Canada: Why Chretien Stands `On The Edge Of A Precipice'

Bill Clinton must envy Canadian Prime Minister Jean Chretien's popularity: After nearly a year in office, the affable Chretien still enjoys a 60% approval rating. But now, it's crunch time. With international investors breathing down his neck, he is finally being forced to grapple with Canada's two toughest problems: massive debt and resurgent Quebec separatism.

In early October, Chretien's government is expected to unveil long-delayed proposals to overhaul Canada's costly social safety net. Cutbacks are likely to hit everything from hefty unemployment benefits to subsidized college educations. So central are such programs to Canadian identity that Chretien's plans are sure to spark a huge fight. But Canada can no longer afford the massive deficits piled up by social spending, business leaders warn. After a "quarter century of fiscal abuse," says A.L. Flood, CEO of Canadian Imperial Bank of Commerce, "we stand on the edge of a precipice."

RED INK. The danger of falling off was signaled recently by Moody's Investors Service, which stripped Canada of its AAA rating on foreign-currency debt. In effect, Chretien's hand is being forced by what Sherry Cooper, chief economist at Nesbitt Burns Economics, calls "one of the worst deficit and debt records in the industrialized world" (chart). The debt has made Canada highly vulnerable to the opinion of Wall Street investors and other foreigners who finance more than 40% of it. With 10-year real bond yields close to 9%, vs. 4.7% in the U.S., Canada's debt-service costs, which already devour 25% of Ottawa's budget, are ballooning.

Quebec's separatists are digging in, however, to resist Chretien's financial fix. They took power on Sept. 26, and they are likely to view slashes in joint federal-provincial social programs as unwarranted interference from Ottawa. New Premier Jacques Parizeau is already vowing to boycott the talks that Chretien hopes will build a national consensus for his reforms.

In English-speaking Ontario, too, socialist Premier Bob Rae will oppose cost-cutting plans on the eve of the election he must call in 1995. And organized labor, which is more powerful in Canada than in the U.S., is hopping mad.

DIRE VISION. What business fears is that the economy could hit the wall as soon as 1997 if spending isn't cut sharply now. Warns J. Edward Newall, CEO of Nova Corp. of Alberta and chairman of the Business Council on National Issues: "If we continue on our present course, our deficits will skyrocket out of control" in the next recession. That could spark a financial crisis in which "we will lose control over our own destiny, and our economic action plan will be dictated by the International Monetary Fund," he adds.

To head off that danger, Finance Minister Paul Martin Jr. vows to slash the deficit to around $19 billion, or 3% of gross domestic product, by fiscal 1996 "come hell or high water." To get there, Chretien is expected to suggest major reductions in Canada's $13 billion unemployment-insurance program and deep cuts in federal grants to universities. While he may skirt a direct attack on the health-care system, federal aid cuts are already forcing provinces to close hospitals and curtail services.

International investors are watching closely. Despite the high yields on Canadian debt, Canada's dollar is trading around U.S. 74 cents, close to its eight-year low of around 72 cents. That's stark enough evidence that the nation's fiscal mess is exacting a high toll--no matter what Chretien decides to do.

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