Finance Committee on Nov. 23rd, 2006

[The Chair, Conservative, Brian Pallister]

Thank you for being here. I apologize for the lateness of my arrival and that of a couple of my colleagues. There was some confusion, I think, about the location of the meeting this morning.

Pursuant to Standing Order 108(2), we have our study with independent fiscal forecasters. Welcome.

You've been asked to confine your initial presentations to five minutes. I'll give you an indication when you have a minute remaining, and then I'll cut you off so that we can have an exchange with members.

We'll begin with Ms. Ellen Russell, from the Canadian Centre for Policy Alternatives.

[Ellen Russell, Senior Research Economist, Canadian Centre for Policy Alternatives]

Hello.

I want to consider only one question with my five minutes: does the federal government have enough money for further tax cuts?

[Massimo Pacetti, Liberal, Saint-Léonard—Saint-Michel, QC]

Excuse me, Mr. Chairman—

[The Chair, Conservative, Brian Pallister]

We have a point of order.

[Massimo Pacetti, Liberal, Saint-Léonard—Saint-Michel, QC]

Are there some briefs available?

[The Chair, Conservative, Brian Pallister]

I'm told the briefs are not in both languages. Unless there's unanimous consent to distribute them—

[Massimo Pacetti, Liberal, Saint-Léonard—Saint-Michel, QC]

Can we ask? I haven't seen the briefs, but they probably have a lot of numbers on them, so I'm not sure if it's really necessary to have them translated.

[The Chair, Conservative, Brian Pallister]

Is there unanimous consent to distribute?

[Pierre Paquette, Bloc, Joliette, QC]

As an exception.

[The Chair, Conservative, Brian Pallister]

On this occasion only, then, they will be distributed.

Madam Russell, we'll begin your time again now.

[Massimo Pacetti, Liberal, Saint-Léonard—Saint-Michel, QC]

I have a point of order, Mr. Chairman.

[The Chair, Conservative, Brian Pallister]

There is another point of order, Ellen; excuse me.

[Massimo Pacetti, Liberal, Saint-Léonard—Saint-Michel, QC]

I don't believe it's the first time some of the witnesses have appeared. You can maybe remind them that we do offer translation services, and perhaps next time they could get their briefs in on time.

[The Chair, Conservative, Brian Pallister]

Okay, yes.

Thank you, Madam Russell. Please proceed.

[Ellen Russell]

I want to consider only one question with my five minutes: does the federal government have enough money for further tax cuts?

After many years of large budget surpluses, many Canadians may assume that Ottawa has no problem finding extra cash. In our opinion, the days of large budget surpluses are over. As a result, we believe that if Ottawa embarks on new tax cuts, it will be setting the stage for very large spending cuts down the road.

Last year, of course, the federal government had a surplus of $13.2 billion, but since that time the Conservative government has implemented, by their own calculation, $9.9 billion in tax cuts, as well as further spending for defence and for cash in lieu of child care. As well, they have set aside $3 billion for debt repayment. By their own tally, in the May budget Ottawa would run a surplus of only $600 million.

More recently, we have re-examined Ottawa's finances. I believe our report is being circulated to you now. “Can Ottawa Afford More Conservative Promises?” is the title of the report.

We project that the federal government will have surpluses that are higher than in the May budget. By our projections, the 2006-07 surplus is around $4.2 billion. Remember that in addition there's an extra $3 billion set aside for debt repayment, but there's $4.2 billion available for use. A word of caution: some folks, in describing the surplus, are adding in that additional $3 billion set aside for debt repayment. We leave it out, as did the federal government in the May budget, because we're concerned about how much flexibility there is to fund new tax cuts or, of course, spending measures.

By our projection, the government has about $4.2 billion to work with this year, about $4 billion the following year, and maybe $5.3 billion in the third year. This is factoring in the fact that the forecasts for economic growth are far more pessimistic than they were in May. Of course, if they deteriorate further, then there will be less surplus than we have suggested.

Let's just look. Assuming they have somewhere around $4 billion to $5 billion in surplus to play with for the next three years, is that enough leeway to cut taxes further? Before the government can make new promises, it has to pay for the promises it has already made, promises that were not costed in the 2006 federal budget--nor are they factored into our projections of $4 billion to $5 billion of surplus over the next three years.

