Prime Minister Mark Carney and his Finance Minister François-Philippe Champagne are set to deliver their first budget next week.Adrian Wyld/The Canadian Press
Since becoming Prime Minister earlier this year, Mark Carney has repeated the mantra: Canada can give itself more than U.S. President Donald Trump can take away.
That will be put to the test on Tuesday when Mr. Carney and Finance Minister François-Philippe Champagne deliver their first budget.
The cost of U.S. protectionism is clear. Canadian industries that were built on seamless integration into continental supply chains are fighting for survival. Exports have plunged and business investment has been frozen by uncertainty over tariffs.
Last week, Bank of Canada Governor Tiff Macklem, who previously served as Mr. Carney’s No. 2 at the central bank, warned that the Canadian economy is going through a “structural transition” that could leave economic growth on a permanently lower path.
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If Ottawa is going to push back against this, it needs to convince companies and investors to bet on Canada, even if tariff-free access to the world’s largest market is no longer guaranteed and opportunities abound south of the border.
It also means reversing a decade of underinvestment by Canadian businesses in machinery, equipment and intellectual property that produced what the central bank called a productivity “emergency” well before Mr. Trump returned to office and began rewriting the rules of global trade.
Canadian business leaders have mostly applauded Mr. Carney’s early steps to improve the country’s business climate. This includes legislation to tackle interprovincial trade barriers and a new office to fast-track major infrastructure and resource projects.
Likewise, his comments about cutting red tape and embracing the country’s position as an “energy superpower” have been well received from Bay Street to Calgary.
But the full scope of the government’s economic growth agenda will only become clear when the budget is released on Tuesday.
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And what Ottawa does with corporate taxation, environmental regulation and various industrial policy tools could have a bigger impact on the investment climate than anything announced to date, economists say.
“I think what they’re doing is indicative of them understanding the scope of the challenge, the nature of the challenge and the need for some really kind of outside-the-box thinking,” Jean-François Perrault, chief economist at Bank of Nova Scotia, said in an interview.
“How effective that will be is a function of their ability to catalyze private-sector finance. And even though you have the business community largely now saying good things about the direction, we haven’t seen the pickup in private investment yet.”
There is no shortage of ideas about how to make Canada investible again. For many economists, it starts with the tax system.
In their spring election platform, the Liberals committed to conducting an “expert review” of the corporate tax system. And last month, Mr. Carney hinted at possible changes in the coming budget.
“We’re well aware of what the relative tax rates are in investment, and we will make sure that they are competitive in the budget,” Mr. Carney told reporters, responding to remarks from Bank of Montreal chief executive officer Darryl White that the country’s corporate tax system puts Canada at a disadvantage.
It’s unclear whether Mr. Carney was hinting at a broad cut to the corporate tax rate, or niche tax changes aimed at encouraging certain types of business investment.
That could include expanding accelerated depreciation rules – which allow companies to write off assets more quickly – to a broader range of industries beyond manufacturing, or allowing more sectors to use the flow-through share system designed to encourage investment in early-stage mining companies.
Francis Fong, senior economist at Toronto-Dominion Bank, said that the government needs to take a serious look at the tangle of corporate tax incentives that already exist and make sure they support high-potential companies and don’t simply throw money at well-connected incumbents.
“The fundamental challenge of this file is that nobody wants to be the bad guy when it comes to tax,” Mr. Fong said. “Nobody wants to be that guy that takes away someone’s benefits, regardless of whether that benefit is warranted or is supporting the productivity picture, the competitiveness picture.”
For Mr. Perrault of Scotiabank, tax reform is important. But more important is a push to build infrastructure and change the regulatory system around natural resources.
That could include rethinking clean electricity regulations and the place of natural gas in the country’s sustainable investing taxonomy, or scrapping the oil and gas emissions cap altogether.
“A company’s not going to decide to not do a natural resource project in Northern Ontario or Northern Saskatchewan because of the tax regime. It will be something else. There’s no roads. I don’t have the permits,” Mr. Perrault said.
Ottawa is also taking a major swing at industrial policy. So far, this has been mostly defensive.
Over the summer, Mr. Carney announced billions of dollars to help companies in hard-hit industries – steel, aluminum, automobiles and forest products – retool and look for new markets. And the government is developing a “Buy Canadian” procurement scheme to prioritize Canadian metal and lumber in defence contracts and government-backed housing projects.
