Lessons for United States from Canada's "Basket Case" Moment

November 29, 2011

In 1994, the federal government of Canada in Ottawa faced drastic funding issues.  After the big-government era of the 1970s, lawmakers were having trouble financing Canada's burgeoning national debt, largely because its deficits each year were substantial.  Economists repeatedly called for austerity, recognizing that the more deficits that continued unchecked, the larger the debt would become and the more trouble Canada would have making interests payments in the future.  However, it wasn't until the drastic spending cuts and moderate tax increases of 1994 and 1995 that the Canadian central government took the steps to get its budget back in the black, says Reuters.

  • Though Canadian debt remained around 29 percent of gross domestic product (GDP) in 1980, this figure shot up to 68 percent in 1995-1996 -- it eventually fell to a much more manageable 29 percent today.
  • Though several more moderate budgets were proposed earlier in 1994, the final deficit cuts that came into law set a seven-to-one ratio between spending cuts and revenue increases.
  • Cuts were characterized by periodic freezes and departmental slashes, such that almost every department was cut by between 5 and 65 percent.

Then-Prime Minister Jean Chretien recognized immediately that austerity would likely prove unpopular, and warned many of his government ministers that they would not survive the next election.  However, the economic measures that he put in place, including his dedication to spending freezes, returned the government to budget surpluses in only a few years and resolved what had been widely touted as the next big fiscal crisis.

The similarities between Canada's situation and America's fiscal house today ought to make this experience instructional.

  • Now, as then, a major rating agency's downgrade of sovereign debt turned public attention to deficit spending and the need to control outlays.
  • Now as then, the debt-to-GDP ratio was nearing levels that were unsustainable and would result in painfully large interest payments (the United States currently has debt equivalent to 74 percent of its GDP and ran a 9 percent deficit for 2011).
  • Now, as then, politicians will need to overcome electoral concerns and recognize the importance of immediate austerity in order to dig the United States out of its crushing debt.

The United States will be forced to reconcile with its enormous deficits in the near future.  In this regard, it must be acknowledged that the more time that passes, the more painful austerity will be.

Source: Randall Palmer, "Insight: Lessons for U.S. from Canada's 'Basket Case' Moment," Reuters, November 21, 2011.

For text:

http://www.reuters.com/article/2011/11/21/us-crisis-idUSTRE7AK0EP20111121

 

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