What is still on the government's to-do list that it still has to find money to pay for?

Number one, the Conservatives promised to address the fiscal imbalance. While they haven't told us how or when they will do that, this is potentially a very pricey item.

Number two, the Conservatives promised to reduce health care waiting times, yet no additional money was budgeted for that in the last budget.

Number three, the Conservatives promised more defence spending in their election platform than was accounted for in the May budget, so we should expect further defence spending of perhaps $4 billion between now and 2010-11.

Number four, the Conservatives promised to eliminate the capital gains tax on reinvestment. This is potentially very costly. I wouldn't be surprised at $2 billion per year, but we could debate that, depending on the specifics of the actual proposal.

Number five, the Conservatives promised to cut the GST rate by a further percentage point. Again, this is very costly; it is more than $5 billion per year, depending on when it's implemented.

We don't precisely know when the Conservative government plans to implement these measures. They don't have to do them all in the next budget, but the fact is that they could not afford to do all their promises in the next budget even if they wanted to. By our calculations, the GST cut alone would put them in deficit if they did it right now.

Under these circumstances, we don't think it's responsible for the federal government to make further tax cuts. If they make further tax cuts, they're going to have to find more money. There are two possibilities we would like to highlight for you: they could privatize assets, or they could cut spending more dramatically than they have so far.

In the last election platform they promised $22.5 billion in spending cuts over five years. Our concern is that a further tax cut now will set the stage for deep spending cuts in the future and will generate a straitjacket for any future government, of whatever party, which will be forced to radically downsize government to pay for these tax cuts as they hemorrhage money out of the treasury for years to come.

[The Chair, Conservative, Brian Pallister]

Thank you very much.

Our second witness will be Mr. Mario Fortin, from the University of Sherbrooke. You have five minutes.

[Mario Fortin, Professor of Economics, University of Sherbrooke]

Good morning. May I make my presentation in French?

[The Chair, Conservative, Brian Pallister]

It is up to you.

[Mario Fortin]

This morning, I would like to give you a rather brief outline on the state of the American economy for 2007.

According to current forecasts the predicted growth would be between 2.3% and 2.5%, but the American economy is sending out mixed signals. On the one hand, there is a very healthy corporate sector, but on the other hand, the real estate market is in a free fall. The great concern now is whether or not the recession in that market will affect consumer spending.

In my opinion, there is every likelihood that consumer spending will be seriously affected, a trend that has not been properly accounted for in economic forecasts.

I have with me a series of figures representing various US real estate market indicators; they are from an American publication, and I have been granted permission to use them. What these figures show is that, over the past five years, there has been an unprecedented increase in wealth. What is important to note, however, is that American households have used this wealth to spend beyond their means. People have been spending more than they are earning, there is a negative household savings rate, while the rate of spending and consumption is enormous. It is estimated that as much as $300 billion has been spent by consumers against the rising value of their properties.

A falling real estate market will put an end to this source of consumer funding and will no doubt force American household to return to saving. The effects of a slowdown in the real estate market are two-fold. There is the investment side, with residential housing construction in a normal year representing about 4.5% of the GDP in the United States. The rate for the past two years was 6%, meaning that a return to traditional construction rates would cut economic growth by 1.5%. That is a direct effect.

Then we have the indirect effect on consumption. If sustained consumption represents $300 billion, then 2.5% of the US GDP could be affected if people begin to spend less.

American forecasters are currently watching the trend in retail sales. They want to know if household spending is cooling off. The October sales figures were rather disappointing, but current opinion is divided. There is a great deal of uncertainty as to the US economic performance for 2007. In my opinion, a forecast of 2.5% is rather optimistic. Americans have been overspending for years now, and any slowdown in the rate of consumption will have a greater effect on GDP growth than current forecasts seem to predict. Therefore, a 2% forecasted increase for 2007 would appear to be closer to the upper range than what we might reasonably expect in terms of growth for that year. That being the case, there is a great deal of risk in the American economy at this time. And there is another risk — I don't cover it in this document but the Bank of Canada is well aware of it — namely, the effect on the US current account.

That is all I have to say. I will be happy to answer any questions you may have. I believe that I have stated the main point. Thank you.

