Canada Did It, Why Can't We?

“Our economic fundamentals are much stronger than those of our neighbor to the South. People are nervous, but there isn’t the universal pessimism you see in the U.S.”—Catherine Harris, Canadian Investment Guide 2010

This summer I attended two conferences, my own FreedomFest in Las Vegas and the Money Show in San Francisco, and in both places the pessimism was palpable and universal. Fear of a double-dip recession, job loss, and a ten-year bear market on Wall Street can do that to a country.

Attendees were frustrated and angry. Peter Schiff summarized the doom-and-gloom atmosphere when he declared, “Between the trillion-dollar unending deficits and the unfunded liabilities, there is no light at the end of the tunnel—other than runaway inflation.”

Earlier this year Moody’s warned that the U.S. is so stretched to the limit with out-of-control deficits that Moody’s may cut the rating for U.S. Treasuries below its perfect AAA rating.

Is there any hope?

Yes! At FreedomFest, we invited Niels Veldhuis, director of fiscal studies of the Fraser Institute, to tell the incredible Canadian success story. He and other Canadians are much more upbeat than Americans. Unlike the U.S., Canada has its act together after overcoming its own fiscal crisis in the mid-1990s. Its major banks did not fail during the financial crisis of 2008, and the Canadian dollar is now selling close to par against the greenback.

Admittedly, Canada had its own stimulus package and is running federal deficits, but among industrial nations, Canada has one of the lowest debt ratios to GDP and one of the fastest economic growth rates since their fiscal reform in 1995.

The Heritage Economic Freedom Index for 2010 reports on Canada: “Elaborate social and welfare-state programs swell overall government expenditures. However, good fiscal management and federal budget surpluses have enabled the economy to undertake stimulus measures without undermining fiscal soundness and long-term economic competitiveness.”

In fact, Canada is ranked No. 7 in the Heritage/WSJ Economic Freedom Index, ahead of the United States (now No. 11).

Niels Veldhuis told attendees the incredible story. In 1995, Canada faced a major fiscal crisis similar to the one we are facing today in the United States. Canada was running huge deficits. Inflation, entitlements, and government spending were getting out of control, reaching 53% of GDP. The national debt of Canada had tripled since 1965, and a third of Ottawa’s revenues were used just to pay the interest on the debt.

And the Canadian dollar was falling rapidly. There was genuine fear that it might go the way of Mexico, which devalued its peso in 1994.

In January 1995, the Fraser Institute held a major conference in Toronto with the title, “Hitting the Wall: Is Canada Bankrupt?” Afterwards, John Fund wrote an editorial in the Wall Street Journal attacking the Canadian “peso” and labeling Canada “an honorable member of the Third World.” That day, the Canadian dollar fell 3 ½ cents, and Canadian interest rates rose sharply.

The collapse of the “loonie” caught the attention of the prime minister and other government officials, and they decided to act. “Enough is enough,” declared Finance Minister Paul Martin.

Canada’s Dramatic 1995 Budget Reform

The Liberal Party of Canada announced a new austerity budget, a deliberate anti-Keynesian agenda of “smaller and smarter government.” They cut spending by 10% over two years, laid off 60,000 federal workers over three years, and eliminating the deficit in two years. For the next 11 years, Canada ran a surplus, cut the national debt in half, and reduced the size of government from 53% of GDP to today’s 39%.

And they did it without raising taxes. In fact, fiscal surpluses coupled with strong economic growth rates allowed Ottawa to cut taxes, including personal income taxes (to 29%), the federal VAT (to 5%), capital gains taxes (to 15%), and the corporate income tax (now approaching 15%). The government has also expanded tax-free savings accounts in Canada.

At the same time, the Chrétien government tackled three “untouchable” entitlement programs: the Canadian Pension Plan (CPP), unemployment insurance, and welfare. There’s even talk now of reforming Canada’s socialistic healthcare program.

The ten Provinces of Canada got into the act, decreasing spending and deregulating business. Saskatchewan, long a bastion of socialism, deregulated its economy, cut taxes and spending, and saw a miracle of its own. Other provinces have followed suit.

In the beginning, Keynesian economists were alarmed by Ottawa’s austerity program and warned of a collapse in “aggregate demand” and employment. They were proven wrong. Canada transformed itself into one of the top performing economies of the world. Real GDP growth averaged 3% since the 1995 reforms, exceeding the economic growth rate of the United States. Canada’s job-creation record exceeded the employment growth of all other G-7 countries. Fewer Canadians are on welfare and unemployment insurance. And the Canadian dollar has steadily advanced against major currencies, and once again is close to par with the greenback.

Today Heritage’s Economic Freedom Index shows Canada ahead of the United States.

What’s most impressive about the Canadian success story is that it happened under the leadership of Jean Chrétien and the Liberal Party of Canada, not the Conservative Party of Brian Mulroney, his predecessor. In fact, Mulroney’s party raised the national sales tax to 7% in a vain attempt to solve the fiscal crisis.

Source: Department of Finance Canada

Why did the Liberal Party do it, since they were the party that socialized Canada in the first place?

According to the Fraser Institute, the Canadian leaders got the message because the public and the media demanded change. Everyone, regarding of political affiliation, knew Canada couldn’t continue down its “road to serfdom.” In particular, they recognized that a third of the government budget was going toward paying the interest on the debt, not government services, and that angered them. Their leaders had the guts to make the hard decisions, and the reforms worked. The Canadian success story is real.

President Obama, are you listening?