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Summit Panel: Simon Enoch

Re-thinking Deficits and Austerity

I want to discuss the elephant in the room that haunts any of the subsequent policy discussions we will have the rest of the day and that is obviously the current economic health of the province and the government’s financial situation. How we view the current economic situation will determine whether we believe we have choices going forward or whether we have to accept the government’s narrative of deep and immediate cuts as inevitable. So I’d like to use my time this morning to challenge some of the economic assumptions that limit the horizon of what is possible – even in the current economic situation.

I certainly think we can see some of these economic assumptions at work when we look at the scope of the transformational change undertaken by the government so far.

It’s pretty clear that the Saskatchewan government’s “transformational change” agenda is really a clever euphemism for austerity.  Everything that the government has done under the banner of transformational change has been to cut, down-size, roll-back or eliminate. More often than not, these cuts have been directly at the expense of the province’s most vulnerable – such as the cuts to Seniors and Children’s Drug Plans, reduced funding for the Alternative Measures sentencing program and Aboriginal Courtworker Program, and claw-backs to some social assistance programs. Most recently the government has eliminated the 251 custodial jobs – the lowest paid of most government employees and is threatening to eliminate more.

So the government has been entirely focused on the cost-side of the ledger to the neglect of any revenue-generating ideas. Although I suspect we will see some tax increases – most likely a regressive sales tax increase – by the next budget. The government appears to view transformational change as an exercise in cost-cutting, to the detriment of any alternatives.

Now obviously the justification for these cuts is the size of the provincial deficit and the government’s insistence that we have to return to balance as quickly as possible (Surplus by 2018 if we are to believe the Finance Minister).

But If we believe that these are the wrong choices to make, and that there are alternatives that do not disproportionately burden those most vulnerable in our province, then we need to stop buying into the deficit hysteria that allows the government to justify cuts as the only means forward.

Every time we decry the size of the deficit or liken it to the Devine-era, we are, intentionally or not, playing into the government’s frame – that it is the deficit that matters – not unemployment or preserving social programs or the environment or ensuring the most vulnerable in our province are taken care of.

That’s not to say that we can’t criticize why we are in a deficit position, particularly after nearly a decade of booming commodity prices, but if we act as if the mere existence of the deficit is akin to the sky falling, then we are just painting ourselves into a corner when it comes to possible remedies.

So I think we need to put the deficit in perspective in relation to our current debt levels so we can better see what choices are available to us.  Saskatchewan’s economy is much larger than what is was in the 1980s and 1990s. So while a billion dollar deficit in 1991 was cause for grave concern, I don’t think it warrants the same alarm as it did thirty years ago. So let’s look at comparisons.  While Devine-era debt reached over 40 percent as a percentage of GDP (closer to 60 percent if we include Crown debt), Saskatchewan’s current debt as a percentage of GDP is only 19.9 percent, that’s the second lowest in the country after Alberta. Compare this to Manitoba’s 30.9 percent, British Columbia’s 26.6 percent, or Ontario’s 39.6 percent and Saskatchewan’s debt burden is relatively low, leaving the option open for maintaining current spending levels and even enhancing them.

Indeed, as the National Bank concludes in their analysis of Saskatchewan’s 2016 budget:

“Overall then, the debt burden can be deemed low (second only to Alberta), with the interest bite very manageable, contingent liabilities fairly limited, liquidity very healthy and budget flexibility/taxing room available (should it ultimately be required).”

So we have room to manoeuvre, which means we don’t have to try and balance the budget immediately as the government insists. Which means we don’t have to accept massive cuts to public services and the public sector as an inevitability.

Does that mean we don’t have to deal with the deficit? Of course not, but we can choose how and when to deal with the deficit and on grounds that are more favourable.

Let me give you an example, many of you probably remember Paul Martin’s “Hell or High-water” budget in 1995. That’s when Martin as Finance Minister in the Chretien government vowed to defeat the federal deficit “come hell or high-water.”

So Martin made probably the most dramatic cuts to health and social transfers in Canada’s history in his effort to tackle the deficit. That budget is a large part of how the federal government managed to extract itself as a full partner for funding provincial health and other social programs. So these cuts still reverberate with us today.

And like Saskatchewan today, Martin conducted his cuts during a recession – and the cuts had the effect of actually contracting the Canadian economy for a short period of time. But by 1997 Ottawa was back to surplus. So this is a success story right? Well, not if you compare it to other industrialized countries that were also fighting deficits during that period. In fact 18 other countries balanced their budgets during that same period – slightly later than Canada, but balanced them nevertheless. And they did this by either maintaining or expanding spending. How did they achieve this?

Well the economic conditions changed, the world economy recovered and in a positive growth environment its a lot easier to balance budgets – more people are working, increasing tax receipts and less are relying on social supports. So governments are bringing in more revenue while spending less. That makes fighting deficits a lot easier than in a recession when tax receipts are low and you are spending more on social supports. Indeed, as Economist Jim Stanford demonstrates, had the Chretien government merely held the line on spending and merely waited for positive growth to return, the deficit could have been balanced by 1999, only two years later, and without any of the massive dislocations caused by such traumatic spending cuts. And it’s important to note that for the most part, those cuts were never restored, even during the period of year-after-year surpluses that the federal government enjoyed.

