‘If something cannot go on forever, it will stop.”
That’s Stein’s law, coined by the late American economist Herbert Stein. It means that a trend that is unsustainable will, at some point, no longer be sustained. It has to end, so it will.
Eventually.
U.S. President Joe Biden and former (and likely future) president Donald Trump are set to square off in their first debate on Thursday night. Expect an exchange of haymakers on issues from the border to Ukraine to inflation to the Jan. 6, 2021, attack on the Capitol. As for the state of Washington’s finances, I’ll be surprised if it even rates a question. I’ll be even more surprised if either candidate has anything substantial to say about it.
The U.S. federal budget deficit, which this year will clock in at US$2-trillion, is the elephant in the drawing room of American politics. It is widely recognized as a long-term problem, just not one anyone wants to deal with. So the beast slumbers in plain sight, quietly eating the future. It’s been there so long that ignoring it requires only minimal effort.
Republicans sometime gin up deficit outrage when they want to score points against the Democrats, but the act has worn thin because they only exploit the problem for political gain, while making it worse. It happens every time they win control of Congress, such as during the first half of Mr. Trump’s term. By 2019, thanks to unfunded tax cuts, the budget shortfall doubled from where it was in 2015 under Democratic president Barack Obama.
The Trudeau government needs to come up with a 2-per-cent solution, fast
Last week, the U.S. Congressional Budget Office released its latest fiscal outlook. This year’s projected deficit, at US$2-trillion (roughly $2.7-trillion in loonie dollars), will be equal to 7 per cent of the country’s gross domestic product (GDP). The size of the shortfall is expected to barely budge over the next decade – assuming no major new spending or tax cuts. Which is not a realistic assumption. Mr. Biden has spending plans and limited tax-cut plans; Mr. Trump has floated expansive and expensive tax cuts.
In other words, the CBO’s dire fiscal outlook is not what happens if things go wrong. It’s what happens if everything goes right.
Stimulating an economy with deficit spending during an economic downturn, such as the pandemic recession, makes sense. In the aftermath of the Great Recession of 2008-09, which the U.S. (unlike Canada – thanks, oil and gas boom) rebounded from only haltingly, there were solid arguments in favour of somewhat longer and larger deficits. The prosperity of the early Trump years came at least in part from his camouflaged Keynesian economic stimulus, with deficit spending wiping away the last vestiges of the lingering Great Recession and delivering full employment.
But the U.S. is not in a recession today. Unemployment has been at or near record lows for two years. Wages are rising, not falling. We’re at the peak of the economic cycle, yet the U.S. is running a deficit of 7 per cent of GDP. That’s a figure exceeded on only three previous occasions: the pandemic recession, the Great Recession and the Second World War.
How does Canada compare?
According to the International Monetary Fund’s annual Fiscal Monitor publication, released in April, Canada’s all-government deficit – Ottawa plus provinces and municipalities – will be 1.1 per cent of GDP in 2024. The IMF estimated the U.S. all-government deficit at 6.5 per cent of GDP, or six times larger. (An updated estimate would up the size of both countries’ deficits, but the scale of the difference would remain.)
Next year, the IMF sees Canada’s deficit falling to 0.9 per cent of GDP, while the U.S. deficit rises to 7.1 per cent, or nearly eight times larger. By the end of the decade, Canada’s all-government deficit is forecast to fall to 0.4 per cent of GDP. The U.S. deficit will be 15 times bigger.
The U.S. can go on taxing less than it spends, or spending more than it taxes, for a very long time. It has been doing so for years, and it can continue for many more. It may go on for decades. But it cannot continue forever. There is going to have to be a course correction. Eventually.
American voters who have grown used to money for nothing and tax cuts for free are in for a rude surprise. Eventually.
Eventually will not be a pleasant destination. And the later it arrives, the more unpleasant it will be.