PAYING (or not paying) FOR ELECTION PROMISSES-UPDATED
With Parliament recessed for the summer and an election call imminent, all three major political parties will now spend the coming weeks making new election promises. All of these promises - past and future - will cost taxpayers a great deal of money. The question is how will they pay for them?
Despite the unforeseen fall in oil prices in 2014, the Conservative government, with a lot of slight of hand (reduction in contingency reserve, selling GM shares at fire sale prices, optimistic economic and oil price assumptions), produced a budget in April that financed its pre-election promises (tax cuts), while still leaving a surplus of $1.4 billion in 2015-16 rising to $4.8 billion in 2019-20.
Unfortunately for the Conservatives, the surplus forecast for 2015-16 no longer exists and those for the outer years are at risk.
Statistics Canada has reported that economic growth has declined for four months in a row (January to April). Private sector economists have now revised down their forecasts of real GDP growth for 2015 by about 0.6-percentage points, while the IMF cut its from 2.2% to just 1.5%. Finally, the Bank of Canada recently cut its forecast for this year to 1% from 2%, and acknowledged that the economy had contracted in the second quarter. This would confirm that Canada had been in a “technical” recession since January. Prospects for the remainder of the year remain very uncertain.
The public reaction to these developments by the Prime Minister and Joe Oliver has been similar to the Prime Minister’s reaction in 2008 - just ignore what is going on and maybe they will go away. But they won’t.
The Department of Finance estimates that a reduction in real economic growth of 1.0 percentage point would result in deterioration in the budget balance of about $4.0 billion. This would wipe out the projected surplus of $1.4 billion this year along with the $1 billion Contingency Reserve, resulting in a deficit of $1.6 billion. This is not good for the Prime Minister.
This means the Conservatives face a big political problem of their own making, since for years they have built their “brand” as sound economic managers on eliminating the deficit in 2015-16. This isn’t going to happen. They could claim right up to the election that there will still be a surplus this year. But this claim will not be sustainable.
The Conservatives can try and find credible excuses. However, there aren’t any. They cannot blame external economic developments for the ‘unexpected’ slowdown in the economy and the elimination of the surplus this year since these same external economic conditions existed at the time of the April budget. Despite this, they still reduced the Contingency Reserve from the normal $3 billion to only $1 billion. This was done solely to pay for their increase to the Universal Child Care Benefit, income splitting and other initiatives announced in the November Update and April Budget. Nor can they claim that growth in second half of the year will be stronger than forecast because of the October fiscal actions since the effects of these measures were already included in the budget forecast. Notwithstanding all their “creative budget accounting” tricks, the measures announced since last fall will put the budget into a deficit for 2015-16.
Nevertheless, based on an assumption of an economic recovery in 2016, the “adjusted” budget projections could still show surpluses beginning in 2016-17 and rising to $4.8 by 2019-20. Even this forecast has to be taken with a grain of salt since it is based on a very optimistic oil price assumption and a strong and sustained recovery in economic growth. Without these assumptions, the budget would be in deficit over the forecast period.
These “remaining” budget surpluses are available to all three parties to pay for election promises.
All three leaders have “promised” that their policy platforms will not lead to future budget deficits. Apparently the one thing Harper, Trudeau and Mulcair can agree on is that deficits, no matter how small, are bad. This leaves raising taxes or finding new funds through reallocations of existing spending and revenues to fund their election promises.
For the Conservatives, other than blowing the surplus in 2015-16, this should not be a problem since they already have funded most of their election promises (income spitting, enhanced UCCB; raising the TFSA limit; infrastructure and transit spending; cut in small business tax rate; extension of accelerated depreciation) in the April budget. They still have some budget room left over in the outer years for small election promises in the coming weeks.
The situation is more difficult for the Liberals. They have rejected raising taxes and therefore will need to find major revenue and expenditure reallocations to fund their election promises if they want to avoid a deficit.
The Liberals are doing just that but they will need to do a lot more. First, there has been the proposed creation of the Canada Child Benefit and the cut in the middle tax rate from 22% to 20.5%. According to estimates provided by the Liberal Party, these two initiatives would cost $7 billion annually (beginning in 2016) over the next five years.
The Liberals are proposing to pay for these by eliminating a number of Conservative promises: income splitting for families with children under eighteen and creating a new tax rate for anyone earning over $200,000. They have also indicated that they would keep the maximum annual contribution to the TFSA at $5,000. These three revenue reallocations would raise about $1.3 billion in 2015-16 rising to $5.5 billion in 2019-20.
