With the Canadian government’s high debt-to-GDP ratios, such as a ratio of debt to nominal GDP
sitting at 68 percent in March 2023, economists warn that government debt could become unsustainably high if Ottawa fails to reduce spending, increase productivity, and re-establish business confidence.
“We’re not growing our income per capita, which means that we’re not going to get the tax revenues that we need, plus we’re getting a lot of people retiring. So the situation could end up becoming quite unmanageable if we keep our pace that we’re going,” said Jack Mintz, president’s fellow at the University of Calgary’s School of Public Policy.
The federal government has run back-to-back budget deficits since the 2008 financial recession, with government spending spiking during the COVID-19 pandemic. As a result, Canada’s debt as a percentage of nominal GDP rose from around
51 percent in 2009 to 74 percent by 2021, for example. Nominal refers to the current value for the particular year without taking inflation into account.
The two previous federal budgets have attempted to lower government spending, but the federal government
will still post a $40 billion deficit in 2023
–24, which they project will shrink to a $20 billion deficit by 2028
–29.
The Liberal government’s response to criticism by the
opposition that Canada’s debt could lead the country into a financial crisis has been that Canada has among the best debt-to-GDP ratios in the G7.
According to Mr. Mintz, while Canada’s debt situation is not as bad as it once was, it doesn’t mean that it may not impact Canada’s prosperity prospects.
Mr. Mintz points out that Canada’s debt situation is not nearly as bad as in 1996. The government’s ratio of debt to nominal GDP ratio reached
83 percent that year.
Mr. Mintz also noted that Canada continues to have a triple-A credit rating according to the world’s
leading credit agencies, meaning the country’s debt is not yet seen as problematic.
“We’re still viewed as having a much better credit line compared to a number of other countries. ... But at some point, the credit agencies might look at that gross debt number and start asking the question, ‘Is it starting to become unsustainable?’” he said.
Lower Productivity Hampering Debt Payments
The federal government’s ability to pay off its debt could be hampered by low productivity, according to Steve Ambler, professor emeritus of economics at Université du Québec à Montréal.“The thing that worries me in terms of federal government debt is we are currently in a period of extremely low productivity growth and low overall growth,” he said.
In March, the Bank of Canada’s senior deputy governor
Carolyn Rogers warned that Canada’s poor productivity had reached emergency levels. Although Statistics Canada said the country’s labour productivity showed a small gain at the end of 2023, that came after six consecutive quarters of productivity decline.
Mr. Ambler said an appropriate way to lower the debt-to-GDP ratio is to keep government spending from increasing while also raising productivity to increase tax revenues. He said this was the strategy of Prime Minister Jean Chrétien, whose Liberal government established a budget surplus in three years by growing the economy and keeping government spending stagnant.
To lower Canada’s debt-to-GDP ratio, Mr. Ambler said the government should focus on increasing worker productivity, allowing its resource sector to grow, and easing back on discretionary spending.
He also cited a November 2023 C.D. Howe paper showing that business investment per worker in Canada
has shrunk relative to the United States since 2015. Investments such as better tools for workers would increase productivity, while productivity growth would in turn create opportunities and competitive threats that spur businesses to invest, the paper said.
“Re-establishing business confidence would be almost the number one priority, especially in the resource sector,” Mr. Ambler said, adding that a future government might also be wise to lower the feds’ “wildly extravagant subsidy programs” for the electric vehicle (EV) sector.
The Liberal government has given tens of billions of dollars in subsidies for EV manufacturing projects in Canada since 2020, saying the factories will eventually create thousands of new jobs.
‘No Cushion’ to Mitigate Debt Issue
Joseph Barbuto, director of research at the Economic Longwave Research Group, has a more pessimistic view of Canada’s debt. He says that while federal debt is at levels similar to the 1990s, the crisis will be “larger” because the government does not have the “fiscal room to mitigate the downturn.”
Mr. Barbuto said that while the Canadian government was able to help alleviate its debt issues in the 1930s and 1990s by lowering its interest rates, it does not have that same luxury in 2024. The Bank of Canada lowered its key policy rate from 1.25 percent to 0.25 percent in 2020, and was forced to raise it to 5 percent by 2023
in response to rising inflation.
“There’s no interest rate cushion on the other side. Interest rates can only fall back to zero,” Mr. Barbuto said, noting that higher interest rates make it more difficult for governments to service their debt.
“The problem with the monetary system is there’s no fiscal discipline that is pushed on governments, unlike [individuals] or corporations,” he said.
“There will be a point where because of the accumulated interest with rising interest rates, eventually it’s going to overwhelm the government and then people will not lend the government any kind of capital.”
Mr. Barbuto also expressed concern over Canada’s private debt-to-GDP ratio. Private debt refers to debt owed by private, non-financial entities such as businesses and households, as opposed to public debt owed by governments and banks. Canada’s ratio of private debt to nominal GDP sat at
217 percent in December 2023 compared to 124 percent in 1995.
Mr. Barbuto said Canada’s private debt-to-GDP ratio is higher than that of Japan’s in the 1990s, and pointed out that the Japanese economy had
stagnated after the country’s
asset price bubble burst in 1992.
The research director believes the Canadian economy will eventually see a debt crisis and collapse in real estate that will result in austerity measures, a shrinkage in the size of government, and the “creative destruction” of the old political and economic system. He said this would be the continuation of an economic cycle that has repeatedly happened throughout history.
“[It’s] inevitable and necessary. A debt detox or deleveraging is the same thing as a drug detox. Nobody likes it, ... but it’s a necessary part of the cycle for it then to go back up,” he said.
