Economists at some of Canada’s big banks are upgrading the country’s economic forecast in the wake of the Liberal Party’s sweeping victory in the election Monday.
But they warn that the Liberals’ planned deficit spending could result in interest rates rising sooner than expected, which could put pressure on mortgage-holders. And the party’s tax plan will put some economic pressure on the country’s highest earners.
With the Liberals in command of a majority of seats in Parliament, the way is clear for the party to enact its platform, which includes boosting the economy through $10 billion in deficit spending.
TD Bank economists Derek Burleton and Brian DePratto estimate this will boost GDP by a modest 0.1 per cent in 2016 and 0.3 per cent in 2017.
The Bank of Montreal has a more optimistic forecast: It sees a 0.5 percentage point boost to GDP next year alone. The bank now sees Canada’s economy growing at 2.5 per cent next year, compared to an earlier forecast of around 2 per cent. That’s still below-potential growth, and it assumes the Liberals will follow through on their economic stimulus strategy.
The Liberals’ deficit spending plan is split evenly between $5 billion in infrastructure spending and $5 billion going towards measures such as spending on the environment, indigenous peoples, health care and an enhanced child benefit.
The incoming government has also promised to create a new top tax bracket of 33 per cent for people with incomes above $200,000, while slightly cutting the tax rate for people earning between $49,000 and $84,000.
“This would bring the top marginal tax rates to between 43 per cent and 58.75 per cent depending on the province of residency,” TD Bank economists wrote.
“New Brunswick will have the highest combined tax rate, while a number of other provinces would also have combined top marginal tax rates above 50 per cent, including Nova Scotia, Quebec, and Ontario.”
CIBC economist Avery Shenfeld said this will mean a shift in Canada’s economy, with middle class earners holding more clout and top earners holding less.
“A more progressive tax system should support middle-income consumption at the expense of the types of spending favoured by higher-income earners,” Shenfeld wrote. “Investors might take note of that in some consumer-related equities.”
When governments borrow more, they drive up their cost of borrowing (see Greece for an extreme example). Economists at the big banks say the Liberals’ deficit spending plans could drive up interest rates in Canada.
“It is possible that with additional infrastructure-led growth the Bank [of Canada] may choose to begin hiking rates earlier and perhaps more aggressively,” TD’s Burleton and DePratto wrote.
But they add that “any impact is likely to be quite small given Canada's favourable debt position relative to other countries, and the relatively small size of the additional borrowing.”
Rising interest rates could put pressure on Canadian homeowners, who have taken on a record level of household debt primarily in order to finance increasingly expensive homes. Both The Economist and ratings agency Moody’s recently warned that they see house prices and consumer debt as being out of control in Canada.
Still, for the time being the banks are holding on to their earlier forecasts, which don’t see an interest rate hike in Canada before early 2017.
“That may change if the Liberal proposals are soon put in place and in fact start boosting growth,” Bank of Montreal chief economist Doug Porter wrote.
And Porter noted one positive about Monday’s unexpected electoral upset: It makes Canada’s economic future more predictable than it would have been under a minority government.
“With a majority government in place, there is much more clarity on the outlook for policy and certainty that the next election will be at least four years away,” he wrote.
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