08/28/2012 02:05 EDT | Updated 10/28/2012 05:12 EDT

Government restraint to be drag on growth, CIBC says

Government spending restraint will be a drag on Canada’s economic growth in 2013, according to an analysis by CIBC World Markets.

That finding is at odds with one from the Bank of Canada, which sees the country’s real GDP getting a slight boost from government spending. Real GDP measures growth after inflation has been taken into account.

To arrive at its conclusion, CIBC economists took projections from the last federal budget as well as those from the four biggest provinces. It then adjusted the figures to strip out such things as transfers to households and added back capital spending.

"Our analysis points to yet another drop in real expenditures, with no major offset from planned tax reductions," says CIBC chief economist Avery Shenfeld.

Shenfeld estimates that real government spending will drop by 0.9 per cent in 2013/14. For the 2013 calendar year, he says that works out to a drag on real GDP of 0.2 per cent.

Bank of Canada's growth forecast 'too high'

"That doesn't look like a big deal, until one contrasts it with the 0.3 per cent boost to growth in the Bank of Canada forecast," Shenfeld says.

"The result is that the Bank’s forecast could be about 0.5 percentage points too high, enough to make the difference between growth being above potential, requiring interest rate hikes, or as in our forecast of 2.0 per cent growth next year, not fast enough to narrow the output gap and call for monetary tightening."

In April, parliamentary budget officer Kevin Page said his office's analysis of federal spending plans also led him to conclude that government restraint would be a drag on growth.

"The [Parliamentary Budget Office] expects that restraint and reductions in government spending on programs in Canada will act as a drag on economic growth and job creation, pushing the economy further away from its potential [GDP] and delaying the economic recovery," the report said.

The PBO report projected that spending restraints and cutbacks will reduce economic output by 0.3 per cent this year, climbing to 0.88 per cent in 2014. The PBO’s analysis was sharply criticized by Conservative MPs as being "too pessimistic."

In its last monetary policy announcement in July, the Bank of Canada said overall government spending was expected to contribute "modestly" to growth in 2013 – the finding that CIBC takes issue with.

In that same announcement, the central bank slightly lowered its forecast for real GDP growth next year to 2.3 per cent – still higher than CIBC’s 2.0 per cent forecast.

No recession risk

Shenfeld notes that any belt-tightening in Canada poses no threat that the country will slide back into recession.

"Having started from a combined federal/provincial deficit of only a third of that stateside, there's no equivalent threat of an outright recession being induced by cuts coming from Ottawa and the provinces,” he says.

“We'll get through our fiscal drag much sooner than the U.S. with a lot less pain in total."