The 2021 budget disappointed the investment sector

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A sustained pace of investment spending is the key ingredient to triggering a sustained economic recovery across the country, which will help bring federal finances into better balance. High levels of social program spending and pandemic support programs are not enough to stimulate the economy.

The federal government needs basic policy to revitalize investment spending and business confidence. Over the past three years, average business spending has steadily declined across the business sector. Additionally, spending in the small business sector is needed to start new businesses and expand existing small businesses decimated by the pandemic. According to statistics from the Canadian Federation of Independent Business, 58,000 businesses were inactive in 2020 and another 181,000 are expected to close this year. A fiscal plan would encourage investment spending and signal better control of public finances and confidence in stable tax rates.

The IIAC had recommended a Canadian version of the UK Enterprise Investment Scheme offering a personal tax credit for buying shares of small companies in the manufacturing, technology and service sectors across the country. This scheme has been very successful in the UK, attracting retail investors to buy shares in companies operating in their local communities. A resurgence of investment in the small business sector, spurred by an effective market incentive, could create a hugely positive impact on economic recovery. Unfortunately, the IIAC advice was ignored.

It is likely that without a detailed fiscal plan, program spending and budget deficits will exceed the unprecedented levels currently projected. This is particularly relevant if the pandemic is protracted, the pace of business investment remains slow, and the anticipated rise in pent-up spending is below expectations. At some point in the near future, even without a rise in bond yields, the government will likely be forced to raise corporate tax rates and investment tax rates to limit the weakening of public finances. An increase in these tax rates would hurt direct investment, further stimulate net capital outflows and reduce investor participation in retail markets.

One possible explanation for the government’s reluctance to implement a detailed fiscal plan is that markets do not expect rapid increases in interest rates and inflation. This view stems from recent history which suggests that inflation and high interest rates have somehow disappeared, due to factors inherent in a globally integrated economy and massive technological advancements. As a result, some may believe that past financial crises resulting from falling bond and money markets – and a corresponding need for massive spending and deficit cuts – are a thing of the past.

However, there is reason to expect a negative market reaction to the chronic deterioration of public finances. A responsible fiscal policy must be based on a detailed fiscal plan to manage finances, regardless of the uncertainties about the future course of inflation rates and interest rates. Spending increases should be prudent and focused on the necessary economic support, providing the opportunity to incentivize small business investment spending. Just when you think things have changed, another financial crisis may be waiting around the corner.

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