Two federal budgets, one problem—spending

It’s federal budget season in Canada and the United States, with a common feature—fiscal planning driven by aspirations.

Both federal governments plan major expenditure increases designed to promote objectives that, in the end, will mainly result in deficits and the accumulation of even more government debt. Moreover, despite the claims of investing in infrastructure, both countries share an emphasis on current consumption in the form of transfers designed to curry the support of middle-class voters

President Trump has proposed a budget that calls for increasing spending on the military by 10 per cent—an increase of $54 billion—that he expects to pay for by reducing spending on education, environment and science programs while maintaining spending on transfers such as social security and Medicare.

This is in itself an interesting mathematical proposition given that Medicare and health occupy about 27 per cent of federal spending, social security and unemployment together account for another third, and defense about 16 per cent. Meanwhile, education accounts for 2 per cent of the federal budget, energy and the environment 1 per cent, and science 1 per cent.

Moreover, the U.S. federal government has not balanced a budget in years, and from 2002 to 2016, has accumulated about $11 trillion in deficits. Indeed, the gross federal debt has grown from $5.6 trillion in 2000 to nearly $19 trillion in 2016. While part of the problem has been a slow economy and its effect on revenues in the wake of the 2008-09 recession along with increased military spending in the wake of 9/11, it nevertheless remains that there’s a persistent structural imbalance between revenues and expenditures.  

Between 2002 and 2016, the average annual rate of federal revenue growth was 3.9 per cent while spending grew at 4.9 per cent. Based on the Congressional Budget Offices January 2017 forecast, federal spending will rise from $3.9 trillion in 2016 to reach $5.1 trillion in 2022 for an annual average increase of 4.9 per cent while revenue growth is expected to average 4.2 per cent.  

As for Canada, Prime Minister Trudeau’s government’s mantra of planning for middle-class progress risks saddling future generations of taxpayers with higher taxes needed to service runaway spending and a vast accumulation of debt.

According to the most recent economic update, by 2022, the Trudeau government will have accumulated approximately $130 billion in deficits and the gross federal debt will approach $1.2 trillion.

While Canadian deficits can also be partly attributed to slower economic growth, the bigger culprit is rising spending. Despite a “slowing” economy, revenues from 2016 to 2022 are expected to grow at an annual average of 3.3 per cent while expenditures will grow at 4 per cent. Moreover, the increase in spending appears largely to be a structural shift—that is a permanent upward shift in spending mainly fuelled via an increase in transfer payments to individuals and provincial governments.  

In both Canada and the U.S., the projections appear to see federal government expenditures growing faster than revenues for some time. Despite the claims of a weak economy affecting revenue growth, both countries have seen federal revenues grow at a rate faster than inflation. The problem is that no matter how much faster revenue grows, spending seems to grow faster. While both countries say they want to help their middle class, doing so by running deficits only hurts the middle class in the long run when higher taxes are brought in to deal with the higher debt load.

Both countries are on the road to debt problems, which have remained on the back burner because the low interest rate environment has kept debt charges lower than they otherwise would be. As a share of federal spending, debt interest takes up about 9 per cent in Canada and 11 per cent in the U.S. Of course, the fiscal situation can worsen quickly if interest rates start to increase and revert back to more normal levels.