Rudyard Griffiths and Sean Speer: What Carney really means when he says ‘austerity’

This leaves what’s called direct program spending as the only possible source of fiscal savings. This is the third of the budget not dedicated to transfers, encompassing everything from grants to Indigenous communities and various other stakeholder groups, to the day-to-day cost of running the government itself. It’s here that the Carney government has instructed ministers to find 15 percent in savings. Politically, this is already a formidable challenge. These programs may be smaller and more obscure than health care transfers, but they’re fiercely defended by the constituencies that benefit from them. Concentrating fiscal consolidation on this one segment of the budget magnifies the political difficulty. Economist Trevor Tombe estimates that balancing the budget (while simultaneously increasing defence spending) by solely targeting direct program spending could involve spending cuts totaling as much as 40 to 60 percent. This alone makes the notion of European-style austerity seem highly implausible. Making sense of his language  The story gets even more complicated given that Carney has distinguished between the “operating budget” and “investment.” His balanced budget pledge is limited to the former, while he’s promised to increase the latter. How operating expenses and investments are defined is a mystery. We can’t help but doubt that bond markets will find the distinction rather unpersuasive. The contradictions compound further. While Carney is speaking of both austerity and investment as well as balancing the budget, it’s also quite likely that declining or flat economic growth will cause revenues to fall relative to last year’s budget. This means that the gap between revenues and expenditures will grow even before the government raises spending or cuts any programs. C.D. Howe has estimated, for instance, that the starting deficit could be as high as $90 billion. How can one square the circle between the language of austerity and larger deficits? The answer may not be found in domestic politics, but in international bond markets. As a former central banker in both Canada and the United Kingdom, Carney is uniquely attuned to the psychology of international debt holders. And right now, that psychology is nervous. Looking to Europe Look to Europe. Both the United Kingdom and France are experiencing what amounts to a run on their bond markets. Political turmoil and fiscal uncertainty have caused yields on their long-term debt to spike, which in turn has caused their borrowing costs to soar. Canada isn’t immune. Over the past 12 months, the yields on longer-duration Canadian government debt have risen more sharply than those in the United States, tracking much closer to the worrisome levels of France and Britain. This is the context that makes Carney’s use of the word “austerity” so telling. It’s not common in the North America political lexicon. It’s the language of the European debt crisis—a language that Carney was fluent in during his time as a global banker. Perhaps, then, this rhetoric isn’t primarily for us. Perhaps it’s really directed at the bond vigilantes—those powerful, faceless market actors who punish fiscal irresponsibility by demanding higher interest rates. Perhaps the real purpose is to assure international creditors that, despite a rising Canadian deficit in the short term, Carney and his government recognize the problem and have a plan to try to get it under control so that Canada doesn’t become Britain or France. If this is the case, it would mark a profound shift. For the first time since the deficit battles of the 1990s, a Canadian government is being forced to shape its fiscal policy not just by the electorate, but by the unforgiving judgment of the global bond market. Carney may be hoping that by invoking the specter of austerity, he can keep those vigilantes at bay. His government’s credibility and Canada’s fiscal sustainability depend on whether they believe him.