The case for responsible fiscal stimulus as coronavirus threatens the economy
All central banks can do is keep markets sedated this time, Kevin Carmichael writes.
Prime Minister Justin Trudeau has said he “will continue to ensure that the economy does not become subject to a slowdown that would hurt Canadians.” That’s good, because central bankers, who repeatedly covered for indecisive and craven legislators during the Great Recession more than a decade ago, don’t have much to offer this time. Politicians will determine the extent to which COVID-19 chokes economic growth.
To be sure, U.S. Federal
Reserve chairman Jerome Powell, European Central Bank president Christine Lagarde and their counterparts will do what they can. Powell is hogging the early spotlight. He pulled the Fed’s policy committee together to approve an emergency interest-rate cut on Tuesday.
The Bank of Canada followed on Wednesday by also announcing a half-point rate cut to 1.25 per cent. Many economists think the Fed will cut interest rates again later this month at its regularly scheduled policy meeting, and that the Canadian central bank will cut interest rates again in April.
The central banks will remain in the picture, but all they can really do is keep financial markets sedated. That will be good for confidence, and it should keep the cost of credit from spiking. But pushing interest rates back toward zero won’t reopen factories and schools that are closing to slow the spread of the coronavirus. Currency-swap arrangements between central banks won’t restart air travel on cancelled routes. Creating billions of dollars to purchase bonds won’t reconnect supply chains broken by quarantines and bottlenecks.
Fiscal policy can’t do those things either. But it can put money in the bank accounts of factory workers who are told to stay home and parents who suddenly have to take care of children ordered to stay away from school. It can make sure smaller companies have access to bridge capital to ensure they get through a temporary disruption in revenue.
“With rates already low, the high level of leverage in the economy and monetary policy being a blunt tool in the current context, it is clear that fiscal policy would be much more efficient to stimulate the economy,” said Charles St-arnaud, chief economist at Calgary-based Alberta Central. “The question is, how quickly can they announce any stimulus and we may need to wait for the next budget for this.”
The Fed’s surprise rate cut followed a verbal intervention by the Group of Seven economic powers. Powell himself couldn’t turn things around. Stocks dropped about two per cent during a press conference called to explain the Fed’s half-point cut.
Powell is the new sugar daddy, but investors may be starting to realize they need a balanced diet. The G7 finance ministers — representing the U.S., Japan, Germany, France, the United Kingdom, Italy and Canada — said they “are ready to take actions, including fiscal measures where appropriate, to aid in the response to the virus and support the economy during this phase.” Reassuring, if you think a group that has been fighting each other over trade policy, climate change and immigration during the past few years can be trusted to rise to the occasion.
In other words, hard numbers would have helped.
Those could come. Bill Morneau, Canada’s finance minister, told Power & Politics host Vassy Kapelos after the G7 statement that “measures are going to be different in different countries.” He avoided specific commitments in the interview, saying he would be “following the facts on the ground.”
Morneau and Trudeau weren’t around for the last financial crisis. The previous prime minister, Stephen Harper, delivered an impactful fiscal boost as leader of a minority government in 2009.
Yet he wasted time by initially trying to pass a budget that included a measure to scrap a federal subsidy to political parties, which would have jammed opposition parties, while leaving his Conservatives relatively unscathed.
Harper’s gambit nearly toppled his government. He created an unnecessary political crisis, as the opposition rose to remove him. He only saved himself by proroguing Parliament and introducing a new budget that won support from the opposition Liberals.
Conservatives, now the Official Opposition, should match the non-partisan tone of the prime minister and the finance minister by setting aside their relentless campaign for a balanced budget. Canada has enough fiscal room to offset economic headwinds. The Parliamentary Budget Officer said last month the federal government could cut taxes or increase spending by some $40 billion and still maintain the debt’s percentage of gross domestic product at current levels.
The right way to use those resources will depend on how hard COVID-19 hits Canada.
The most efficient way to deliver stimulus would be using the tax system to transfer money directly to individuals and businesses. In his interview with Power & Politics, Morneau cited Italy, where the government has promised to provide tax credits to companies that suffer a 25-percent drop in revenue. That could work. Canada struggled to recover from the financial crisis because so many companies were wiped out by the recession.
Morneau also said any federal response would focus on “people.”
Given the high levels of household debt, there’s a risk that individuals would redirect any windfalls to their various creditors. Still, there are probably ways to ensure stimulus finds the people with the greatest propensity to spend. Rebekah Young, an economist at the Bank of Nova Scotia who used to work at the Finance Department and the International Monetary Fund, suggested adjusting Employment Insurance benefits to encourage potentially sick workers to stay home and offering a one-time double payment of the Canada Child Benefit.
Because there is no certainty about how bad things could get, Morneau’s priority at this stage should be to decide on a handful of temporary measures. The finance minster has plenty of firepower to fight a crisis, but he should avoid using it as cover to deliver sops to special interests or committing to programs that would be hard to reverse.
“We are in a state where we still don’t know if this is the recession trigger,” Young said. “The key would be temporary measures, targeting a quarter or two of the year until we see what path we are on.”