Peering into crystal ball on budget
A look at what observers are watching amid headwinds facing Morneau et al
OTTAWA Plenty of headwinds threaten to frustrate Finance Minister Bill Morneau as he prepares to table his budget next Tuesday.
While Canada is outpacing economic growth projections in 2017, there are plenty of reasons for concern. Uncertainty among business owners in the country is uncommonly high due to the U.S. tax reform, the stalled North American Free Trade Agreement talks, and fears that a fiscal spending binge in Canada and the U.S. could rapidly shift the economy back into inflationary territory.
Some economists have been calling for fiscal restraint from the federal government, which will have limited wiggle room following its spending spree in 2016.
Here are a few aspects of the budget observers are watching — and calling — for.
CALL TO MATCH U.S. IN TAX REFORMS
U.S. President Donald Trump’s widespread tax reforms, which will ultimately see federal corporate rates lowered from 35 per cent to 21 per cent, were met with immediate calls to lower rates in Canada.
Of particular interest was a clause in the U.S. plan to allow firms to immediately write off capital costs for investments in assets such as equipment and machinery. Such capital costs were typically paid off over much longer stretches of time, often 10 years or more.
The immediate payback is expected to be a boon for U.S. businesses as manufacturers, farmers, miners and other companies make big up-front purchases.
“It’s a big sweetener for capital spending,” said Brian DePratto, senior economist at TD Bank.
Analysts say they are watching the budget to see what the federal government might propose to bring Canadian accelerated capital cost allowances in line with the U.S. — though few expect any significant changes.
Some have called for small tweaks to give Canadian firms some of the immediate relief that their southern competitors now enjoy. In a letter to the finance minister earlier this month, the Business Council of Canada called for an “immediate” cut to corporate tax rates to counter U.S. tax reforms.
FISCAL RESTRAINT
Analysts have been cautioning the federal government against its spendthrift ways, even as Canada comes off one of its fastest-growing years in recent memory. Economists have advised Morneau to focus on reducing deficits in order to prepare for an inevitable downward shift in economic growth. Worries over NAFTA and U.S. corporate tax cuts have only served to keep business owners hesitant about future spending.
“A lot of those things carry the potential to depress business investment,” said Jean-François Perrault, the senior vice-president and chief economist at Scotiabank, who was among economists who met with Morneau last week to advise him on the budget.
“What I said to the minister was that there is a lot of fear on the part of the business community about whether government is really understanding what it is they ’re going through right now.”
Ottawa has already curbed debtto-GDP ratios in its fall budget update — but analysts caution those projections are easy to skew alongside big-spending budgets. Debt-to-GDP spending was 30.5 per cent for the fiscal year 2017-18, and is projected to fall to 28.5 per cent over the next five years.
Those concerns are exacerbated by tightening monetary policy in both the U.S. and Canada, and particularly amid new concerns that the American economy is at risk of overheating. There is currently little room for Canada to reduce rates and spur growth if the economy encounters a significant shock.
“You want to have enough cushion on the fiscal side to deploy a reasonably effective stimulus program to complement what the Bank of Canada is going to do,” Perrault said.
DETAILS ON CHANGES FOR PASSIVE INVESTMENTS
Canadian private corporations still don’t have the final details on the passive investment tax changes that were proposed last year, kicking off angry protests.
Many of the details around the proposals have been announced during the consultation process, including a $50,000 threshold before business owners are taxed at the higher rate. But there are questions over how that threshold will be enforced. Ottawa has said current passive investments will be exempt from the higher tax rate, but analysts have speculated whether those same assets will still be taxed at the higher rate if they are sold years later, when the new tax regimen has taken full effect.
“We’ve warned the government over and over that people won’t want to sell their assets because the tax differences are so huge,” said Alex Laurin, the director of research at the C.D. Howe Institute.
RECALIBRATING ‘INNOVATION’ FUNDING
Analysts expect spending on research and development to continue to rise, in line with Ottawa’s vocal support of spurring innovation. A report released last year, headed by University of Toronto president David Naylor, suggested Ottawa boost annual research-related funding from $3.5 billion to $4.8 billion, while also recalibrating how that capital is allocated.
“What we’ve seen through time is on a per-researcher level, the amount of money out there has been trending lower,” DePratto said. “This is an area where it’s easier to make an argument for some government role. It’s a public good — it’s of benefit to everybody.”
Analysts expect that funding could come as part of a broader streamlining of innovation programs, and a move away from “passive” incentives like tax credits and toward more direct spending on innovative companies and academic institutions.
A BUDGET FOCUSED ON GENDER EQUALITY
The Trudeau government has said gender equality policies will be central to the upcoming budget. Analysts remain unsure what specific programs that might involve, but it could include a program to help female entrepreneurs access capital or various programs or apprenticeships to encourage more women to enter into science, technology, engineering, and mathematics (STEM) professions.
“There’s a wide range of ways the government could try to address those issues,” said Craig Alexander, senior vice-president and chief economist at the Conference Board of Canada.
Those changes could include wider childcare benefits. Trudeau said recently that Ottawa was mulling the idea of expanding paternity leave for fathers and non-birthing parents to help women in career positions.