The federal government may soon be contending with some formidable revenue constraints from both its own finances and the clutch of stagnation on the global economy.
A number of advanced economies, including the United States, Canada and much of Europe, are strong candidates for protracted periods of sluggish growth and joblessness, says a new study by Goldman Sachs Group Inc.
Developed markets face a 40% chance of sinking into a half-decade bout of stagnation, according to the report.
“Both Europe and the U.S. are remarkably close to the typical stagnation trajectory,” it said. “Unless growth picks up substantially, in the next couple of years, we are likely to have mapped out a five-year period of stagnant growth.”
That kind of economic drought would aggravate Canadian government finances, which, according to the parliamentary budget officer, are already on an unsustainable course.
The aging of the Canadian population will drag down government receipts as growth in the tax base slows, while spending demands will mount as more retirees tap seniors’ benefits, Kevin Page said Thursday following the release of his fiscal report.
“PBO estimates that permanent and immediate fiscal actions — either through increased taxes or reduced program spending, or some combination of both … would be required to ensure the net debt-to-GDP ratio does not ultimately rise above its current level,” the report said.
But of greater immediate concern than Canadian demographics is the debt accumulation of some of the world’s biggest economies, said Douglas Porter, deputy chief economist at BMO Capital Markets.
“The U.S., Europe and Japan are all saddled with an incredible hangover of government debt. That is going to keep a check on growth for years to come,” he said.
While economic anxieties mostly dwell on the prospects of a spectacular flameout comparable to 2008, a less dramatic — but no less ominous — deterioration could well be at hand.
Should true stagnation befall advanced economies, history predicts the damage would be considerable, Goldman Sachs said in its report.
Growth in a seriously stagnant economy averages around 0.5%, compared to the post-WWII average of 2.8%. Ten years of expansion at the lower rate would produce an income shortfall of 20%.
Unemployment averages about three percentage points higher during a period of stagnation, housing prices tend to fall, stock returns dip below normal, and rock-bottom inflation, or deflation, reflects weak consumer demand.
It’s a strain of economic affliction far more common than thought, Goldman explained, having documented 93 episodes of stagnation globally since the late-1800s.
Japan is typically held up as the poster child of economic stagnation, having officially suffered its impediments from 1992 to 2003.
But Japan is not alone, with 60% of documented stagnant economies occurring since WWII, and one-quarter lasting longer than 10 years.
Analysis of those historical occurrences of the phenomenon reveals striking commonalities with current conditions.
Economies at risk tend to be those stricken by financial crises, particularly stock market crashes. Periods of low growth are also associated with housing market busts, external debt crises and preceding periods of substandard growth.
By contrast, most emerging market economies, including China, India and Russia, are almost certain to avoid stagnation, according to the study.
Goldman also notes the limits on fiscal and monetary policy in developed economies, explaining that “it is still far from clear whether enough has been done to jolt economic growth upward and outside the zone where prolonged stagnation is a serious risk.”
Canada is somewhat better positioned than many of its peers, Mr. Porter said. “Under a worst-case scenario, there is still room in Canada for fiscal policy to help out,” he said.
But even if the economy fully recovers over the next few years, the additional spending on health care and elderly benefits is expected to produce “sizable deficits” over the long term, Canada’s spending watchdog said.
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