Federal Budget 2009: A Budget In Synch With the Times
By Pedro Antunes, Sabrina Browarski, Todd Crawford, and Matthew Stewart
Big spending is the main theme of Budget 2009! This comes as no surprise given the many details that were “leaked” over the course of the past week. Budget 2009 announced that the federal government will spend just over $43 billion on economic stimulus, spread out over the course of the next four years. The effectiveness of these recession-fighting measures will depend on how quickly programs can be implemented, as well as their respective impact on stimulating economic growth and job creation. In concert with other big stimulus packages around the globe, the hope is that the collective government action will serve to break the recession cycle and pull us back to positive growth.
Many of the measures in this year’s budget are aligned with our own thinking and suggestions on how to mitigate the effects of the current recession.1 Indeed, the budget includes very specific measures that The Conference Board of Canada had proposed, including a boost to Employment Insurance coverage, targeted training programs for the unemployed, and increased financial support to low-income Canadians through the Child Tax Credit and the Working Income Benefit. Moreover, the Board had proposed increased infrastructure investment on “shovel-ready” projects that have already passed all regulatory hurdles. This could be accompanied by a commitment to boost infrastructure spending over the medium term. Indeed, the federal government has gone above and beyond our expectations on this last item. The budget is heavily weighted toward construction, with close to 50 per cent of fiscal stimulus over the next two years geared to public infrastructure and housing.
Including both the federal and the provincial contributions to infrastructure and social housing, the budget would inject over $15 billion this year in construction investment. However, given the size of the stimulus, it may be extremely difficult to put this spending in place as quickly as planned. Our forecast, completed in December 2008, incorporated similarly sized tax and spending measures for this year; however, our expectation was that less than $3 billion would be invested in infrastructure this year. As such, should all the measures announced in the budget be implemented, real gross domestic product (GDP) growth in 2009–10 could be lifted by as much as 1 per cent above what was forecast in the Conference Board’s most recent Canadian Outlook.
In addition to the costs of the active stimulus package, a falloff in tax revenues will cause the federal deficit to balloon over the next two years. Moreover, increased costs from automatic stabilizers (such as increased government spending on things like Employment Insurance or existing workforce adjustment programs) also begin to kick in. Instead of constraining spending over this period, a passive form of fiscal stimulus is provided, and the fiscal balance worsens. Overall, the deficit will reach $29 billion this year and $25 billion in 2010–11. (These numbers exclude the “economic prudence” cushion the government builds into its budget projections to account for unexpected costs or lower-than-expected revenues.) Adding on to existing debt will lift debt-financing costs substantively over the medium term. Moreover, there are a number of permanent measures, including tax cuts that the government has put in place. Down the road, even as the economy returns to its potential, the federal government will have to make a concerted effort to return to balancing its books.
The Fiscal Plan
The deterioration of the economic outlook over the last several months has led to a collapse in projected revenues, particularly in fiscal years 2009–10 and 2010–11. In the November 2008 Economic and Fiscal Statement, the government predicted a small cumulative surplus of $1.3 billion over fiscal years 2009–10 to 2011–12. Now—just three months later and before any new measures are introduced—the federal government is expecting a sizable deficit of $27.6 billion cumulative over the next three fiscal years, and over $15 billion in 2009–10. In addition, the federal government has allocated funds for economic prudence of $4.5 billion in each of the next two fiscal years and $3 billion in fiscal year 2011–12.
In an effort to stimulate the economy, the federal government has introduced a package of tax cuts and spending that will cost an expected $38.2 billion over fiscal years 2009–10 to 2011–12. Consequently, the federal government now expects to run a cumulative deficit of $76.5 billion over the next three fiscal years. (See table). This will drive up the federal debt to $542.4 billion, erase 10 years of debt payback, and push up interest payments required to service that debt by $9.7 billion per year within three years. Taking into account the new spending initiatives, direct program spending is expected to grow by a whopping 13.1 per cent in fiscal year 2009–10—the fastest rate of increase since comparable data was first published in fiscal year 1983–84. In fiscal year 2010–11, direct program spending is then expected to grow by a further 3.2 per cent before falling by 2.9 per cent the following year.
In recessionary periods, the simple increase in government expenditures via automatic stabilizers (such as increased Employment Insurance payments or expenditures on workforce adjustment programs) does not provide sufficient stimulus to stave off recession. In light of the deteriorating global economic climate, Budget 2009 marks a concerted shift toward bolder, more active fiscal stimulus.