Second, the Liberals have made a number of major proposals with respect to environmental policy, although little detail has been provided and most of the proposals have not been costed. Based on information provided by the Liberals, the cost of these proposals amounts so far to a little over $400 million annually.
Lastly, the Liberals have recently announced major policy proposals in support of Aboriginals; the most important being a commitment to eliminate significant “gaps” between Aboriginal and non-Aboriginal Canadians. The Liberals provided no costing, but stated they would remove the existing cap on annual spending increases of 2 %. Paul Martin in his Kelowna Accord, amounting to $5 billion over five years, made a similar commitment to eliminate “gaps”. It would be difficult for Trudeau to commit less. Assuming this to be the case the new Aboriginal commitment could result in a financial commitment of about $1 billion annually.
Combining all sources of revenue with the remaining adjusted surpluses from the April budget (a deficit of $1.6 billion in 2015 and a surplus of $4.8 billion in 2019-20) would result in a deficit of around $266 million in 2015-16 turning into a surplus of $10.3 billion in 2019-20.
Subtracting the cost of policy announcements to date would increase the deficit to around $2.0 billion in 2015-16, followed by three more years of deficit and a surplus of around $2 billion in the fifth year. Since our numbers do not include all the costs of existing Liberal proposals, it is clear the Liberals will need to find new funds through spending and revenue reallocations to finance existing promises, let alone any new announcements in the coming weeks.
For the NDP, the situation is somewhat better since they have indicated they would raise the general Corporate Tax Rate (CIT) to pay for major election promises. However, the NDP proposals have also been short both on costing as well as how they will be financed. NDP commitments include a two point cut in the small business tax rate (already implemented in the budget by the Conservatives); extension of the accelerated capital cost allowance for two years (also already implemented by the Conservatives); an innovation tax credit for machinery used in research and development; an additional one cent of gas tax for the provinces for infrastructure; a transit infrastructure fund; increased funding for social housing; a major child care initiative; increasing ODA funding to 0.7 per cent of Gross National Income (GNI); and restoring the 6% annual escalator to the Canada Health Transfer.
The last three proposals are by far the most expensive. According to the NDP, it would take eight years to reach their goal of a million childcare spaces, at an annual cost of $5 billion when fully implemented. No cost estimate or timetable has been provided as to when the target of 0.7 percent of GNI for ODA funding would be reached.
This is not surprising given that the federal government currently spends about $4.5 billion annually (0.24 % Of GNI) on international assistance. Increasing this ratio to 0.7% of GNI implies a tripling of the current cost to about $13 billion and rising every year thereafter.
Increasing the CHT back to 6% per year, would cost an incremental $600 million in 2018-19 rising to about $2 billion by 2019-20.
The cost of the NDP proposals could amount to around $800 million in 2015-16 rising to roughly $11.5 billion in 2019-20. These estimates assume child-care costs of $2.5 billion and incremental funding for ODA of $ 4.2 billion in 2019-20 (a gradual increase in funding over 10 years).
To fund these promises, the NDP are proposing to increase the general corporate tax rate, but have not indicated by how much. A one-point increase in the general CIT would yield about $1.8 billion annually. We have assumed a phased increase of two points in the CIT raising the rate from 15 per cent to 17 per cent. Like the Liberals, the NDP would repeal income spitting and maintain the existing maximum annual contribution to the TFSA. Based on these assumptions total available funds from these three initiatives would be about $1.2 billion in 2015-16 rising to $6.2 billion in 2019-20.
Adding this to the remaining budget surplus leaves a shortage of $400 in 2015-16, rising to a surplus of $11 billion in 2019-20.
Subtracting NDP existing election promises from available funds would leave a deficit of around $1.3 million in 2015-16, surpluses of about $2 billion in each of the next two fiscal years and small deficits thereafter.
Certainly changes can be made to the above spending and revenue estimates, but they would not change the fundamental conclusion. Given recent economic developments (which suggest there will be a deficit this year) and global uncertainties, together with a commitment by all three major political parties to balanced budgets and no tax increases (other than the NDP), it would be “fiscally challenging”, for any political party to make new major election “promises” in the coming weeks. All three political parties are at risk of failing to meet their balanced budget commitments. Indeed if the contingency reserve was restore to its normal level of $3 billion annually the platforms of all political parties would be in deficit.