The past need not be prologue. That is what Lawrence Summers told me a few years ago when I asked him about the popular argument that high levels of debt inevitably led to low levels of economic growth.
Summers’s words came back to me while reading a commentary by David Rosenberg, the chief economist at Toronto-based Gluskin Sheff + Associates. Rosenberg is relatively famous because he saw bad things happening in the U.S. housing market sooner than most. That kind of foresight earns one a following. When he said he had turned bullish on the U.S. stock market, I bought in. Thanks to Rosenberg, I made a little money.
Rosenberg was warning investors to take Canadian politics seriously. He noted the spread between Alberta and federal 10-year bonds widened dramatically between April 7, when it seemed certain that the Conservatives would form another government, and May 5, the day after the “tax-and-spend” New Democratic Party won a shocking majority. It’s a great observation. Rosenberg then went back to the 1990s to buttress his argument. The Canadian dollar fell by four cents in the six months after Jean Chretien became prime minister in 1993, because, according to Rosenberg, investors were nervous about Liberal Party’s “Red Book” of spending promises.
Between October 1990 and June 1995, 40% of the country was ruled by New Democratic premiers—and the Canadian dollar declined by 12% over that period, even as commodity prices rose. “This is not to knock the New Democrats at all—if the people speak, they speak,” Rosenberg wrote. “But while democracy rules, capital does flow to where it is treated best.”
Ever skeptical about the future, Rosenberg argues that the federal election in October could hurt the dollar. The NDP is doing well in opinion polls. Prime Minister Stephen Harper will spend the next few months on the defensive, as he explains how a first-half contraction qualifies him as a good steward of the economy. The Liberals under Justin Trudeau appear strong enough to at least block either of the other parties from winning a majority. Uncertainty could reign, at least for a couple of days.
Like Summers and the inevitable fall from debt, I am less than convinced global investors will punish Canada for electing a New Democratic or Liberal prime minister. The surge in Alberta bond yields could be explained by the fact that Rachel Notley was a complete unknown. Rather than being fearful of taxing-and-spending, investors likely were just as concerned about the prospect of a cabinet of rookies taking charge of an important economy at a difficult time.
This isn’t the 1990s. Back then, Canada was approaching the status of basket-case. Federal debt now is about 30% of gross domestic product—which in this post-crisis world is as good as zero. No politician—New Democratic, Liberal or Conservative—in Canada dares campaign on anything other than a solid promise to balance the budget.
Voters should be mindful of what that blind devotion to tight fiscal policy means for economic growth, but bond investors have nothing to fear. And even if they were made wary by an NDP government, one should consider this question: where else are they going to go? Canada is one of only a handful of AAA-rated sovereigns left. That’s not going to change the day after Election Day, no matter who is elected. And what’s more, a little more spending by governments with light debt loads—like Canada—is exactly what the International Monetary Fund says is needed to stoke global economic growth.
If Rosenberg’s prediction comes to pass, consider it a buying opportunity.
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