GOC PAVES ROAD TO WINTER ELECTION BY PROMISING

UNCLAS SECTION 01 OF 02 OTTAWA 003399 SIPDIS DEPT FOR WHA/CAN (HOLST) AND INR (SALCEDO) USDOC FOR 4310/MAC/ONA TREASURY FOR IMI E.O. 12958: N/A TAGS: ECON EFIN PGOV CA SUBJECT: GOC PAVES ROAD TO WINTER ELECTION BY PROMISING BIG TAX CUTS, MODEST NEW SPENDING REF: (A) OTTAWA 2931 (B) 04 OTTAWA 2837 AND PREVIOUS ¶1. SUMMARY/INTRODUCTION: On November 14 the GOC's annual Economic Update to Parliament took on new life as the Liberal Party's campaign platform. In an hour-long presentation to the House Finance Committee, Finance Minister Ralph Goodale recapped Canada's strong fiscal condition and promised a business- and voter-friendly package of measures that appeal to both the left and the right. A budget in all but name, the update is also effectively the Liberals' campaign platform, and it was announced amid jockeying by all four parties in Parliament to influence the means and timing of the election call. ¶2. The centerpiece of the update is approximately C$30 billion (US$25 billion) in personal and corporate tax reductions over the coming five years, which earned positive reviews from business leaders. The GOC also promises modest new spending on post-secondary education, immigrant settlement, and trade promotion in big emerging markets. Nevertheless, the update projects continued GOC fiscal surpluses (in the range of C$8-11 billion annually over the next five years),even with modest real GDP growth (around 3%). Full details of the GOC's economic update are available on the Internet at www.fin.gc.ca. END SUMMARY/INTRODUCTION. ¶3. BACKGROUND: Since taking office in 1993 the Liberal Party has presided over spectacular improvements in Canada's economy. Current Prime Minister Paul Martin, as finance minister from 1993-2000, led the attack on the GOC's structural deficits by reducing the size of the federal government and (in effect) "downloading" many program costs to provincial governments. In 2000, with ongoing large surpluses on the horizon and the debt-to-GDP ratio falling, the GOC delivered substantial personal tax cuts. Since then, fiscal policy initiatives have focused on restoring funding to the provincial governments' publicly-paid health care systems, which suffered during the years of fiscal restraint and have been the top concern among voters for the past decade. ¶4. ELECTION CONTEXT: The ruling Liberal Party, which has held office at the federal level since 1993 but has been in a minority in Parliament since June 2004, has braced itself for a likely winter election by turning its mid-year "economic update" into a campaign platform. In a bargain last spring that gained temporary support from the left-of- center New Democratic Party (NDP),they modified their March 2005 budget by removing corporate tax cuts (ref A). With the NDP now joining the other opposition parties (Conservative and Bloc Quebecois) in expressing loss of confidence in the government and an intention to force an election, the Liberals have revived those tax cuts and rolled them into a good-news budget platform that they hope will get them re-elected with a majority, strengthening their ability to govern. ¶5. PERSONAL TAX RELIEF: The main tax relief measures promised in the update are an increase in the basic personal exemption by C$500; a cut in the lowest income tax bracket to 15% from 16%, retroactive to January 2005; and cuts in the two higher tax brackets by one percentage point by 2010. Of the estimated C$30 billion in total tax relief over five years, Goodale estimated that 95% would flow to individuals and families, with two-thirds to those earning under C$60,000 a year. ¶6. CORPORATE TAX RELIEF: The update also promises a reduction of corporate income tax to 19% from 21% by 2010, and elimination of the corporate surtax (value: C$2.6- billion over five years). The document also promises elimination of federal tax on capital assets in 2006, two years ahead of schedule (value: C$1 billion over three years),and extension of carry-forward periods for business losses and investment tax credits. Goodale also highlighted his hope that there will be "good progress" on tax treaty negotiations with the U.S. this winter. ¶7. SPENDING INITIATIVES: In order to balance its platform politically, the Liberals included spending initiatives designed to appeal to the left wing of its party and help to placate the provinces, including a C$1 billion one-year investment in universities and colleges, C$2.1 billion over five years in aid to post-secondary students, C$3.5 billion over five years for work training programs and C$1.3 billion over the same period to assist immigrant settlement. ¶8. TRADE PROMOTION: In keeping with the government's perennial refrain of diversifying Canada's trade relations, the update promises C$485 million over five years for a "new international commerce strategy" for "priority markets such as China and India," and C$590 million over five years to develop west coast port and rail infrastructure to facilitate trade with Asia. ¶9. CURRENT ECONOMIC CONDITIONS: The meat of the economic update is impressive. Real GDP growth in Q2 2005 was 3.2%, up from 2.5% in the previous two quarters. Net exports continue to rise despite the continued strength of the Canadian dollar, and domestic demand is solid. Unemployment continues to decline and, at 6.6% has reached its lowest level in 30 years. Corporate profits are at 14% of GDP, also a 30-year record. Interest rates remain low and inflation, while rising on the back of higher commodity prices, is within the target range. ¶10. ECONOMIC ASSUMPTIONS: The GOC bases its update on what it says are private sector economists' predictions of real GDP growth of 2.8 per cent in 2005, 2.9 per cent in 2006 and 3.1 per cent in 2007. The GOC cites major risk factors as being (1) further increases in energy costs, and (2) further depreciation of the U.S. dollar against all currencies including the Canadian dollar, which would bring further challenges for Canadian exporters. Goodale touted the Liberals' eight consecutive annual budget surpluses and said that for planning purposes, the GOC expects the following fiscal surplus in coming years: 2005-06 $8.2 billion 2006-07 $9.2 billion 2007-08 $9.5 billion 2008-09 $7.9 billion 2009-10 $8.4 billion 2010-11 $11.3 billion ¶11. COMMENT: The Liberal Party is stressing that all these initiatives could be jeopardized by early elections. Although specific programs and proposals may die should the government fall, Canada's solid fiscal performance should continue. All parties, whether on the left or right, claim to support prudent deficit-free fiscal policy and continued debt reduction. The differences in platforms mainly lie in the speed and nature of tax cuts and the focus of spending. WILKINS