Over the summer, Mr. Carney announced billions of dollars to help companies in hard-hit industries retool and look for new markets.Justin Tang/The Canadian Press
This is more about salvaging domestic industries – saving a steel mill in Sault Ste. Marie, Ont., or lumber mills on Vancouver Island – than it is about attracting substantial new investment. In effect, Ottawa is mirroring Mr. Trump’s economic nationalism and protectionism, with the costs and inefficiencies that implies.
But the promised surge in government spending on home construction and on the military could be a significant catalyst for private capital if done right, economists say.
Stéfane Marion, chief economist at National Bank of Canada, said that Mr. Carney’s pledge to spend 5 per cent of gross domestic product on defence and defence-related items presents “a formidable opportunity” to build up Canada’s industrial base that has withered over the past two decades.
But to really boost investment in manufacturing, Ottawa needs to rethink rules around using natural gas as a “transition” fuel for electricity generation, he said. “Your comparative advantage has to be in having available energy. And if you’re going to do industrial sector manufacturing, you need natural gas.”
Tyler Meredith, who was an economic policy adviser to former prime minister Justin Trudeau and former finance minister Chrystia Freeland, said that Mr. Carney has long been seized with the question of how to get companies to invest more.
Back in his time as governor of the Bank of Canada, Mr. Carney ruffled feathers on Bay Street by castigating companies for sitting on what he called “dead money,” rather than investing it or giving it back to shareholders.
But actually getting companies and investors to put their money to work in Canada isn’t simple, particularly when the United States is cutting taxes, deregulating and backing new industries such as artificial intelligence.
“The challenge is, we can compete and even exceed the U.S. on taxes. We can streamline our regulatory processes. But it just doesn’t feel like it’s as aggressive as what you have in the U.S.,” Mr. Meredith said.
“And then it comes down to: Are Canadian investors and Canadian businesses willing to look at themselves as Canadians, and this opportunity to invest in themselves and invest in this country, differently than they did before? I’m not sure how that will net out.”
Whatever economic growth strategy Mr. Carney and Mr. Champagne pursue, it will come wrapped in a very expensive bow.
Weak tax revenue growth combined with a surge in spending on defence, housing and infrastructure is expected to produce a deficit in the $70-billion to $100-billion range.
That led to warnings in September from interim Parliamentary Budget Officer Jason Jacques that the fiscal path is “unsustainable” and the country’s finances are on a “precipice.”
International Monetary Fund managing director Kristalina Georgieva offered a more optimistic assessment a few weeks later at the annual IMF meeting, suggesting that Canada, alongside Germany, has more fiscal wiggle room than its peers to make investments.
Former parliamentary budget officer Yves Giroux said in an interview that the important thing to watch isn’t the deficit in a single year. It’s whether the government has a credible path for bringing the deficit down over time.
And it’s just as important to look at where the money is going as the overall level of spending, given that investments that boost economic growth also help improve tax revenues over time, Mr. Giroux said.
“If it was spending to build or expand existing infrastructure that will facilitate trade diversification, it would be less worrying to see a bigger deficit,” he said.
There’s little doubt that the size of the deficit will capture headlines and drive political debate in the House of Commons, where Conservative Leader Pierre Poilievre is hammering the government on its spending.
But from a business investment standpoint, the size of the deficit begins to matter when debt rating agencies get nervous and investors start demanding risk premiums to hold government debt, driving up interest rates across the economy.
“I’m not seeing, and I haven’t read any credible analysis, suggesting that there is a rising risk premium being built into Canadian federal debt,” said Trevor Tombe, an economics professor at the University of Calgary.
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But that doesn’t mean Ottawa can ignore size of the deficit and continue blowing through its fiscal anchors, as happened frequently under then prime minister Justin Trudeau, without consequences, he said.
“There is no cliff where you get to and everything’s fine, then all of a sudden you fall off. It’s about changes at the margins, small changes in risk premium over time, that adds fiscal pressure to the government,” driving up debt-servicing costs and limiting the government’s ability to make choices, Prof. Tombe said.
Ultimately, many economists appear willing to give the government the benefit of the doubt when it comes to piling on the red ink this year.
Massive deficits certainly aren’t sustainable in the long run. But for many economists, the biggest risk right now is that Ottawa misses the chance to flip the script on economic growth and get serious about business investment.
“We’re shooting our last bullets right now. So go big or go home, and show me 3 per cent of GDP,” said Mr. Marion of National Bank, referring to the size of the deficit as a percentage of the economy.
“Investors will accept this to the extent that you’re showing you really mean to unleash potential GDP growth.”