The current spending cuts recently announced by the coalition government have sent shock waves around the country. Many people fail to realise that these plans were well in place by the conservatives before they were even elected. 

The plans are mainly based on the action taken by Canada in the mid 1990s. 

In the 1990s, Canada had also become one of the developed world’s most socialized economies, with the government accounting for 53% of the country’s GDP. Economic growth was stagnating, while debt levels were inexorably and dangerously mounting. At its scariest zenith, Canadian federal and provincial government debt amounted to 120% of GDP, with roughly 70% at the national level and an outrageously bloated 50% owed by the provinces. Moreover, unlike in our present situation, Canada’s interest rates were rising due to worries about the nation’s solvency. Its coveted AAA credit rating was yanked, and the market was treating it as an increasingly unreliable borrower. 

In other words, it was much like the situation a number of European countries and the UK find themselves in today.

The reality is that Canada achieved stunning progress and turned it around in a mere three years. Further, this time frame was consistent at both the federal and provincial levels. In case you think I’m exaggerating the speed and magnitude of the rehabilitation, let me provide some specificity:

• Paul Martin, the finance minister for the national Liberal Party, unveiled a budget in early 1995 that shocked all the cynics accustomed to smoke-and-mirrors accounting. It reduced program spending by 8.8% over two years (and our politicos quiver over a mere hint of spending freezes).
• As part of this radical spending rationalization, federal government employment was reduced by 14%.
• Federal grants to the provinces were reduced by 14% as well, but the trade-off was that they were allowed to control how the money was spent. Provincial governments also needed to provide half of all funding (i.e., put skin in the game).
• While some taxes were raised (and, according to the authors, these worked against the recovery), spending cuts were 4 ½ times tax hikes.
• Canada’s welfare system was dramatically modified. Rather than just providing a blank check to the provinces (which administered the welfare programs), Ottawa incentivized them to put the funds to better use. Benefits were cut for single, employable individuals and aggressive efforts were made to get them back in the work force.
• Despite accusations from the far left that the poor would suffer due to these changes, the percentage of welfare recipients fell in just a few short years from 10.7% of the population to 6.8% by 2000. From 1997 to 2007, the percentage of Canadians classified as low-income plunged by over 30%.
• The tax structure was dramatically redesigned. Corporate tax rates were cut by nearly a third, taxes on corporate capital were abolished, and personal income and capital gains taxes were reduced.
• The General Services Tax (basically a consumption tax or VAT) was instituted to pay for the tax cuts described above. While initially very unpopular, it was a key part of the rehab plan.
• The Canada Pension Plan (CPP), the country’s version of Social Security, also underwent major surgery. Instead of payroll taxes gradually rising to 14%, the increases were pulled forward but capped at under 10%. This produced immediate surpluses that were invested in higher-returning corporate securities. The CPP today is well-funded and actuarially sound.

As a result of these actions, and many others I’ve left out, the federal budget was balanced within three years. 

After achieving this remarkable feat, Canada went on to produce 11 straight budget surpluses. This allowed Canada to reduce their federal debt from 80% of GDP to 45%. Further demonstrating how quickly good policy can turn things around, the provinces enacted similar measures. Most of them also moved to balanced budgets or surpluses within just three years. 

Do the measures taken by Canada remind you of any plans recently unveiled?

I hope it all works out the same for us.