But this is what I mean by tackling the deficit on grounds that are more favourable. It is much easier and far less painful to tackle deficits when you are in a positive growth environment.

But the second important thing to keep in mind is that implementing austerity during an economic downturn can actually hinder the return to positive growth. As I mentioned, the Martin cuts actually had the effect of briefly contracting the economy. The fact that austerity measures implemented during a downturn actually contract the economy is pretty much the received wisdom now.

Even the International Monetary Fund (IMF) – once a champion of fiscal austerity – has been forced to admit this. Assessing 30 years of evidence, the IMF unequivocally concludes: “In economists’ jargon, fiscal consolidations [austerity] are contractionary, not expansionary. This conclusion reverses earlier suggestions in the literature that cutting the budget deficit can spur growth in the short term.”

Moreover, the IMF demonstrates that adoption of austerity measures during an economic downturn is “likely to lower incomes—hitting wage-earners more than others—and raise unemployment, particularly long-term unemployment.” Such effects will have the consequence of exacerbating deficits as falling incomes diminish government tax receipts while growing unemployment puts fiscal pressure on social supports like employment insurance, social assistance, re-training allowances, etc.

Thus, attempts to cut spending to tame deficits may have the perverse effect of increasing existing deficits, as prolonged economic stagnation taxes both government revenues and social spending. In light of this, the IMF advises governments to consider delaying deficit-fighting measures until a more robust economic recovery is evident. Conversely, the IMF demonstrates that public investments – particularly in economies experiencing low economic growth – can significantly increase output, lower unemployment and actually bring about a reduction in the public-debt-to-GDP ratio because of the much bigger boost in output. In fact, the IMF concludes that government projects financed through debt issuance have stronger expansionary effects than budget-neutral projects that are financed by raising taxes or cutting other spending.

If we want a good example of how austerity can backfire and produce the very thing you are trying to avoid, we need only take a look at the United Kingdom over the past few years. In response to the deficit racked up bailing out banks during the financial crisis the Cameron government initiated an unprecedented series of austerity measures, cutting government spending across the board by ten percent, including the elimination of 300,000 public sector jobs.

What was the result, well the British economy contracted three times and debt levels went up – not down. When the Cameron government took power debt in the U.K was about 70% of GDP, today it stands at 85%. The cuts did not work – they did the exact opposite, they contracted the economy and increased the debt burden.

I know this seems counterintuitive to many, how can cutting spending increase debt?

The problem is that many governments want us to think about government finances the same way we think about our household finances.

So if I’m in debt, as long as my income stays constant, and I cut my spending, I can pay down my debt.

The problem is that the government is not a household. Cuts in one area – say public sector jobs – increases costs in other areas – say social assistance or re-training. Indeed we have already seen this here in Saskatchewan. The government just announced that because there are more people accessing social assistance programs than expected, the government needs to spend an extra $55 million.

Moreover, if people lose jobs or see their wages rolled-back, the government’s income doesn’t stay constant as tax revenue decreases as people are less likely to spend thereby reducing the government’s take on sales taxes, and if their incomes are reduced or eliminated they are obviously not going to be paying much in the way of income taxes.  Once again, the government has seen a decrease of $400 million in expected tax receipts during the downturn.

Same thing with other programs, so if you cut alternative sentencing programs, more people end up in prison. Low and behold, Saskatchewan has more people in correctional facilities than the government expected, creating the need for an extra $10.3 million.

This creates a vicious cycle where you are trying to make cuts on one side to try and outdo the increased expenses you experience on the other side.

So the government’s finances are not at all like a household. Cuts in one area can increase expenses in another, while draining revenues. We should be wary of anyone who want to simplistically equate the government’s finances with a household.

The fact is that austerity doesn’t just not work – it produces the exact opposite of what austerity is supposed to achieve. Instead of reducing deficits and restoring positive growth – it induces contraction and increases debt.

So the question must be asked, if austerity has proven to be so unsuccessful, why do governments pursue it?

As Nobel-winning economist Paul Krugman observes, the “primary purpose” of austerity,“is to shrink the size of government spending – to make the state leaner … not just now, but permanently.”

And as I mentioned before with the Paul Martin austerity budget in 1995, those cuts were never fully restored. Even as the federal government posted surplus after surplus in the years following.

So I think we need to be wary about the whole exercise of austerity because its effects are not temporary, they may very well limit the size and scope of what government can accomplish in the future.

So as we talk today about possibilities for the future here in Saskatchewan, I would ask you all to consider whether pursuing austerity right now helps or hinders real transformational change.

Simon Enoch is Director of the Saskatchewan Office of the Canadian centre for Policy Alternatives. See here for more on the failure of austerity economics.