Thank you very much, Mr. Chair. Thanks as well to the committee for extending the invitation to be here today.
I would like to focus my remarks on three key messages. These are that the new government's first budget should first, establish its fiscal credibility; second, provide short-term support for the economy; and third, build Canada's longer-term economic potential in a way that's fiscally sustainable. But first, let's back up for some context.
In the slow recovery from the financial crisis, growth in Canada and abroad has been disappointing. The falling commodity prices since mid-2014 have been the latest setback. This is a major shock for Canada. It's primarily felt through weaker terms of trade, a lower Canadian dollar, reduced domestic income, and less resource sector activity. Canada's economy already had some excess capacity before this shock, and this is going to delay its return to its full potential.
In other words, without new policy measures over the next few years, the Canadian economy will not perform as well as it could.
As this painful and slow adjustment unfolds, policy-makers are looking for the right response to support the economy. This is going to require carefully weighing the benefits and risks of additional actions against the status quo.
Accommodative monetary policy has already helped out, but lowering interest rates further will provide little economic stimulus and risks overheating housing markets, excessive household borrowing, and broader financial stability concerns. Instead of cutting rates again or expecting the economy to quickly self-correct, well-crafted fiscal measures are a better option for several reasons. First, the federal government has fiscal room available. Second, it seems that monetary policy would accommodate new fiscal measures. Third, the opportunity cost of long-term government borrowing is near historic lows. Finally, the ongoing restraint on spending at the federal level over the past five years means that there are likely spending needs built up in some areas.
While these fiscal actions admittedly carry several risks, which include the fact that programs and budget deficits are easier to start than to end, the evidence of robust short-term fiscal multipliers is mixed, and larger deficits will inevitably raise debt charges, I think these risks can be managed. But this involves managing expectations.
Canada's economy and economic performance depend on global developments that we don't fully control. Therefore, budget 2016 should be upfront about what fiscal policy can deliver in the near term, particularly on cost-shared infrastructure spending. The last round of fiscal stimulus showed that we shouldn't overestimate how quickly these projects can get going. New announcements will mostly hit the ground after the 2016 construction season, and that's okay. In this regard, shovel-worthy should take precedence over shovel-ready. After all, the main rationale for infrastructure is not short-term economic stimulus, but improving Canada's longer-term economic potential, and that takes time.
Six of the last seven budgets have revised down the consensus GDP forecast. This budget in 2016 would be prudent to explore these prevailing downside risks in detail. For example, consider a scenario where oil prices stay flat at about $30 a barrel over the government's mandate. What would that look like for the government's finances and for the economy? Reporting such a scenario could illustrate the challenges that we face, how oil prices impact the federal finances, and alternative policy scenarios.
It's also important to be transparent in this first budget. Including more internal analysis and technical details will help build fiscal credibility. Finance Canada's analytical capacity could be augmented by publishing staff working papers and encouraging researchers to present their findings externally.
The government has stated two fiscal policy targets. An important one is to reduce the federal debt-to-GDP ratio each year. This rightly shifts the focus away from the annual nominal budget balance. However, rather than requiring yearly reductions, it may be more manageable to establish a medium-term target range for the debt ratio—similar to how we do inflation targeting, try to stay within a band over the next five years.
Whichever medium-term target is used, it should be complemented with a longer-term fiscal target that would rely on sustainability analysis and look ahead several decades.
Looking beyond budget 2016, there are many complex issues that will require attention. Allow me to highlight just one. Eventually the Canadian federation will probably need to raise revenue as a share of GDP. If so, this will need to be done carefully to avoid unduly restraining growth. The government has already expressed interest in intending to review tax expenditures. This is a worthwhile exercise, but I think the scope should be broadened to review the entire tax system to make it more efficient and more equitable.
To conclude, after several disappointments, Canada's economy is adjusting to a major shock. The outlook is weak and highly uncertain. Downside risks prevail, and the economy will probably operate below its productive capacity over the next few years.
To manage these risks, expectations should be tempered, and the macro policy approach should be adjusted in Canada. Fiscal policy needs to be more active, with well-designed fiscal measures that would help cushion the adjustment and ease the burden on monetary policy.
In the short term, timely and targeted automatic stabilizers, which would include unemployment benefits and federal stabilization transfers to resource-rich provinces, should be allowed to work, and some should be temporarily strengthened.
Any new discretionary measures should aim to improve Canada's economic potential over the medium term. They should be funded as part of a longer-term plan that preserves fiscal sustainability.
Thank you very much, Mr. Chair.