The Broadbent Blog


Federal budget should deliver a major boost to sagging economy

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The economic outlook for 2016 is dismal, but things do not have to be quite as bad as recent forecasts suggest if the new federal government delivers on its its promises of fiscal stimulus. However, it will have to select its priorities carefully.

The November Economic and Fiscal Statement cited an average forecast of just 2.0% growth in 2016 by private sector economists. The International Monetary Fund, with a forecast of 1.7%, is even more pessimistic. Unemployment is expected to remain close to 7%.

The more recent plunge  in the exchange rate of the Canadian dollar to well below 75 cents US shows that financial markets expect our economy to significantly under-perform the United States, not just next year, but for an extended period.

To some degree, this is outside of our control given that conventional monetary policy is just about as stimulative as it can get; that deeply depressed commodity prices are set in global markets; and the fact that Canadian households are highly indebted, while corporate Canada remains highly reluctant to invest.

Fiscal policy could, however, make a significant difference. Many economists have accepted the classical Keynesian argument that the federal government should stimulate growth and job creation at a time when interest rates are very low and the economy is, according to the Bank of Canada, still operating well below potential.

The new federal government has promised to boost infrastructure investment by $5 billion next year, equally divided between public transit, and “green” and “social”  infrastructure, including water and waste water treatment, clean energy, affordable housing and child care facilities. The government is prepared to run a total deficit of at least $10 billion in 2016 to fund other promises such as the so-called middle class income tax cut and higher child benefits.

A study by the Centre for Spatial Economics (CSE) recnetly looked at the economic impacts of public investment in basic municipal infrastructure and transit. The results suggest that a $10 billion increase in infrastructure investment could boost GDP by a significant 0.7% after a year, and create some 94,000 additional jobs.

The Department of Finance estimates that infrastructure investment has an even higher multiplier impact of 1.5 after one year, meaning that each $1 spent boosts GDP by  $1.50. This is much more than a multiplier of  0.9 for personal income tax cuts. These impacts are said to be even greater when, as now, interest rates are effectively as low as they can go.

Public infrastructure investment has a much greater short term impact on growth and jobs per dollar spent than tax cuts since the import content is low and there is no leakage to higher savings. Increased income benefits for low income households, as through the proposed new system of child benefits, also have a relatively large impact on GDP.

The CSE study also found that in the short term the federal and provincial governments would each gain over 40 cents in additional revenues for every dollar of infrastructure investment, to a total of 88 cents per dollar spent. In the long run, governments would recoup almost all of the increase in investment by boosting productivity in the business sector and thus the future tax base.

The key point is that a 2016 federal budget heavily tilted towards infrastructure investment and higher benefits for low income households would give a significant boost to growth and job creation. The new government could and should give priority to areas of spending which have the greatest economic impact at the lowest net fiscal cost. This does not include tax cuts for the relatively affluent.

The new government should also break with the convention of not including the impacts of the budget itself on projected economic performance and on the tax base. The ground for this change was set by the former Harper government which reported on the significant positive impacts on GDP and employment of the economic action plan introduced to fight the recession in the 2009 budget.

Some will argue that we cannot afford more spending as the federal government falls into deficit due to a deteriorating economy. But well chosen new investments could give a major boost to growth and jobs, and be at least partly self-financing due to higher revenues.

Andrew Jackson is Adjunct Research Professor in the Institute of Political Economy at Carleton University, and senior policy adviser to the Broadbent Institute.

Photo: Chris Potter. Used under a Creative Commons license.