Active fiscal policy is intended to stimulate the economy through new spending, tax cuts, or a combination of the two. This active fiscal intervention boosts demand in the economy, which in turn should raise confidence among consumers and investors, and ultimately break the psychology of recession. At a time when individuals and firms are watching their dollars and tightening their belts, active fiscal stimulus is an effective means of breaking a recessionary mindset and restoring confidence in the economy.
In addition to considerable outlays on infrastructure generation and renewal, Budget 2009 offers targeted tax relief—both to households and businesses—to resuscitate domestic spending. While the total tax relief package is modest in relation to the complete stimulus package (accounting for $6.2 billion in 2009–10, or 34 per cent of the total stimulus measures) it will bolster household spending somewhat. However, due to leakages through the consumption of imports, a portion of the face value of this relief will be directed abroad. Some leakage will also occur through savings of a portion of the tax cuts, particularly among higher-income earners.
Personal Income Taxes and Enhanced Tax Credits
Budget 2009 introduces several permanent, broad-based tax cuts and credits targeted at providing assistance to low- and middle-income Canadians, who are disproportionately affected by the economic downturn. From 2010 onward, these initiatives will be indexed to inflation. The measures targeting tax brackets and existing tax credits tabled in Budget 2009 include:
- A permanent 7.5 per cent increase over 2008 levels in the basic personal, spousal and common-law partner, and eligible dependant amount to $10,320, effective January 1, 2009.
- Effective January 1, 2009, the upper limit of the first two personal income tax brackets will rise by 7.5 per cent (relative to 2008 levels) to $40,726 and $81,452, respectively. The combined fiscal relief resulting from higher personal amounts and tax bracket limits will total $470 million in fiscal year 2008–09, and will rise to $2.3 billion by 2013–14.
- Permanent tax cuts for low- and middle-income Canadians through a permanent increase in the income levels on which the Canada Child Tax Benefit (CCTB) are based, extended in line with the increase in the upper limit of the lowest income tax bracket, effective January 1, 2009. These increased benefits will return $230 million to Canadian households in 2009–10.
- A permanent enhancement in tax relief provided by the Working Income Tax Benefit (WITB) valued at an additional $580 million over current benefits beginning in the 2009 taxation year. Discussions with provinces and territories will continue in an endeavour to harmonize provincial work incentive programs with the federal WITB.
- A permanent increase in the Age Credit, a federal income tax credit available to Canadians 65 years of age and older, totalling $325 million by fiscal year 2009–10. Effective January 1, 2009, the income level at which the Age Credit is fully phased-out will increase by over $6,600 to $75,032.
Promoting Residential Investment
Budget 2009 introduces a series of innovative measures timed to provide some much-needed uplift to residential renovation and resale activity, which has been hard hit in many regions across Canada. In times of financial uncertainty, investments in residential housing remain relatively “safe” portfolio assets, given their intrinsic value. Furthermore, in the broader economy, stronger residential investment provides economic stimulus to the construction and forestry industries, two other areas that have been hit hard by the U.S. downturn.
The centrepiece of Budget 2009’s residential investment mission is the new temporary Home Renovation Tax Credit (HRTC). The new HRTC will apply to eligible home renovation expenditures for work performed (or goods acquired) after January 27, 2009, and before February 1, 2010. A 15 per cent credit may be claimed on the portion of eligible expenditures exceeding $1,000 but not more than $10,000. Eligible homeowners will be entitled to a maximum tax credit of $1,350 (based on $10,000 in spending minus the first $1,000 that is not covered) for renovations carried out on one or more of their dwellings. HRTC outlays will total $500 million in 2008–09 and will rise to $2.5 billion in the following fiscal year.
In addition to the HRTC, Budget 2009 also implements:
- A permanent new, non-refundable First-Time Home Buyers’ Tax Credit, based on an amount of $5,000 for first-time home buyers who acquire a qualifying home after January 27, 2009. The credit will also be made available for certain acquisitions of a home by or for the benefit of an individual who is eligible for the disability tax credit. By fiscal year 2009–10, this initiative will provide $175 million in assistance to first-time home buyers.
- The introduction of the ecoENERGY Retrofit program, which will provide $300 million over two years to home and property owners by means of grants of up to $5,000 for making homes more energy efficient.
- A further increase of $15 million of permanent fiscal assistance to first-time home buyers will become available through the existing Home Buyers’ Plan (HBP). Enhancements to the HBP will allow first-time home buyers to withdraw up to a maximum of $25,000 from a registered retirement savings plan without having to pay tax on the withdrawal—an increase from the previous threshold of $20,000. These higher thresholds become effective in tax year 2009 and apply to any withdrawals made after January 27, 2009.
