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The Tories Have Some Nerve Lecturing The World On Debt

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Prime Minister Stephen Harper and Finance Minister Jim Flaherty went to Russia for the G20 conference this week, and decided that this would be a good time to pressure the world into cutting government spending and implementing austerity measures.

Flaherty announced a goal for his department -- to reduce total federal debt to 25 per cent of GDP by 2021 -- and encouraged his fellow global leaders "to aim in the same direction."

Then he came out with some slightly more eyebrow-raising comments: It turns out Flaherty "never agreed" with quantitative easing, one of the U.S. Federal Reserve's principal strategies for bringing the U.S. economy back from the brink of ruin.

On that point, he's now in disagreement with Mark Carney, our own erstwhile "superstar" central banker, and he's out of touch with how the markets feel about it too.

But one thing at a time. Let's talk debt and deficits.

Flaherty's comments urging the world to keep reducing debt levels may seem like sound fiscal advice, but the one part of the world that is engaged in a serious debate about it -- Europe -- has suffered greatly at the hands of ill-timed austerity measures.

A recent study found austerity in Britain shaved six per cent off that country's GDP over the past three years, amounting to about $143.5 billion U.S. in lost income, or $5,400 U.S. per British household.

Now a fiscal conservative like Flaherty may say that's OK, we have to put up with a little economic pain in order to balance the budget. Except the problem here is that the European governments pursuing austerity haven't balanced their budgets.

"It turns out that slashing government spending and raising taxes in the midst of a recession/depression actually lowers tax revenue and raises the cost of government services for the poor and unemployed, which makes government finances even worse," HuffPost chief financial reporter Mark Gongloff writes.

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And Flaherty himself hasn't even practiced what he preached. Let's look at the Tories' record.

Having inherited years of successive budget surpluses from the previous Liberal government, the Tories started off their time in power by buying votes through tax cuts -- cuts that were not paid for by reduced government services. (Have your cake and eat it too, why not.)

As soon as the Tories took power, the budget surplus began to shrink. Within two years, the surpluses had turned to deficits. Now you might say that's not the Tories' fault -- the first year that Canada slipped back into deficits was 2008, which is when the financial crisis hit.

True enough, but according to the Parliamentary Budget Office, Canada's deficit is "structural," meaning at least some part of it would have existed regardless of the financial crisis. It was created because tax rates were cut too low to support government spending.

There was no structural deficit under the Liberals. There is now. And after years of denying it, the Tories have had to admit that fact.

And there's a good argument to be made that, far from being "austerians," the Tories are actually stealth believers in massive government stimulus.

Even as the Tories cut spending by removing federal environmental oversight and slashing the number of food safety workers, they quietly let the federal bureaucracy grow by 14 per cent in the time they've been in power.

That's not necessarily a bad thing; government hiring during hard times can soften the blow of recessions. But for Flaherty to preach one thing to the recession-riddled countries of Europe while practicing another at home is just pure hypocrisy.

Then there is Flaherty's rejection of quantitative easing (QE). It might seem like a technical issue, but it exposes Flaherty as something of an economic extremist.

First, a quick explainer: Quantitative easing is the Federal Reserve's program of buying U.S. government debt in order to stimulate the economy. The Fed's most recent QE program has it buying $85 billion-worth of U.S. government debt every month.

Some economists liken QE to printing money, and that's a legitimate way of looking at it. After all, what it amounts to is the U.S. Treasury borrowing money from the banks, then the Federal Reserve buying back that debt, giving the banks cash in return. So yes, it's one branch of government printing money to buy debt from another branch of the same government.

The upshot of QE is that it injects large amounts of cash into the economy and allows cash-strapped governments to keep borrowing without exhausting the investors buying their debt.

The downside of QE is that, in theory, it could lead to massive inflation, which is what Flaherty is worried about. But many economists, such as Paul Krugman, argue that inflation won't happen under these circumstances if there is already deflationary pressure in the economy. And given the tame inflation the U.S. has seen in recent years, Krugman appears to be right.

In criticizing QE, Flaherty's stance is in stark contrast to that of Mark Carney, the former Bank of Canada governor who was labeled a "superstar" for keeping Canada's economy on an even keel during the crisis, and who himself was a big fan of QE. During the crisis, Carney repeatedly called for more quantitative easing.

In fact, Carney engaged in some quantitative easing himself. During the early period of the financial crisis, the Bank of Canada bought tens of billions of dollars of Canadian government debt, effectively turning that debt into cash in the economy.

Here's an idea of just how much the business community believes in QE: When Fed chairman Ben Bernanke hinted this spring that he might end QE, it caused stock markets to plummet and bond yields to spike. Those rising bond yields have started pushing up Canada's mortgage rates. The first and most obvious effect of eliminating QE would be a significant increase in the cost of mortgages to Canadians.

And the Bank of Canada is right now engaged in something similar to QE -- it's buying considerably more than the usual amount of federal debt, officially in order to help the government build up more of a cash base in case of financial emergencies.

But many critics point to the suddenly exploding level of government debt on the Bank of Canada's books and call it a "stealth quantitative easing."

Maybe it is, and maybe it isn't, but it's clear that many of the things Flaherty doesn't like about other countries -- stimulus spending, bond buybacks -- happen in Canada on a regular basis.

So what, then, is the point of Flaherty and Harper puffing out their chests and lecturing the world on how right they are and how wrong everyone else is?

I can see only one: Political advantage back home. They're playing up the now-aging meme that Canada is a better run and more stable economy than, well, just about anywhere else, with an eye to maintaining the perception that the Tories are sound fiscal managers.

Unfortunately, to the leaders at the G20 -- stuck as they are between deficits and sinking economies, between the option of printing money and doing nothing -- Harper and Flaherty are just as likely to come off as a bunch of self-righteous jerks.