Reflections on the economic crisis

Published on May 11, 2016

On January 20, 2009, I was invited by the St-Georges Chamber of commerce to offer my reflections on the economic crisis. This is the English translation of my presentation, which you can also watch (in French) on this video. -- 18 April 2009


I have always been fascinated by economics: how to help our fellow citizens realize their dreams, build better lives and, by the same token, a better world for all of us.

The past few months have given me more time to take a closer look at this current economic crisis. Today, I would like to share my reflections with you.

Between 2001 and 2004, in the wake of the dotcom crash, in order to stimulate the economy, the Federal Reserve pushed down interest rates to as low as 1%. If you factor in the level of inflation, real interest rates were negative.

What happens when central banks maintain artificially low interest rates? Ultimately, people are encouraged to save less, because the return on savings is lower. Furthermore, they are more prone to accumulate debt, because credit is easier and cheaper to obtain.

It basically came down to subsidizing people to borrow. But we all know this lesson: you cannot live on just your credit card for very long! This is precisely what has been going on in Canada, in the United States and elsewhere in the world for the past 20 years.

For example, in Canada, in 1990, the ratio of total debt to disposable income for Canadian families was 90%. Today, this ratio has surged to 130%. In 1990, Canadian families saved about 10% of their disposable income. Today, their savings rate is down to 1%.

Some people felt comfortable with this situation because they believed that their debts would eventually balance out as the value of their assets continued to grow. More specifically, this belief was driven by the rising price of homes since the late 1990s and the increasing value of retirement nest eggs.

But with the decline of the real estate market and recent crash in the stock market, we now know that this was a monetary illusion.

In the United States, this bubble was made bigger by the policies of the US government. It encouraged banks to extend risky mortgages to insolvent borrowers; and pushed people to take up mortgages to buy houses that they could not really afford. All of which contributed to an unsustainable increase in house prices of 10 to 15% per year.

In 2006, 22% of all new mortgage loans in the US were subprime. You’ve heard the rest of the story. These mortgage loans were securitized and then sold on the market around the world. Financial institutions who bought these investments stumbled when home owners started to default and house prices went down.

One of the reasons, this financial crisis turned into international economic crisis because these securitized loans were sold on the global market.

Now, what should we do to get out of this crisis?

Everybody agrees that we must inject money in our roads, bridges, tunnels, and other infrastructures after decades of non investment.

We hear a lot about artificially sustaining demand by injecting even more money into the economy. But where do you find the money to inject into the economy? It’s not falling from the sky.

The money has to come from somewhere else in the economy. In effect, it is all about taking money from some and giving it to others. It’s like taking a bucket of water in the deep end of a swimming pool and emptying it in the shallow end.

A government cannot inject money in the economy unless it has first extracted it from the private sector through taxes; or put us further into debt by borrowing the money.

We are also being told by some commentators to continue to shop till we drop in order to kick-start the economy. In these uncertain times, when many could lose their jobs, this amounts to urging people to be irresponsible.

This approach tells us that the more we consume, the richer we get. But the truth is exactly the opposite. The richer we are, the more stuff we can buy! And you get rich by working, by saving and investing real resources, and by becoming more productive. There are no other ways.

There have been many examples of excessive government intervention. Roosevelt prolonged the Great Depression by a decade with his ultra interventionist policies. The Japanese also implemented such policies after their real estate bubble burst in the late 1980s.

They voted in huge spending packages and the Japanese central bank kept interest rates at 0% for several years. It did not work.

The only tangible result is that Japan went from the country with the smallest debt in the G7 in 1995 to the country with the largest debt today. And, 20 years later, its economy is still in crisis.

So, the only thing more dangerous than this economic crisis may be our way of responding to it. If we intervene too much or in an inappropriate manner, we could very well aggravate and prolong the crisis

We need to permanently reduce the tax burden on individuals and businesses to allow them to better cope with the situation and get through the crisis. Because people know better than any politicians and bureaucrats in Ottawa what to do with their money

Reducing taxes is exactly what our government has been doing, since 2006. New specific tax reduction measures took effect this January 1st: the tax free savings account, the increase in the basic personal amount to $10,100 and the reduction of the general corporate income tax rate to 19%.

Thanks to these tax cuts and others that have already been implemented, we will pay 31 billion dollars less in taxes than expected in 2009-2010.

As you know, the opposition parties are threatening to defeat our government if the upcoming budget does not contain an ambitious spending package.

When the opposition parties declare that we must resolve the crisis by spending an enormous amount of money, they, in effect, are saying that the solution to the crisis is to increase our taxes and our debt.

However, considering the current political climate, and because we are a minority government, we will obviously need to make compromises.

Yet, we need to stay focused on the fundamental principles that have been tried and tested: responsible finances and free markets. It is only by fighting for these values that will find our way back to prosperity, and safeguard our children’s future.