Business Tax Relief
Budget 2009 extends modest fiscal stimulus to businesses, with the total increase in outlays ranging from $385 million in fiscal year 2009–10 and falling to $135 million by 2013–14. Among the measures included in Budget 2009 are:
- A permanent increase in the level of small business income eligible for the reduced federal tax rate of 11 per cent—from $400,000 to $500,000, effective January 1, 2009.
- A temporary 100 per cent capital cost allowance (CCA) rate for computers acquired after January 27, 2009 and before February 1, 2011.
- An extension of the temporary 50-per-cent straight-line CCA rate to investment in manufacturing or processing machinery and equipment made in 2010 and 2011.
- The repealing of the interest deductibility constraints as laid out in section 18.2 of the Income Tax Act.
- The provision of some $440 million in tariff savings for Canadian industry over the next five years through the discontinuation of tariffs on a range of machinery and equipment.
Regional and Business Development
In the current economic climate, the Conference Board is a strong proponent of measures ensuring that firms have adequate access to credit. The federal government espouses similar priorities in Budget 2009, most notably in the provision of up to $200 billion in financing to businesses. In addition to measures already taken, the budget commits to provide:
- An additional $50 billion for the Insured Mortgage Purchase Program, increasing its reach to $125 billion.
- A $13-billion increase in the lending of Crown corporations, of which $5 billion will be delivered through the new Business Credit Availability Program.
- A new $12 billion for a Canadian Secured Credit Facility to support financing of vehicles and equipment at a time when vehicle makers’ financing arms are cutting back on lending to all but the most creditworthy customers.
- An increase in the loan limit for small businesses through proposed amendments to the Canada Small Business Financing Program and the Business Development Bank of Canada.
Naturally, some regions and industries are disproportionately affected by the effects of the global downturn, and a wide range of targeted initiatives are offered in Budget 2009 to address the needs of specific sectors. In addition to the well-publicized partnership between the federal government and Ontario’s provincial government to offer short-term guaranteed loans to struggling Canadian automotive manufacturers, the budget includes major outlays aimed at helping the agriculture sector, small- and medium-sized enterprises, and the tourism industry. The proposed actions differ among the sectors and are generally designed to create stronger market conditions, rather than to bail out struggling companies.
In an effort to provide economic stimulus in the construction, engineering, and manufacturing sectors, the Government of Canada will increase funding for infrastructure by almost $12 billion over the next two fiscal years. The investments will focus on four key priorities:
- Provincial, territorial, and municipal infrastructure—$6.4 billion in support of short-term projects aimed at renewing public infrastructure, including road and sewer upgrades.
- First Nations infrastructure—$0.5 billion to support construction and renewal of schools, improve safe drinking water, and build health-care and policing infrastructure in Aboriginal communities.
- Knowledge infrastructure—$3.1 billion to modernize universities and colleges and build research infrastructure.
- Federal infrastructure—$0.7 billion to improve rail services, bridges, and highways, refurbish harbours and improve border crossings.
This increase in infrastructure spending is expected to be matched by $8.9 billion in provincial contributions. Although serving to push provincial governments further into the red, it will bring the total stimulus from new infrastructure spending to $20.7 billion over the next two fiscal years. Additionally, infrastructure spending is an efficient form of fiscal stimulus. The Conference Board estimates that every dollar spent on infrastructure serves to increase real GDP by $1.20. Consequently, infrastructure spending is expected to shore up real GDP by almost 1 per cent per year on average over the next two fiscal years. In addition, the federal government will streamline federal approval processes so that more provincial, territorial, and municipal projects under the Building Canada plan can start this year. The Building Canada plan (announced in Budget 2007) provided $33 billion over seven years for various infrastructure projects across Canada.
Promoting Employment and Skills Development
A mobilized workforce is one that is better able to cope financially and socially with the inherent challenges of an economic downturn. Budget 2009 acknowledges this truth and places considerable emphasis on the importance of enhancing federal programs designed to support the unemployed and promote skills development among displaced workers. In addition to efforts to promote foreign credential recognition, the targeted enhancements to existing federal benefits include:
- A temporary two-year increase in the duration of all regular Employment Insurance (EI) benefit entitlements by five extra weeks. The change will extend the maximum benefit duration from 45 to 50 weeks, at an estimated cost to the program of $1.15 billion.
- An extension of work-sharing agreements by 14 weeks to a maximum of 52 weeks. Under the existing EI program, qualifying employees can collect partial EI benefits while working a reduced workweek as their employer recovers from an economic downturn. The extension of EI benefits enables workers to remain actively engaged in the workforce while allowing some cost-side relief to hard-hit employers. This measure will cost $200 million over the next two years.
- A $1 billion increase in funding over two years for training delivered through the EI program.
