WITH ALL OF THE ECONOMIC TURMOIL IN GREECE, CANADIANS MIGHT BE WORRIED ABOUT A SIMILAR
SITUATION HAPPENING HERE. BUT WE ARE FAR FROM BEING THE NEXT GREECE
As of this writing, it was far from clear what kind of solution would emerge from the crisis in Greece and the European Union (EU).
Greece had just defaulted on a nearly $2-billion dollar payment to the International Monetary Fund (IMF). Moreover, its voters had rejected further austerity in a national referendum. The future status of the country in the EU and the Eurozone currency bloc itself were in doubt.
The haze of crisis and the particulars of the Greek challenge notwithstanding, many in Canada are drawing the conclusion that years of overspending by governments here means our own Greek-style day of fiscal reckoning is only a matter of time. Happily for us this is not the case.
But as I’ve written in this space before, there is a slow-burning fuse at the heart of the Canadian fiscal federation: provincial public debt loads. This does merit more scrutiny than it receives in the public debate.
There are many factors that make us different from the Greeks and Eurocrats fumbling about through the current genuine fiscal and human tragedy playing out in the Mediterranean. Canada and the Eurozone are both currency unions.
But Canada has something the Europeans do not — a strong central government with taxation powers sufficient to redistribute funds across the currency union to smooth out disparities in economic fundamentals from one region to another.
Currency unions, by definition, share a monetary policy. In Canada, the monetary policy suitable to Alberta is not likely to be ideal for Prince Edward Island.
Our currency union accounts for this disparity through our political union – the federal government – and its power to distribute national wealth from relatively prosperous provinces to lower-income parts of the country. This is accomplished through the employment insurance system, equalization, other provincial transfers, and so on. The same can be said for most currency unions, but not the Eurozone.
Europe lacks this central redistributive power that almost all formal currency unions enjoy, and over time, a financial flare up on one of its smaller flanks risks escalating into the crisis we see today.
One of the Euro’s central flaws is its a monetary union without a political one. Repeated campaigns from Brussels for a “United States of Europe” style political union have mostly run up against voter fatigue at ever-deepening integration.
There are also, of course, centuries of history to be accounted for, and the huge language and cultural barriers that inhibit deeper political union across Europe.
Partially due to the lack of a Europe-wide political union, Greek debts worth barely three per cent of Eurozone GDP have led to a full-blown crisis of the currency bloc. European taxpayers could absorb a full writedown of Greece’s debts tomorrow, but are terrified by the principle and precedent this would set.
By way of context, three per cent of Canadian GDP would amount to about $55-billion, which could be raised by Ottawa by doubling the GST from five to 10 per cent for about a year and a half.
Not anyone’s idea of a good time, but not apocalyptic either. Europe has more than enough wealth and fiscal capacity to forgive the entirety of Greece’s monumental debts, but politics and the fear of “contagion” to other, larger countries keep this option beyond the realm of the possible.
Back in Canada, our federal debt burden is one of the lowest among the rich-country Organization for Economic Cooperation and Development (OECD) club.
This is a good thing, and gave us the fiscal flexibility to run deficits through the recession to help support demand. Now with surpluses (almost) back at the federal level and the economy (mostly) growing, our federal debt-to-GDP ratio is coming down again.
The same cannot be said for many of our provinces, which, unlike most sub-national governments across the world, have vast spending powers under our constitution. The biggest, which is Ontario, just had its debt downgraded by one of the main rating agencies. This will surely lead to higher borrowing costs for taxpayers in the province that accounts for close to a third of Canada’s economic activity.
Many other smaller provinces are facing similar circumstances, and yet the implicit assumption that Ottawa will bail out any province in a genuine fiscal crisis means they can continue to borrow for low rates. No one thinks Ottawa will truly allow a province to go bust. They are probably right.
This creates a mismatch between the risks lenders think they are assuming when buying Canadian government debt, and the risks they are actually taking on. Federal debt is only about 30 per cent of GDP. But when provincial debt is added to this, total debt more than doubles to 80 per cent of the economy.
This sub-national debt load is the little-acknowledged flaw at the heart of our fiscal federation.
We are not Greece and the EU. Our monetary union is backed by a firmly-established political union.
But under the surface of low federal debt loads lurks the reality of ever-increasing provincial risk. We ignore it at our peril.
