by authority; this authority then “spends” by issuing physical representations of its own debts (tallies, notes), demanded by those who are indebted to the authority. Once one is indebted to the crown, one must obtain the means of payment accepted by the crown. One can go directly to the crown, offering goods or services to obtain the crown’s tallies — or one can turn to others who have obtained the crown’s tallies, by engaging in “market activity” or by becoming indebted to them. Indeed, “market activity” follows (and follows from) imposition of obligations to pay fees, fines, and taxes in money.

        • Thomas noted:

          “”As Randy Wray, Knapp, Michael Hudson, above all Charles Goodhart, and indeed virtually every serious historian who has looked at this has concluded, all the evidence is on the side of the Chartalist explanations.”

          Did anyone else notice that in ALL of his posts, Thomas BerGBUSCH doesn’t actually explain his own argument, but instead simply regurgitates what OTHER PEOPLE have said.

          Here’s a point you should know Tommy. Just because someone’s been dead a while, or had a paper puplished, does not mean their theories are or were correct.

          In fact, your entire argument seems fixated on the amount of tax you have to pay a government, when this was never the idea of an economy. To correct your earlier posts, you don’t need “money” you just need something to exchange, so trade is where it started….but I’ll forgo explaining the details of how that works to you. I’m sure you can remember it from your days on the playground. “I’ll give you two mojo’s for the tootsie roll” (and yes, it is really that simple, and I didn’t need a Keynisan to tell me that.

          Tell you what Tommy, right now, you just sound like a bloviating idiot who is trying to sound clever by borrowing the arguments of people who actually WERE clever….and you are failing miserably at it.

          come back when you have a thought of your own, and we’ll try again. (in fact, you sound like another idiot who used the same tactic. He couldn’t come up with his own argument, so he used someone else who was more clever and tried to take credit for it. In fact, I haven’t seen him in a while….so maybe you are his re-incarnation)

          Good luck.

          • It seems to me this discussion is better off as a contest of ideas than as a contest of originality! I am quite happy to borrow ideas from smarter people, and proud to know that I am doing so. I am not hearing “voices in the air”, see below:

            Keynes said:

            “Practical men who believe themselves to be quite exempt from any intellectual influence, are usually the slaves of some defunct economist. Madmen in authority, who hear voices in the air, are distilling their frenzy from some academic scribbler of a few years back.”

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