Stuck in the Red With no Room to Move: Analysis of the 2023 Fall Economic Statement

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Key Findings

Weak Economy Offers Slim Pickings

The federal government’s Fall Economic Statement delivered few surprises. The economic outlook from the consensus of private sector forecasters is relatively consistent, with most forecasts calling for real GDP to flatline over the next few quarters, helping to ease inflation back to target by 2025.

Real GDP growth this year was stronger than expected in the 2023 spring budget, with growth of 1.1 per cent forecast for 2023. Economic growth will slow to just 0.4 per cent next year, slightly below our autumn economic outlook. Economic growth is forecast to pick up to above 2 per cent annually over the rest of the planning horizon to 2028-29.

The government’s economic outlook provides reasonable assumptions for the fiscal plan. Over the past number of years, the government’s fiscal outlook has been derailed time and time again by global events, and the current global environment remains risky. For this reason, the FES includes fiscal projections under both upside and downside economic scenarios. In the baseline scenario, the budget deficit peaks in 2023-24, at $40 billion, in line with Budget 2023 estimates. In the downside scenario, which incorporates a 1.0 per cent decline in real GDP in 2024, the deficit would peak at $51.2 billion in 2024-25.

No Balance in Sight

A weaker economic outlook has downgraded the government’s revenue streams over the FES planning horizon, and this has limited the government’s ability to introduce any sizeable new measures. Still, combining the few new spending measures from the FES, along with measures already introduced since Budget 2023, with deteriorating revenues, results in a long string of sizeable deficits.

Over three years from 2023-24 to 2025-26, the government plans for almost no improvement in its deficit situation, running at over $38 billion annually. The deficit is lowered in the outer years of the planning period, to $18.4 billion in 2028-29—about $10 billion behind the pace presented in Budget 2023.

The FES sees nearly $28 billion in higher deficits over the next six years than previously anticipated. The government appears willing to rely on the fact that Canadian net debt and budgetary balances compare favorably against those in other G7 countries.

There is very little in new revenue measures, but the FES did announce additional cuts to government departments. There were $15.4 billion in cuts announced in Budget 2023, the government is tightening the belt a bit further, with another $2.4 billion in cuts over the six-year planning horizon.

Debt charges are putting a major dent in to the government’s fiscal outlook and could constrain the ability to manoeuver on any new spending for the foreseeable future. Public charges on debt are set to surge from $35.0 billion in fiscal 2023-24 to $60.7 billion by fiscal year 2028-29. The forecast assumes that long-term government bond yields will settle at about 3.2 per cent once inflation is beaten, down from recent highs of around 4 per cent.

Overall, the government’s fiscal anchor is dragging as the debt-to-GDP ratio increased by 0.7 percentage points, to 42.4 per cent in 2023-24 and will peak in 2024-25 at 42.7 per cent.

Saving a Little Spending for Later

The FES contains nearly $16 billion, cumulatively, in new measures over the 6-year planning horizon. The government had little room to maneuver given the weak revenue outlook for next year, so the lion’s share of spending on new policy measures is pushed out until 2025-26.

The FES is focused on housing affordability, with $6.3 billion in new spending mostly aimed at building new homes.

The FES adds $15 billion in loan funding to the Apartment Construction Loan Program, which the government claims will help build 30,000 additional rental units. Additional funding is also slated for direct spending on affordable housing and cooperative housing programs.

Another measure is aimed at denying tax deductions for expenses incurred for short-term rentals operating in jurisdictions where short-term rentals are prohibited. Our research suggests that there is little hope of lifting affordability by reducing Airbnb rentals because they are such a small share of the market in most municipalities.

There is much to be concerned about in coming years with the number of heavily indebted households that will renew their mortgages at much higher rates. This is a problem particularly facing the younger generations as boomers and their elders are far less exposed to debt costs. The FES discusses a new Mortgage Charter which requires federally regulated financial institutions to advise borrowers about mortgage renewal dates and provide options (such as waiving some fees and extending amortization) to help households in financial difficulty. It remains to be seen whether the Mortgage Charter will be effective at helping distressed households remain in their homes.

Arguably the most significant effort on housing affordability was previously announced in September with the removal of the GST from new rental housing. According to the FES, eliminating the 5 per cent federal portion will cost a cumulative $4.6 billion from 2023-24 to 2028-29.

Residential construction is hindered in this country because of the shortage of construction and trades workers. The FES aims to make it easier for skilled workers to move from one province to the next, although they need provincial involvement to make that work. In addition, the benefits will be muted because this shuffles rather than increases the supply of labour. To that end, the government is seeking to prioritize construction workers for permanent residency.

The FES dedicates a chapter to supporting the middle class, but there is very little, about $200 million, in new spending announced.

There is also very little in new measures aimed at building Canada’s clean economy or driving private investment. The FES announced $907 million over 6 years, mostly to develop electric power generation from waste biomass. Since Budget 2023 however, the federal government has announced numerous investments in clean energy and electric vehicle supply chains, including major investments in battery manufacturing. Overall, these lift spending by an additional $8.5 billion over six years above what was in Budget 2023.

Red Light, Green Light: Aligning Monetary and Fiscal Policy

In summary, FES shows how little room the federal government has to work within. The slow economic environment is partly a result of their own approach to past budgets. They followed a highly stimulative fiscal framework following the pandemic, from which they had not significantly withdrawn as the economy hit its capacity in the past two years. That forced the Bank of Canada to apply even more restrictive monetary policy to offset the effects of the government’s stimulative impulses, akin to pushing the brake and gas pedals at the same time. Let us hope that the two policymaking bodies can begin to row in the same direction in the future as inflation pressures subside. Interest rates will likely be coming down in the next year, but negative federal fiscal balances also need to pushed back toward neutral territory at a greater pace.