Debt of destruction

Every second, every minute, every hour, Canada’s debt level continues to rise. How did we get into this predicament — and is there any way out?

Last summer, people all over Canada got a sobering look at our rising national debt — in real time. Launched by the Canadian Taxpayers Federation (CTF), a five-ft.-by-12-ft. digital “debt clock” mounted on a customized trailer toured through nine provinces over six weeks to show folks per-second updates of the nation’s massive outstanding dues.

“When they saw how large the number was and that it was going up by almost $1,000 every second, people were really shocked,” says CTF’s federal director Aaron Wudrick, who was tasked with driving the trailer across the country. It’s an effective gimmick the advocacy group started 24 years ago to raise public awareness after seeing a similar debt clock in New York City’s Times Square. CTF retired the clock when the Liberals balanced the budget in 1997, but felt compelled to revive it in 2011 because the Harper government had been running deficits. “The interest alone on federal debt in 2015 was $26 billion — more than Canada paid for its entire Armed Forces,” says Wudrick. “It doesn’t matter where you sit on the political spectrum — that is $26 billion we couldn’t use for other things, such as healthcare programs or transit.”

The debt picture gets even bleaker when we factor in provincial dues. According to the latest research from the Fraser Institute, Canada’s public policy think-tank, combined federal and provincial net debt increased to $1.3 trillion in 2015-’16 from $834 billion in 2007-’08. That works out to $35,827 of debt for every adult and child in Canada. Also, 9% of our federal tax dollars are lost to paying mere interest on debt. Worse still, among the provinces, Ontario is one of the largest subsovereign borrowers in the world, owing more than $300 billion. That amount could finance 400 tickets for trips to the moon and back.

So how did we get this far down the debt hole — and is there any way back up? Some experts say we’re headed for another fiscal crisis before it gets better. Many agree that left unchecked, this spending trend could turn into a permanent ball and chain on future generations.

“Politically, it’s easy to ignore debt because it’s a slow-burning problem in the background,” Wudrick says. “It’s not like getting your mortgage bill and seeing the consequences of not paying your debt. When it’s not your money, there is much less sense of urgency and the problems are only evident when you hit a crisis.”

Nevertheless, rising interest rates are an immediate concern, in Wudrick’s view. “Even if everything stays the same, [the $26 billion we are paying in interest] will eventually rise to $30 billion and taxes will go up,” he says. “[And] why would a young person want to stay here if they have to pay more taxes?”

Wudrick links Canada’s downward debt spiral to the unrestrained growth in government spending over the past decade. According to the Fraser Institute, while the federal government substantially reduced its debt between 1996 and 2008, it began running deficits over the next eight years that cumulatively amounted to nearly double what it had managed to cut. A TD bank report released in early 2016 estimated that the federal government is on track to rack up $150 billion in budgetary deficits by 2021. With an aging Canadian population just starting to leave the workforce, Wudrick believes we are headed for decades of shrinking per capita incomes and eroding wealth. He points out that there were 5.4 workers for every retiree in 2000 and by 2030 there will be only 2.7. “So consider there will be far more people receiving benefits like CPP and fewer people to carry the burden,” he says, adding that eventually our pension program may simply go bankrupt.

“There are people who think we should spend more in a downturn, but that shouldn’t apply now that we’re not in a recession,” says Wudrick. “Government has chosen to ignore this and focus on spending and it’s going to come back to bite us.”

That said, we’re not the only spending hounds around and Canada hasn’t quite made the world’s top-10 list of over-indebted countries. According to the Organization for Economic Co-Operation and Development, we rank 11th out of 32 developed countries with the highest total gross debt to GDP (which includes debt from all levels of government). Meanwhile, in October 2016 the International Monetary Fund (IMF) reported that the global debt of the nonfinancial sector (comprised of government, households and nonfinancial firms) has hit an all-time high of US$152 trillion or 225% of the globe’s gross domestic product. In terms of government debt, Japan leads the pack with a debt-to-GDP ratio of more than 200%.

Globally, only about a third of advanced economies have made inroads in improving general government net worth (including reducing their debt) since 2012, and those inroads have been minimal at best, according to the IMF. And we have low interest rates to blame for it. Initiated by central banks to counter the effects of the global financial crisis in 2007-’08, this prolonged period of low interest has created an environment that makes it more challenging to tackle outstanding debt: with interest rates so favourable, there’s no incentive to pay back our dues any time soon. The money being spent on servicing this debt means less revenue for priorities such as tax relief and spending on social services and healthcare.

