MNI INTERVIEW: Stimulus Misplaced As Growth Potential Falls

--Major Economies' Stimulus Is Based On False Growth Assumption, Former Canadian

Official Says

By Greg Quinn

     OTTAWA (MNI) - Major economies' potential growth rates have fallen more

than has been recognized by policymakers, who are at risk of leaving themselves

insufficient firepower to tackle the next downturn by applying excessive

stimulus at a time when capacity is already close to limits, former top Canadian

finance department official Don Drummond told MNI.

     Economies from the U.S. to Europe and much of the developing world are

seeing potential growth rates slow, as populations age and productivity

stagnates, meaning moves such as President Donald Trump's 3% growth target are

off the mark, according to Drummond, a former associate deputy minister and one

of Canada's most prominent advisers to federal and provincial governments.

     Canada's potential growth rate over the next two decades has slowed to

1.5%, Drummond said, adding groups such as the IMF have yet to fully factor this

in.

     Drummond's misgivings come as the Fed and ECB cut interest rates and plan

to expand their balance sheets in a quest to boost growth amid a U.S.-China

trade dispute and Brexit. Fed officials have said weak inflation coupled with

record low unemployment is evidence they can test the limits of the economy's

full potential.

     "We are in a very dangerous position, having run having run such low

interest rates for a very long time," Drummond said. "It itself has become a

source of instability."

     --DOWNTURN

     "If there is some kind of downturn, it becomes very scary because there is

precious little that monetary authorities can do beyond what they are already

doing."

     On the fiscal side, President Trump led a push for tax cuts that has

swelled the U.S. budget deficit, saying he needed to keep one of America's

longest economic expansions rolling. Canadian Prime Minister Justin Trudeau was

just re-elected to a second term after breaking an earlier pledge to move

towards a balanced budget, and no major party campaigned on ending the red ink.

     "The world seems to not understand that the potential growth rate of all

the developed economies, in fact almost all of the developing countries, is and

will substantially slow down. This is not a cyclical event," Drummond said.

"Even if things go well, growth isn't going to be that strong, unless we have

some kind of outburst of productivity growth, but we haven't had that in 30

years."

     Drummond also rejects arguments that governments should expand deficits to

take pressure off central banks. "It's not a question in my mind that we should

have shifted away from monetary to our fiscal, neither one of them need to be

stimulating now."

     "I don't think we needed any stimulus in the last couple of years," he

said. "We have been operating with around a zero output gap and we have been

performing actually higher than potential output, so why is anybody needing to

stimulate?"

     --SHORT-TERMISM

     Deficits outside a downturn ignore the lesson of the 2008 global crisis,

Drummond said. Many governments shut off the taps before that recovery was

entrenched, a sign that deficits now will make them even more skittish about big

stimulus when it's really needed.

     Drummond isn't confident Canada is thinking long term now, following the

Oct. 21 federal election in which leaders focused on complaints about the high

cost of living, expensive cell phone bills and middle-class tax cuts. Canada's

current fiscal strength with a triple-A credit rating and low interest rates

masks the dangers of continued deficits, he said.

     "I'm quite sure in 20 years' time, people will have struggles with the cost

of living as well, and it doesn't make any sense to me to try and ease our

burden" at their expense, he said. Drummond's hope is "the economy holds up

reasonably well because if it doesn't they are going to have a big problem on

their hands, a really big problem."

--MNI Ottawa Bureau; +1 613-314-9647; email: greg.quinn@marketnews.com

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