[The Chair, Conservative, Brian Pallister]

Thank you very much, Mr. Fortin.

To continue now, we have TD Bank Financial Group, Don Drummond, senior vice-president and chief economist.

Welcome, Mr. Drummond. Over to you.

[Don Drummond, Senior Vice-President and Chief Economist, TD Bank Financial Group]

Thank you very much.

I'm not certain what particular areas of the economic and fiscal outlook most interests members of the committee, so with your permission, I will pass on the five-minute introductory remarks--perhaps that would make better use of my time--and target it to the areas you're most interested in.

I look forward to questions.

[The Chair, Conservative, Brian Pallister]

The soul of wit, sir.

We continue with Mr. Dale Orr, Global Insight Inc.

[Dr. Dale Orr, Managing Director, Canadian Macroeconomic Services, Global Insight Inc.]

Thank you for inviting me. Bonjour.

What I'm going to do is identify some of the specific tax changes that I think you'll be hearing about this afternoon and why I think they may be included in the package and what their impact on the economy might be.

I think you're going to see several specific tax changes--in fact, tax changes in most areas. As for personal income tax changes, I would say you can take these to the bank. The Conservatives will probably re-establish the levels for the lowest marginal rate that the Liberals left us with in the first part of the year, as well as for the basic personal amount. There is no way the Conservatives are going to want to go into an election with those two rates higher than where the Liberals left them.

On corporate income tax, the Conservatives have already said what they'd do. I think what they will say is that they will give a very high priority to getting down from the 21% to the 19% as soon as possible, fiscal conditions permitting.

On the GST, they'll remind us of the political commitment to that, and other than that, it's just too expensive to do anything very much very soon.

As for the marginal effective tax rate on investment, we'll probably hear quite a bit about that because that is what really affects productivity. Accelerated writeoffs for manufacturing equipment, possibly.

On capital gains, again they've had quite a few months to give a more precise, thorough think to those initial plans and may make a commitment to come out with a package that's affordable and manageable in budget 2007.

As for income trusts, I don't think they're going to address that specifically.

Tax policy issues. First is harmonization of taxes with the provinces. Here it's really the four western provinces and maybe Prince Edward Island that are at issue, but the main gains come from harmonizing with B.C. and Ontario. This is really a triple whammy win for the Conservatives and this is why they will put such a high priority on tax harmonization. Number one, if they do that, it does aid productivity. It can also address the fiscal balance question, because it gives some room to the provinces, if they wish to take it in a harmonized rate. As well, of course, it fulfills a political commitment they had.

On the fiscal balance and equalization issue, I think what we will see and should watch for is that they will make every effort to try to claim they've addressed that issue without spending very much incremental money on it, and we can talk about possible ways of doing that later.

On the issue of income splitting that you've heard quite a bit about lately, I wouldn't be surprised if they say they will undertake a study paper to be released later. I think that's a fundamentally sound policy, but it is expensive.

I think we're going to hear a lot about a productivity/economic growth agenda. That will probably be the theme of it, and I'll make just a couple of points on that.

Economists will tell you how important that is, that it's really the only route to sustained increases in our standard of living. Sometimes productivity/economic growth is thought of as the same thing as tax cuts, and whenever I address this I try to make the point that this is not the case. A lot of really important things on the program side can be done for productivity. Training and education infrastructure are important, and there are many important things on the regulatory side as well. So that's important.

Productivity/economic growth is always a matter of degree. Virtually any tax cut will have some impact on productivity. Often it's secondary. Sometimes it can even be negative. Even though he is probably going to talk long and emphatically about a productivity/economic growth agenda, it's always a question of balance between that and other issues that are done for equity programs.

I want to emphasize for people who are interested in a productivity/economic growth agenda that the key thing is, what does this tax change do for the incentive structure?

What we really need in this country are a lot more tax cuts that increase the incentive to work, increase the incentive to join the labour force, and increase the incentive to save, innovate, invent, and invest.

Those are really the questions you should be asking about what it does for that incentive structure.

[The Chair, Conservative, Brian Pallister]

Thank you, Mr. Orr. I have to cut you off there.

[Dr. Dale Orr]

That's fine.