Danielle Park, president and portfolio manager of Venable Park Investment Counsel, a chartered financial analyst, regular media commentator on global money matters and best-selling author of Juggling Dynamite: An Insider’s Wisdom about Money Management, Markets and Wealth that Lasts, says paying down debt is contra to our DNA. “Everywhere you look around the world, when cash flow is great, people spend their brains out and borrow more,” she says. “It would be wonderful if instead they paid down debt and built up savings, but as a whole we just don’t think that way.”

While some argue that countries, unlike individuals, have an infinite lifespan to borrow and repay debt, Park says reckless spending on a national level that doesn’t improve a nation’s productivity over the long term will result in major inefficiency and waste. “We saw it in 1993 where we had a federal debt crisis in Canada when our interest rates spiked because we had too much debt relative to our GDP,” she says, adding that historically that has been the case in every country. “Yes, there is an intelligent amount of borrowing that can go on to invest in a long-term asset such as a railway, but that’s entirely different than borrowing money to bail out banks time and time again, for example, because they have been doing reckless things.”

Park points to the example of China, which accumulated US$4 trillion from selling goods to the West. When the economic downturn hit, the Chinese government stockpiled its warehouses with raw commodities that it bought from various countries, intending to use them to make products that it would sell to the West when consumption came back. But it never did. “Rather than tackling their debt or doing things to promote productivity in their own country, they were up to their eyeballs in commodities and are struggling with that to this day,” she says.

Similarly in Canada, the federal government announced a stimulus package in 2009 to rouse the economy after the global recession. “And Canadian consumers went back to spending and overinvesting in housing with borrowed money.” In fact, it’s this overborrowed middle class that Park worries about most. “Rising interest rates will have a huge impact and the debt in the system is taking money away from programs they rely on, such as education and healthcare,” she says.

Total General Government Debt, 2014

Credit makes everything more fragile, says Park, because there is less flexibility to withstand any shock when the economic tide turns — which it will. She says the credit crisis of 2007-’08 was never really resolved and will come around again in full force soon enough. “If we’d used the money to invest in infrastructure, that would have been constructive,” she says. “But we are incredibly brittle today.”

Brigitte Alepin, FCPA, FCA, is a tax policy expert whose book The Coming Fiscal Crisis inspired an award-winning 2014 documentary about the tax havens used by large corporations to dodge their fair share of taxes (i.e., the statutory rate the government has mandated, whatever that may be). She too thinks we are in danger of another fiscal crisis primarily because we have a tax system that is no longer working. “In Canada, we are borrowing instead of making sure our multinationals are paying their fair share of taxes,” she says. As a result, individuals and small to medium-sized businesses are led with an unsustainable burden to carry.

Charles Lammam, director of fiscal studies at the Fraser Institute, says Canada has moved away from an unwritten rule to balance budgets in times of economic growth and this could come back to haunt us. “We have yet to get back on track despite the fact as a whole we’re not in a recession anymore,” he says “And debt is like quicksand — once you’re in it, it’s even more difficult to get out.”

This overspending trend is a serious provincial issue as well, notes Lammam. In addition to Ontario’s massive debt, Alberta is expecting deficits until 2024. And while BC, Quebec and Saskatchewan aren’t in as much trouble as the other provinces when it comes to fiscal management, he says the country is on a problematic path forward. “During the last recession, [most of Canada] was in a balanced budget situation and had engaged in major tax relief,” says Lammam, noting Prince Edward Island as the one exception with a deficit. “But this time we’re not in a sound fiscal state to weather the storm like we did in 2008.”

Even without another recession on the horizon, Lammam points to the fact that $62.8 billion paid annually on the interest on provincial and national debt (up from $60.8 billion in 2014-’15) is money not spent on social services and other programs that Canadians value. That is more than government spends on annual pension benefits. In fact, according to Generation Screwed, the youth arm of CTF, our current debt could pay the post-secondary tuition of every student in Canada for 170 years.