- The provision of $500 million in each of the next two years for the extension of EI benefits to long-tenured workers from industries affected by the economic downturn to pursue skills retraining. Training benefits will also be extended to individuals who do not normally qualify for EI training (e.g., the self-employed).
- A $50 million extension of the Wage Earner Protection Program to cover severance and termination pay owed to eligible workers impacted by employers’ bankruptcy.
- The freezing of EI premium rates at $1.73 per $100 of earned income for both 2009 and 2010. This could result in a deficit in the EI plan.
Investment in Social Housing
The government has committed to improving (and expanding on) the estimated 630,000 social housing units in Canada. Many of the existing units are aging and require significant repair and upgrading to meet modern efficiency and accessibility standards. To that end, Budget 2009 commits $1 billion in federal investment over the next two years for general renovations, energy upgrades, and improved access for persons with disabilities. The program will be administered through existing agreements and through the Canada Mortgage and Housing Corporation on a 50/50 cost-sharing basis with the provinces and territories, which are primarily responsible for providing social and low-income housing. The $1 billion injection will fund upgrades on the 200,000 social housing units that need it most.
In addition to upgrades to existing social housing units, the government will commit another $1 billion over the next two years toward social housing for seniors, persons with disabilities, First Nations housing, and Northern housing. Budget 2009 delivers $400 million over the next two years for the construction of affordable housing units for low-income seniors. The program will be cost-shared with the provinces and territories. There is also an additional $75 million directed toward persons with disabilities. Both initiatives will flow through the pre-existing Affording Housing Initiative.
While the government continues to support the development of individual home ownership on reserves, many First Nations continue to face significant need for affordable housing. To help alleviate this condition, Budget 2009 provides $400 million over the next two years, dedicated to new social housing projects and remediation of current social housing stock. This will assist in the eventual transition toward market-based housing on reserves, while serving as an economic stimulus for many First Nations by generating employment, the development of skilled trades, and the creation of small businesses. Finally, the government has also committed $200 million over two years dedicated to social housing in the North. Yukon and the Northwest Territories will each receive $50 million while the remaining $100 million will flow to Nunavut where the need for new social housing is greatest.
The Department of Finance relies on a consensus of private sector forecasts to provide the economic indicators required in producing budgetary projections. The consensus outlook behind the current budget estimates is based on the third-quarter release of the National Income and Expenditure Accounts by Statistics Canada and was updated as of January 16, 2009
The consensus of private sector forecasts calls for real GDP to contract by 0.8 per cent in 2009, a significant revision from the 0.3 per cent growth expected in November’s Economic and Fiscal Statement. Rapid deterioration of global economic conditions has also caused a downward revision in the forecast for 2010, from 2.6 per cent growth to the current forecasts of 2.4 per cent.
The outlook for price inflation has also slowed since the Economic and Fiscal Statement, mainly because of weaker commodity prices related to the weaker outlook for global economic conditions. As a result, the GDP deflator is now expected to contract 0.4 per cent in 2009, followed by growth of 1.7 per cent in 2010. Consequently, the private sector consensus forecast has nominal GDP falling 1.2 per cent this year, a significant 2 percentage points lower than expected just two months ago. Based on these projections, nominal GDP (which is the broadest measure of the country’s tax base) will be $25 billion lower in 2009, and $30 billion lower in 2010 than was expected in the Economic and Fiscal Statement.
The risks to the global economy are particularly important to Canada, since the economic turmoil has led to low and volatile commodity prices. There is considerable uncertainty about how commodity prices will affect nominal GDP growth. Overall, there is significant downside risk to the nominal GDP forecast mentioned above, which could potentially reduce the projected level of budgetary revenues. In light of these risks, when drawing up its budget planning assumptions, the Department of Finance decided to adjust downward the private sector forecast for nominal GDP. The planning assumption for nominal GDP in 2009 is a contraction of 2.7 per cent. This will leave nominal GDP $30 billion lower in 2009 and 2010 than projected by private sector forecasters, and approximately $60 billion lower in each year than was forecast in November’s Economic and Fiscal Statement.
The Conference Board’s own forecast is more optimistic than what is contained in the 2009 federal budget. Our forecast calls for real GDP to contract 0.5 per cent in 2009, followed by a strong rebound of 3.6 per cent in 2010. Our stronger outlook for real GDP results in a more positive outlook for several key industries. Strong domestic demand will also help the Canadian economy continue to weather the storm south of the border. The Conference Board’s forecast of price inflation is quite similar to that of the 2009 budget. Consequently, our forecast of nominal GDP is slightly higher in 2009 with a contraction of only 1 per cent, and then substantially higher in 2010, with growth of 5.6 per cent.