A brief history of the federal budget surplus

It seems very likely that - for the tenth consecutive year - the federal government will run a healthy surplus in FY2006-07. For those of a certain age, it is perhaps difficult to believe that large surpluses have become a standard feature of the economic policy background. How did this happen?

It's now been so long since deficits were a problem that even their scale is diminished by distance. A deficit of - say -  $37b would be viewed as a serious problem even now. But in 1985, when we actually hit those depths, the problem was much worse. Since 1985, the economy - and therefore our ability to generate tax revenues - has grown, and inflation has eroded the real effect of a nominal deficit measured in the tens of billions of dollars. There many ways of providing a scale to the numbers that follow. I'll use two: per cent of GDP, and per capita 2006 dollars. (It turns out that it actually does make a difference which one you use.)

First up is the federal surplus/deficit:

By any measure, the scale of the deficits that ran for the span of a generation were huge. And the arithmetic of deficits and debts took its remorseless toll:

Not that the deficit was completely ignored for a generation. If you look at the operating surplus (the difference between revenues and program expenditures, without debt charges included) there were a couple of serious attempts to deal with the deficit, but they fell victim to the recessions of 1983 and 1991:

Even though the operating budget stayed in surplus during a severe recession in the early 90's, the deficit still continued to rise as debt service charges rose. The Bank of Canada's attack on inflation - and the high interest rates that accompanied it - didn't help:

By the time the Liberals took power in 1993, debt service charges alone were on the order of $2000 per capita in terms of 2006 buying power. The turning point came in Paul Martin's 1995 budget, and the measures it introduced produced a surplus within two years. How did they do it? Spending cuts or tax increases?

If you look at a graph of program spending and revenues, you'd conclude that taxes went up, while spending stayed the same. Real per capita program spending is pretty much where it was 25 years ago, but we're paying $2000 more per capita for them:

But if you look at GDP shares, you'd conclude that revenues stayed fairly steady at around 16%, while program spending has fallen by 4 percentage points since the mid-90's.

After ten years of surpluses, we can perhaps breathe a little easier. The debt is less and less of a burden, and the cost of servicing it is almost back to what it was in the 1960s. So now that the deficit is not the burning preoccupation it once was, we can start thinking of other priorities. Do we look at the second-last graph and decide to cut taxes? Or do we look at the last picture and decide to increase spending?

Update: See also this post, which updates these numbers up to the 2009-10 fiscal year.

Comments

[EclectEcon]

One major reason for the drop in federal gubmnt expenditures was the huge decline in nominal interest rates, which lowered the interest payments on the debt. Getting inflation under control in the 1980s, thus lowering nominal interest rates eventually, was important in this realm, too.

[Adam]

How 'bout, whichever graph we look at we cut useless (at best) and harmful (at worst) spending and give us back our own money?

[happyjuggler0]

Why do taxes need to be cut or spending increased simply because there is a budget surplus? Your second chart, blue line, seems to me to be the most relevant if one is simply interested in the "health" of Canada's public finances. How about getting back to "normal", as defined by the debt as a % of GDP years of ~10%? The discipline of getting to that point would tend to hold back noninvestment budget moves by parliament. Here I'm thinking of physical capital investments (private or public) and human capital investments being potentially good, everything else bad.

That said, I'd love to see Canada reduce its corporate tax rate as much as is politically feasible to do so, ideally eliminating it, or at the very least being comparable to Ireland's rate, which one would think worthy of emulation given their history. After adding in the provincial corporate tax rates, as well as the hari-kari corporate capital tax (why does that monstrousity still exist?), Canada has one of the very highest corporate tax rates in the entire world, not just the developed world. (The US also has one of the very highest, which perhaps explains why more Canadians don't realize this).

Somewhere in your archives you have a post or two on the incidence of corporate taxation. Not only does this fall heavily on the average Canadian, but if countries like Ireland, Estonia, and the rest of the formerly communist European countries is any guide, corporate taxation is highly detrimental to economic growth. Additionally, as you mentioned in your archives, those on the Left ought to seriously consider the case of the Nordic/Scandanvian countries which have high personal income tax rates and low corporate tax rates, while at the same time it seems obvious to this libertarian that those on the economic right ought also to welcome low or no corporate taxation.

Just who exactly is in favor of corporate taxation when the reasonably successful welfare state countries and also the more economically free countries such as Estonia, Hong Kong, and Singapore all seem to do best with low corporate taxation?

[Brett]

Earnest question: When you say they cut spending, does it really mean that the spending was cut or merely that it was shifted to the provinces and cities?

[Stephen Gordon]

Both.

[shan]

"Do we look at the second-last graph and decide to cut taxes? Or do we look at the last picture and decide to increase spending?"

How about we look at one that shows revenues vs. total expenses including debt service, and realize that there's not nearly as much room as implied by those two charts to do much of either without going back into deficit? As expected, the answer from the government is to do some of both. I'm sure they'll get rid of that troublesome surplus in no time.

[sf]

Yes, a proposal to increase spending is ridiculous without identifying what it should be spent on. The simple idea that we need more spending, typical of a government in Canada, is backed only by their desire to appear powerful before the people, hand out pork and win elections. The idea that spending should be restricted to those things for which government spending has proven to be effective has been completely lost in the dialogue.

[Laurel]

Which political party wracked up the most debt?