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Exploring Canada’s Public Debt!Art Lightstone, January 2015

On the menu today…

§  What’s the difference between the deficit and the debt?

§  How big is the debt? §  What are the comparative methods of

measuring debt? §  What is marketable debt? §  What are the problems with public debt?

What is the difference between the deficit and the debt? The deficit is the amount by which government spending exceeds its revenues in any given year. The public debt is the total of all past deficits and surpluses since Confederation. The federal government has been adding to the debt – that is, running deficits – almost every year since 1969-70.

How big is the debt?

Canada’s federal debt now totals around $614 billion.

Provincial and federal debt totals about $1.1 trillion.

How much interest do we pay on our national debt?

Basis of Comparison: Interest payments on the debt totaled $45 billion in 1996-97.

See if you can quickly find out what Canada’s annual interest payments on the national debt amount to today.

Interest to Income Ratio Probably the best way to measure our debt burden is in relation to the size of the economy or gross domestic product (GDP) because this indicates our capacity to manage the debt.

See if you can quickly find out what Canada’s debt to GDP ratio is today.

Basis of Comparison: In 1996-97, the size of the federal debt in relation to GDP – the debt-to-GDP ratio – fell to 73.1 per cent, the first significant decline after 25 years of increases.

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Interest to Expenditure Ratio Finally, let’s figure out what our national interest on debt is compared to our national annual expenditures.

See if you can quickly find out how much the interest on our national debt is compared to our total national expenditure. (Each on an annual basis.)

Interest to Expenditures Ratio

Interest Expenditures

29.2 275.6

= 10.6% I/E Ratio = =

http://zapt.io/t5wdfwus

What is marketable debt?

Marketable Debt: Market debt that is issued by the Government of Canada and sold via public tender or syndication. These issues can be traded between investors while outstanding.

Non-Market Debt: The government’s internal debt, which is, for the most part, federal public sector pension liabilities and the government’s current liabilities (such as accounts payable, accrued liabilities, interest payments and payments of matured debt). If the government owes you for services you’ve rendered to the government, that’s non-market debt, but if they owe you because you purchased a bond from them, that’s marketable debt. Typically, marketable debt accounts for about 80 per cent of the federal government’s total debt.

http://zapt.io/tjg4umgr

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The Problem of Public Debt Why do we need to reduce Canada’s debt burden? Let’s consider some of the problems associated with public debt.

§  inflationary impact §  crowding out §  burden on future generations §  externally held debt §  income redistribution §  tax disincentives §  conflict with monetary policy

Inflationary Impact

When the government goes into debt it is, of course, so that they can spend money. All that spending will naturally contribute to the demand for goods and service, which in turn contributes to inflation.

Crowding Out

“Crowding out” is an economic term used to describe what happens when a big borrower (such as the government) borrows massive amounts of money from the banking system. Massive government borrowing tends to increase the demand for loanable funds, which in turn creates upward pressure on interest rates. The higher interest rates tends to discourage private borrowing. Thus private borrowers tend to be “crowded out” of the loanable funds market. Long story short: massive public borrowing tends to make it more difficult for private businesses and consumers to borrow funds.

Burden on Future Generations With household debt, if you borrow money for a new car, a vacation, or a flat screen TV, then you also end up paying the debt. The people who benefited from the debt are the people who pay. Fair enough. But with public debt, it’s not quite the same. That’s because $614 billion isn’t exactly something that can be amortized over 48 months. Even optimistic estimates of a national debt retirement schedule suggests that it would take hundreds of years to pay it off… if anyone decided that that was something they wanted to do. That more or less guarantees that the people who were responsible for borrowing the money will not be the same people who pay down the debt in, say, the year 2215.

Externally Held Debt About 25% of all of Canada’s debt is owed to individuals, corporations, banks, and governments outside of Canada. These parties are owed money by our government because they purchased Canadian debt instruments, such as bonds. When the interest on these bonds is paid, it effectively leaves Canada and serves as a leakage of the active money circulating within Canada. Such a reduction in active money will reduce aggregate demand and create a drag on GDP.

Income Redistribution The federal government often points out that we owe 75% of our public debt to ourselves. They say, the “debt is owed to Canadians, including citizens and domestic institutions holding federal bonds, treasury bills and other forms of the debt.” 1 Government debt is owed and paid by all Canadian taxpayers, but only those Canadians who actually hold government bonds and treasury bills receive interest and principal payments on this debt. Generally, wealthy people and institutions hold government bonds and treasury bills.

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Tax Disincentives Public debt can only be paid out of future government revenue, and such revenue can only be raised through taxes. Thus, ceteris paribus, more debt must necessitate more taxation in the future. Such taxation is actually a disincentive to work, as people come to realize that the more they work and earn, the more tax they will pay. Finance Ministers will at times say that the best way to pay down debt is to grow GDP through stimulus spending;2 however, there is no evidence to suggest that higher public debt leads to economic growth. In fact, there’s plenty of evidence indicating that high public debt leads to both economic volatility and economic decline.3

Conflict with Monetary Policy Public debt can lead to conflicts with monetary policy as high levels of debt come to slowly limit policy options. For example, the Bank of Canada might wish to purchase Canadian dollars on the international money market to bolster the value of the dollar, but not have the funds because they’re already being used to pay down the debt. The Bank of Canada might wish to release bonds in order to pursue an contractionary monetary policy, but not be able to because it would increase the debt more. Finally, the Bank of Canada might wish to raise interest rates in order to pursue a contractionary monetary policy, but not be able to because this would lead to a higher cost of servicing the public debt.

References Public Debt, The Canadian Encyclopedia The Cost of Government Debt in Canada, The Frasier Institute Annual Financial Report of the Government of Canada, Fiscal Year 2012–2013, Department of Finance Canadian Government Debt 2014: A Guide to the Indebtedness of Canada and the Provinces, The Frasier Institute Your Tax Dollar: 2013–2014 Fiscal Year, Department of Finance You Asked for It, The Canadian Taxpayers Federation Canada Savings Bonds: How to Buy Beyond our means: Government debt tops $1.2-trillion and spending is still rising, The National Post Finance Minister Oliver says to shrink national debt, grow the economy, The Globe and Mail Debt and Growth: Is There a Magic Threshold? International Monetary Fund