Suppose that Canada does go into recession, either this month or in the months to come. What policy instruments are in the arsenal?
- The automatic stabilisers: Taxes will fall with revenues, and expenditures will rise as unemployed workers start drawing on employment insurance benefits. (There are of course other mechanisms at work here.)
- Monetary policy: The Bank of Canada has cut its interest rate have by 250 bps since the credit crunch started last summer, and there is still space for further cuts.
Which brings us to discretionary government spending. There is of course a strong case that can be made for increasing discretionary spending in a recession, and the case is even stronger for a country that has been running surpluses for more than a decade. But that's only if you think the fiscal multiplier is positive.
Readers of a certain age who happened to be paying close attention to Ontario politics at the time [Oh come on, there must be someone out there who remembers this - ed.] may recall Floyd Laughren's line about choosing to 'fight the recession, and not the deficit' in one of his budget speeches during the 1991-92 recession. The problem was of course that Ontario is far from being a closed economy, and whatever fiscal stimulus that the Ontario government could generate would leak outside its borders, with essentially no effect on the Ontario economy. The only thing Bob Rae's NDP government got out of the exercise was a scary deficit. (I should mention here that I don't want to be too hard on Rae or Laughren: they were dealing with a very tough situation, and both acknowledged that they had made a mistake ex post.)
Which brings us to this graphical representation of some of the results from Roberto Perotti's paper 'Estimating the effect of fiscal policy in OECD countries' (the graph comes from the IMF):
It would appear the the import leakage story for government expenditures carries over to Canada as a whole over the past 30 years: if anything, the cumulative effect on GDP of increasing government spending was negative. Curiously, the effect of tax increases has the opposite sign.
I'm not keen on tax cuts as a countercyclical move for two reasons:
- They're hard to cancel when the need for them goes away.
- Since low-income households don't pay much in taxes, tax cuts are rarely progressive.
(Yes, I'm aware of the point of how people may simply save the tax cut and not spend it; I'm not entirely sure why I should view that as a bad thing.)
But the case for spending doesn't look much stronger: the only people who would benefit are likely to be the best-connected special-interest groups. If a MP really wanted to help the people of her riding, she should resign and force a by-election - government money would rain down on her constituents like so much confetti.
Here's what I'd like to see:
- No mention whatsoever of increasing government spending as a counter-cyclical measure - that sort of exercise is pretty much futile.
- Broadening and strengthening the safety net. For example, there are many workers who would not be eligible for benefits if they lose their jobs. If these measures result in a deficit, so be it.
I don't see any point in Canadian governments trying to fight a global recession. They should adopt a defensive position and do their best to protect Canadians from the worst of its effects.
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