A guest post by Russell Mellett
The 1995 Canadian federal government budget announced cuts of over 10 per cent in total programme spending phased in over the 1995/96 and 1996/97 budgetary years. Additional restraint measures were introduced in subsequent years. At that time, and more so today, federal government spending was heavily tilted toward transfers to persons (such as old age pensions) and transfers to provinces. Another important piece of context is that the provincial order of government, including territories and local government, was (and remains) responsible for delivering publicly funded health care and education. Provinces also funded and continue to fund the vast majority of these services through own tax revenues. Taken together, the provincial order of government has for decades accounted for a larger share of total government expenditures and revenues than the federal government.
Back to the cuts: The federal government cut its own programmes, including national defence, customs and immigration, and reduced the size of its civil service (with the Department of Finance, the Canadian equivalent of the Treasury, leading by example). Transfers to provinces that funded health, post secondary education and social services were also cut – but transfers to persons were largely spared, although some, notably unemployment insurance benefits, were restrained in subsequent years. Equalization transfers to the provincial governments were also left intact. These exist to promote reasonably comparable levels of provincial public services at reasonably comparable levels of provincial taxation, and so ensure ’fiscal equity’ for all Canadians.. In short, federal transfers to needy persons and the elderly and equalization transfers to poorer Canadian provinces were largely spared, with cuts applied (with varying degrees of severity meted out through a Cabinet-level ‘Star Chamber’ process) to virtually everything else.
Overall federal government cash transfers to provinces were hit hard. The federal government claimed at the time not to have cut transfers to provinces more than they cut direct federal programmes’. That claim was fiercely contested at the time, and still is. Most commentators would now agree with the provinces’ claim that the three federal budgetary transfers to them for health, for higher education and for social services were cut by about a third. To make these cuts easier to swallow, the three transfers were subsequently rolled into one and made more flexible: leaving it to provinces to decide where to cut own spending. Provinces responded by cutting spending on post secondary education and social services, largely sparing health spending. In many cases, they also passed on at least part of the federal transfer cuts by cutting transfers to their local governments.
The most remarkable aspect of the cuts was the broad public acceptance of them., In part, the need to do something was galvanized by an external economic shock (the Mexican peso crisis). Moreover, provincial governments had themselves been encouraging the federal government to get its own fiscal house in order, and many had led the way in bringing order to their own finances. This urgency was shared by major opposition parties in Parliament. Canadian citizens in general proved to be prepared to make sacrifices. To the great surprise (and relief) of government officials, a telephone call centre set up to respond to citizens concerns in the wake of the budgetary cuts fell mostly silent and was soon disbanded. Most importantly, and fortuitously, the Canadian economy expanded for a decade after the 1995 budget, thereby increasing the revenue raising capacity of all governments.
What can the UK government take from the Canadian experience? Mainly, that substantive spending cuts are possible – and that electorates convinced of the need to do so can, with grim determination, support even massive cuts under certain conditions. In particular, they need to be convinced that pain is being fairly distributed: Canada protected the elderly (pensions), and health care spending was maintained (through the choices made by provinces). Phasing in fiscal retrenchment also appeared to be important. Another big part of the (political) success story in Canada was that, as things turned out, budget cuts proved to have overshot the target: after just a few years, the country as a whole (including both federal and provincial governments) managed consistently to run large budget surpluses. These permitted many a ’new’ or ‘restored’” expenditure, as well as tax cuts, during those years.
It’s questionable whether the conditions the UK finds itself in today lend themselves to similar manoeuvres. Today’s economic environment appears markedly different than those facing Canada in the mid-1990s. The current economic recovery is fragile and vulnerable to developments on the Continent, and this may temper the depth and speed of any cuts: care must be taken in reducing aggregate demand (spending) too quickly. Moreover, ten years of rapid economic expansion are unlikely for the UK – implying that it may take longer for realistically feasible cuts to ensure a return to a balanced budget (or better) and a declining debt/GDP ratio over the medium term and that fiscal retrenchment may also need to include tax increases.
Regarding the devolved governments in Scotland, Wales and Northern Ireland, Westminster’s cuts to English programmes will, mechanically, be passed along via the Barnett formula: consequently, they will be hit only as hard as English spending is hit. But with little or no capacity to tax or to borrow, these governments will be stuck with whatever spending cuts and tax increases Westminster decides; their response limited to moving money around within a reduced spending envelope. In any event, the relatively small fiscal size of the devolved governments, means that the UK Government cannot offload as large a portion of its fiscal problem onto regional administrations as did Canada’s federal government.
It will fall to Westminster, through its own spending reductions and tax increases, to shoulder virtually full responsibility for fiscal austerity in the UK. Whatever course is decided, the time to introduce fiscal change is now, at the beginning of the mandate, making fiscal adjustments (more tightening if required, but maybe some loosening if things turn out well) in subsequent years.
Russell Mellett is an economist specializing in public finance, governance and institutions. He has worked for both federal and provincial governments in Canada and for the UK Cabinet Office.