I hadn't heard of the Institute for Government (IfG) until this past weekend, when they parachuted a piece into the Sunday Times about Canada's fiscal experience in the 1990s, and the lessons it holds for the UK. Judging from its website, the Institute looks to be pretty formidable intellectually. Still, I can't help thinking that its researchers may not have grasped all the key lessons from Canada.
The IfG's Sunday Times article correctly stated that Canada had been trying for years to solve its fiscal problems before Paul Martin became Finance Minister. Every budget in the late 1980s included medium-term plans to set the federal fiscal situation right, but somehow the projected improvements were never achieved. (The fiscal situation of Canada's ten Provinces was also dire at this time, but that's another story, and one with fewer lessons for the UK). The IfG believes that Paul Martin's great innovation was something called "Program Review", with each spending ministry obliged to justify its outlays anew. Truth to tell, this had a relatively limited impact, especially on the main social programmes.
What actually worked, and seems to have been Martin's own idea, was a shortening of the planning horizon. With a five-year horizon, spending cuts were always pushed out to the later years, so in practice nothing was ever done. Martin adopted a system of rolling two-year targets and cracked the whip on his colleagues in the
programme ministries to ensure that these were met. This may not seem like a major change, but it largely eliminated the procrastination that had bedevilled all previous attempts at fiscal austerity. One implication of this is that it is pointless for either the UK government or the opposition to pretend that they know how they will correct the current fiscal mess once the recession ends. The key to success, if the Canadian lesson is to be believed, is to look after the pennies in the short term, and keep making steady progress against rolling short-term targets.
The IfG notes that Canada achieved GDP growth even as it was cutting its budget deficit. It sees this as a hopeful augury for the UK. In truth, it was mainly the fact that the economy was growing so steadily that allowed Canada to get out of its fiscal mess so quickly. With a very open economy (and over 80% of its exports going to the US), Canada benefited greatly from the growth in the US economy throughout the 1990s. It also benefited from the generally declining trend in US interest rates during that decade, since US rates are by far the largest determinants of Canadian rates. Those falling rates were very helpful in reducing the debt service burden and cutting the budget deficit. The UK may not enjoy these advantages -- it does not have tariff-free access to a market ten times as large as its own, as Canada does.
However, the lesson from Canada seems clear: it will be very difficult for the UK to correct its budget deficits unless the economy is growing. I am not sure that the Conservatives understand this. On the other hand, if the economy is growing, the deficits will fall much faster than anyone can imagine at this stage. In Canada the Government consistently and probably deliberately understated the extent of the fiscal improvement, in order to keep voters and politicians focused on the need to fix the problem once and for all.
There is another point that's worth making about growth. Although the Canadian economy expanded through the late 1990s, it most surely did not feel that way to most Canadians. The proceeds of growth were almost entirely directed towards reducing the previous massive public sector dis-saving. Living standards were largely stagnant. It will not be easy for whichever UK government that has to preside over the fiscal recovery phase to maintain its popularity. The Liberals' reward for rescuing Canada from the brink of insolvency was first re-election with a reduced majority, and then electoral defeat. The Chancellorship after the next UK election will be a poisoned chalice indeed.
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