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How not to attract business investment

Matthew Lau: the evidence is clear: government spending not only doesn’t attract business investment, but chases it away.
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In defence of a Liberal platform that projects four consecutive deficits of more than $20 billion, Gerald Butts, formerly Justin Trudeau’s top advisor, recently took to Twitter to argue that “austerity is a bad policy when the country needs investment.”

The Liberal plan, evidently, is to substitute government spending in place of the productive investment that has been lacking in recent years.

First things first: contrary to what Gerald Butts and other Liberals might think, no federal party is talking about anything near austerity. Today, real federal program spending per capita is higher than it has even been. The Liberals want to make the federal budget even more expensive, while the Conservative platform doesn’t offer much in the way of spending cuts.

Secondly, Canadian workers are lacking the benefit of strong business investment – as economist William Robson notes, business investment in Canada is only about $15,000 per worker, far less than $21,000 per worker across the OECD and $26,000 per worker in the United States. Increasing government spending would have the effect of cutting investment, not increasing it.

Butts suggests that constraining federal spending is a bad policy, but the last time the federal government made significant spending cuts, investment boomed. Beginning in 1995, the Chretien government implemented spending reforms that brought federal program spending down from 16.4% of GDP in 1993-94 to 12.7% in 1997-98.

The result was that for the decade from 1997 to 2007, Canada led the G7 countries in business investment growth and real GDP growth. Employment grew faster than in other developed countries, and the poverty rate fell as the rising economic tide enabled by government spending cuts and tax cuts lifted all boats.

Investment growth was particularly strong in Alberta and Saskatchewan, where the provincial governments had also aggressively cut spending. Under the Saskatchewan NDP, real provincial program spending per capita was cut by 23% from 1991-92 to 1996-97, with positive effects on the province’s fiscal health and economic performance.

Similarly in Alberta, the Progressive Conservatives cut provincial program spending from 21.1 % of GDP in 1992-93 to only 12.3 % by 1996-97, and Albertans benefited from the retrenchment in government involvement in the economy. From 1993 to 2006, real business investment per private sector worker increased by 150 % and real disposable income per capita rose 43 %.

Proponents of government spending might argue that government spending is just as productive, if not more productive, than private investment. This is a debate that has been litigated again and again, for generations. As John Maynard Keynes, the most well-known proponent of government spending as a means of economic stimulus, wrote in The General Theory of Employment, Interest and Money in 1936:

I expect to see the State, which is in a position to calculate the marginal efficiency of capital-goods on long views and on the basis of the general social advantage, taking an ever-greater responsibility for directly organising investment.

The response from journalist Henry Hazlitt in his 1959 book The Failure of the ‘New Economics’:

So there you have it. The people who have earned money are too shortsighted, hysterical, rapacious and idiotic to be trusted to invest it themselves. The money must be seized from them by politicians, who will invest it with almost perfect foresight and complete disinterestedness (as illustrated, for example, by the economic planners of Soviet Russia).

For people who are risking their own money will of course risk it foolishly and recklessly, whereas politicians and bureaucrats who are risking other people’s money will do so only with the greatest care and after long and profound study.

Private businesses, Hazlitt noted, make investments to produce goods and services that consumers demand at a higher quality and lower price than competing businesses.

Government investment is made for the purpose of getting politicians re-elected. Is there any doubt as to which type of investment is more likely to be to “the general social advantage” and to be more productive?

Canadians would, as Gerald Butts has suggested, benefit from higher investment. But the key to increasing productive investment in Canada is to cut government spending – not increase it.

Matthew Lau is an economics writer. His columns have appeared in newspapers and online publications across Canada.