Interest on government debt prevents Ottawa from lowering taxes: report

Paying interest on your debt doesn’t just cost more; it can also prevent you from spending money on other needs and wants.

Government debt is no exception, and a new report from the Fraser Institute argues that those interest payments mean less money for public priorities such as hospitals, highways and schools. It’s also preventing governments from lowering our taxes.

“Whether you’re talking about a household or a government, when you take on debt, you have to pay interest, which leaves less money in the budget for other priorities,” states Sean Speer, an associate director at the Fraser Institute think-tank and co-author of the study called, “The Cost of Government Debt in Canada.”

The report comes as policymakers debate the best course of action for debt-laden governments. One camp believes governments should worry a little less about debt costs given that interest rates are low, and focus instead on maintaining much-needed public services and/or tax cuts for everyday citizens. Others believe the debt should be tackled, despite low interest rates, to preserve services and the overall economy for the longer term.

The issue is gaining more attention amid growing talk of interest rates potentially rising next year - if Canada’s economy can find some solid footing.

The Fraser Institute warns the interest costs on government debt will only worsen as rates begin to rise from current historic lows.

“If interest rates rise, borrowing costs will rise accordingly and result in even more resources being directed to debt servicing costs.”

Provinces with growing debt levels, such as Ontario and Quebec, are “especially vulnerable to interest rate increases” the report says.

The study says Canada’s combined federal and provincial debt has increased to more than $1.2 trillion in the 2013-14 fiscal year, up from $823 billion in 2007-08, just before the start of the global recession.

To service this debt, all three levels of government across Canada collectively spent $61.7 billion on interest payments in 2013-14, which the Fraser Institute says is more than the $61 billion spent on primary and secondary education across the country in 2011-12, the latest data available.

In 2013-14, the federal government spent $29.3 billion on interest payments to service its $688 billion in debt. Put another way, that’s more than 11 cents of every dollar of revenue, the Fraser Institute finds.

“This type of debt accumulation has costs,” the report says. “One major consequence is that governments must make interest payments on their debt similar to households who pay interest on borrowing related to mortgages, vehicles, or credit card spending. Spending on interest payments consumes government revenues and leaves less money available for other important priorities such as spending on health care and education or tax relief.”

The report also notes that the federal government and seven of 10 provincial governments are projecting deficits in the 2014-15 year, “and all governments are estimating that their debt levels will grow.”

Its budget brought down in February, the federal government projected a deficit of $2.9 billion in 2014–15, after taking into account a $3 billion rainy day fund. Then the plan is to hit a surplus of $6.4 billion in 2015–16. That includes a $3-billion “adjustment for risk” and comes just as Canada goes into a federal election scheduled for October 2015.

Still, the report points to rising debt loads in places like Ontario, Canada’s largest province, which recently had debt-rating outlook cut to negative by Moody’s.

The report says the Ontario government spent $10.6 billion on interest payments in the 2013-14 fiscal year, or 9.1 per cent of overall revenue, which is close to its total infrastructure spending of $10.8 billion.

“As Ontario struggles to rein in deficits and growing government debt, interest payments chew up big chunks of taxpayer money at the expense of priorities such as health care and education or potential tax cuts,” states Charles Lammam, study co-author and resident scholar in economic policy at the Fraser Institute.

In Quebec, the provincial government spent $10.6 billion on debt interest payments in the 2013-14 fiscal year.

“Quebec and Ontario are deeper in debt than every other province. Yet instead of getting their fiscal houses in order, both governments continue to avoid the tough decisions needed to repair their public finances,” Speer said.