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Betting on a recovery, with little room for bad news

From Wednesday's Globe and Mail

OTTAWA — The federal budget is built on the belief that within a year all the stimulus packages being introduced around the world will fuel a stunning recovery for the global economy.

Not since the Great Depression have the world's major economic powers sunk into a recession at the same time, but, according to the government, the Canadian economy will shrink by less than 1 per cent this year and bounce back smartly in 2010. Finance Minister Jim Flaherty sees revenues quickly returning to pre-recession levels, allowing Ottawa to get out of the stimulus business within a couple of years.

By 2013, the deficit will be eliminated, and surpluses will rule again.

"I think it's wishful thinking," commented Jayson Myers, president of the Canadian Manufacturers and Exporters.

Economists at BMO Nesbitt Burns dubbed it the "take-two-aspirin-and-call-me-in-the-morning budget," for its speedy antidote to Canada's recessionary headache.

The success of the Conservative stimulus plan depends on these assumptions becoming a reality, and quickly. It may be a reasonable hope, but one fraught with risks so substantial that even government officials recognize they stand a big chance of not panning out.

In fact, the government is conservative in its assumptions for the economy in 2009.

It takes a below-consensus view of global growth at less than 1 per cent — a view the International Monetary Fund is likely to validate with its new forecast this morning.

The key issue is something called nominal growth — the combination of economic growth and inflation. Instead of using the private-sector consensus for nominal growth of the economy, the government takes a far more negative view in 2009, but a far more optimistic view after that.

Since nominal growth determines the government's revenues, Ottawa assumes it will initially be $4.5-billion poorer than private-sector economists predict.

Those conservative assumptions disappear in 2010, and the government relies, as it did with its widely discredited economic update in November, on a decidedly rosy view of the fiscal situation.

All at once, the budget foresees a quick rebound in the U.S. and global economies and of commodity prices. Personal income-tax revenues bounce back to pre-recession levels immediately. Corporate-tax revenues come back a bit more slowly, but still show growth.

The much-feared recession turns out to be just a one-year dip in revenues that will quickly dissipate. On the back of strong revenues, Ottawa forecasts a balanced budget within a few years.

It's a far cry from the expectations of the Parliamentary Budget Office, set up to provide an independent analysis of the country's finances. In its most recent account issued last week, it sees large deficits persisting for at least five years.

The key difference between the two views is Mr. Flaherty's belief that tax revenues will bounce back immediately.

The Finance Minister sees a big $34-billion deficit this year, as corporate and personal tax revenues dry up, unemployment rises, business investment evaporates, and shoppers stay home.

But as the stimulus introduced by Ottawa and other economies around the world kicks in, the federal government sees immediate traction.

Revenues are projected to stage a complete recovery by next year.

Canada's progressive tax system means income tax will rebound before the job market, Ottawa argues. And corporations will book most of their losses this year and next, paving the way for a quick upswing in corporate revenues.

Bulging program expenses will be reined in — by selling off a few assets, ending some of the stimulus measures, and pinching pennies within government programs — returning spending to pre-stimulus levels by 2012.

The stimulus package is designed to self-destruct after two years. It aims to push out $18-billion in spending this year, and $15.5-billion next year, dropping back to just $4.7-billion in 2011-2012.

If all goes according to plan, the deficit will be gone by 2013. Five years of deficits to revive flagging growth — a scenario which previous governments failed to pull off during the last two recessions.

"There will be no long-running or permanent deficit," Mr. Flaherty said in his budget speech. "We have chosen this course because it is necessary, and because we know it will be temporary."

Any number of things could go wrong.

If Canadian households don't take advantage of the new spending programs, or save their tax cuts, then the stimulus will have trouble gaining immediate traction.

And if financial markets don't start functioning properly, commodity prices don't rebound, the U.S. economy doesn't bottom out and start recovering, and the global expansion resume, then the perfect storm plaguing Canada will likely persist, economists say. The country will be looking for a second fat stimulus package, and deficits for years to come.

But that's not the most likely scenario, says Craig Wright, chief economist at Royal Bank of Canada: "I don't think it will play out like that."

Mr. Myers, who has spent much of his time lately talking to businesses in Canada and the United States about how they will struggle through, can only hope Ottawa is right. But he's not betting on it.

"My expectation is we'll be in for a longer rough ride," he said. "We'll be coming back for another stimulus package."

But after delivering his budget speech, Mr. Flaherty allowed that the economy may not recover as quickly as hoped, and deficits will persist longer.

"If we need more," he said in a television interview, "we'll go back to the House of Commons and ask for more."

A plan for troubled times

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