Debt interest payments compared with key spending programs 2014-15

Given our aging boomers leaving the workforce and a shrinking pool of taxpayers, Lammam says there is real concern about the kind of government programs (i.e., pensions and social services) that will be sustainable in the future and whether the next generation will be able to carry the debt we leave behind. In fact, some economists believe the next debt-paying generation will be forced to work longer hours and will still be unable to provide their children with the opportunities they had growing up — including post-secondary education and the ability to finance major purchases such as a first car or home.

Lammam also notes that while our federal government is pursuing deficit spending that will purportedly drive long-term economic growth, only 20% is being spent on new infrastructure. Of that 20%, most spending is going toward “social and green infrastructure” such as arenas and parks rather than building more efficient transportation. “While some Canadians will derive value from [parks and arenas], it’s very unlikely they will spur long-term economic growth,” says Lammam.

So where do we go from here? Alepin thinks our tax system is in need of a major overhaul. To put things in perspective, while the share of government revenue derived from personal income tax has risen to 38% from 20% between 1955 and 2014, she notes that the proportion raised through corporate income taxes declined from 18% to 10% during that time. “Maybe corporate and personal income taxes, for example, shouldn’t have the same importance as they did in the last century because it’s now too difficult to tax with e-commerce and intangible wealth and tax havens,” she says. “We will always have these taxes, but maybe they would be part of a bouquet of ways we tax people that would also include green and tobacco taxes, among others.”

Alepin also expects that the reign of Donald Trump across the border will be “a complete game changer” in international tax competition. “As tax advisers we have to understand that the US may start to look like a more tax friendly option for our clients if US corporate tax rates go down as promised,” she says. “To be true leaders, we should be promoting tax collaboration so we can find solutions.” Alepin is so passionate about the subject, in fact, she founded Quebec-based TaxCOOP, the first neutral, international conference dedicated exclusively to tax competition, now in its third year running.

At a time of economic uncertainty around the world, Canada should stay nimble, says Joy Thomas, president and CEO of CPA Canada. With our country’s economic fortunes susceptible to factors beyond our control, including the state of the global economy, financial markets and oil prices, she says program spending must be closely monitored. “There is always uneasiness when a government turns to deficit financing,” she says. “It’s always important to have some fiscal room to respond to the unknown.”

CPA Canada believes that strong management of government finances, along with accountability and transparency, are crucial to ensuring that Canada can support essential programs, finance its plans and debt obligations and minimize the burden for future generations. “Sound fiscal policy measures instil confidence in consumers and investors, create opportunities for growth and prosperity, and enhance the competitiveness of Canada,” says Thomas.

Fred O’Riordan, national adviser, tax services at EY in Ottawa, who spent 20 years with the Canada Revenue Agency, says it isn’t time to sound any alarms just yet: “Objectively, Canada is in reasonably good shape internationally, and even in an enviable position compared with other G7 countries, such as Japan and the US.” He believes the government’s investments to stimulate the economy and spur growth over the long term have some validity, as long as they are properly targeted. If anything, he worries that private debt might become the bigger issue for overexposed borrowers. “There are valid reasons to keep interest rates down if you think it will damage the economy to raise them, but it’s sending the wrong signal to consumers to keep spending,” he says. In fact, consumer spending was up 4.8% by the third quarter of 2016, according to a report by Moneris, one of North America’s largest processors of debit and credit payments. Fast food, furniture and sports apparel saw the biggest increases in year-over-year spending during the quarter.

An advocate for financial literacy, O’Riordan says making sure Canadians are more educated about their financial affairs and the economy as a whole could be a very viable way to improve Canada’s economic outlook. “I’m not naive in thinking that everyone is going to grow up to become an economist like me, but it’s so important to be informed for your own ability to save and manage money properly,” he says. “When people aren’t informed about financial affairs they tend to be myopic in terms of their life-cycle financial planning and decision-making.”

Federal and provincial governments have to be just as accountable when it comes to expenditures. Are they spending wisely? Does government instil a culture of continuous process improvement? Is there a good return on investment over the long term? “These are the types of questions that must be asked,” says Thomas.

Wudrick suggests a government spending review every five years to analyze exactly what money is going out the door and if it’s being used effectively. “Just like in our own households, the government has to be accountable and the simple fact is, you can’t control debt if you can’t control spending,” he says. “At the end of the day, if you borrow money you have to pay it back eventually — there’s no free lunch in this world.”