Canada Has Fiscal Space: How the 2025 Budget Invests in Growth
The Liberals’ 2025 budget passed the House of Commons on a very tight confidence vote on November 16th, with two Conservatives and two New Democrats abstaining and the sole Green MP voting with the government. The budget promises to focus on “nation-building infrastructure, clean energy, innovation, [and] productivity.” Budget measures include a pledge to cut 40,000 public service jobs, a commitment of $81.8 billion toward defence spending over the next five years, and an acceleration of the Québec City-to-Toronto high-speed rail project. A new tax break designed to promote growth will allow corporations to write off more capital investments.
The budget deficit, which stands at 2.5 per cent of GDP ($78.3-billion) and is projected by Finance Canada to decline to 1.5 per cent of GDP ($56.6-billion) by 2029-30, has been the subject of much consternation. Jason Jacques, the interim parliamentary budget officer, lashed out against the government, calling Canada’s finances “stupefying” and “unsustainable.” Opposition leader Pierre Poilievre blasted the budget, saying that “[t]his will be the most costly five years, if it is allowed to happen, in any of Canada’s history. And make no mistake, this is not due to the falling revenue from the trade war. It is due to increased government spending.”
But given the immense trade shocks and geopolitical risks Canada faces, Carney’s budget includes a reasonable amount of fiscal stimulus and public investment. Further, Canada’s sizable output gap means that moderate fiscal expansion via deficits is appropriate. Kevin Page, the former Parliamentary Budget Officer, has emphasized this point. He forcefully registered his disagreement with Jacques, suggesting that the interim fiscal watchdog should walk back his comments about the budget. Page has argued that there is much slack in the economy, indicating that a more expansionary fiscal stance would be suitable: “Our economy is weak, and we’re operating well below Canada’s potential growth rate.”
According to the Bank of Canada’s October monetary policy report, “[k]ey labour market indicators are pointing to greater excess supply, with the unemployment rate rising and businesses’ hiring slowing.” Weak demand and layoffs in export-sensitive industries have contributed to high unemployment. Canada experienced very weak GDP growth in 2023 and 2024, and posted negative GDP growth in the second quarter of 2025. Given all this, there is likely plenty of room for fiscal expansion without creating demand-side inflationary pressures. In fact, tightening the budget now and reigning in the deficit would likely stunt growth, worsening Canada’s fiscal situation in the future.
Economic research has found that tightening public spending when there’s slack in the economy can reduce growth. During the Great Recession, hard-hit countries used large fiscal stimulus packages to fight the economic downturn. This policy aimed to bring employment back up to its pre-crisis level by boosting government expenditures and consumption. Such a fiscal expansion was essential for countries at the zero-lower bound, where monetary policy is much less effective. But many of those countries quickly turned to budget reduction—dubbed “austerity” by its critics—as a means of reestablishing fiscal discipline. Later research demonstrated that this strategy backfired; countries that consolidated their budgets the most ended up having larger debt-to-GDP ratios in the future, due to lower growth.
Kristalina Georgieva, the head of the International Monetary Fund, emphasized the need for pro-growth fiscal expansion in Canada. When asked about the fiscal health of G7 countries, she noted that Germany and Canada stood alone in terms of their relatively low debt-to-GDP ratios and suggested that Canada had the fiscal room to make capital investments. “Both Germany and Canada recognize that in this very testing time; they need to use their fiscal space,” she said.
The main critique of expansionary fiscal policy is that it will “crowd out” private investment, particularly when government spending is financed through deficits. The logic is that when the government demands more loanable funds, interest rates rise, making it more expensive for firms to borrow and invest. However, crowding out is unlikely to occur when the economy has substantial slack, as Canada currently does. When unemployment is high and businesses are not investing, additional public spending does not compete with the private sector for scarce financial resources, because neither financial nor real resources are scarce. Though Canada is not in a recession, our economy is weak: unemployment is elevated at 7.1%, business investment has fallen sharply, the policy interest rate is low at 2.25%, and industrial capacity utilization is appreciably lower than it was in the late 1990s and 2000s.
In such conditions, government deficits can “crowd in” private investment by boosting demand, improving business expectations, and increasing the profitability of new projects. Crowding out is a concern primarily in fully employed, supply-constrained economies, rather than in periods of excess capacity, such as the present.
Empirical evidence supports the idea that public investment is especially effective during periods of insufficient aggregate demand. A comprehensive meta-regression analysis by economist Sebastian Gechert found that fiscal multipliers are significantly larger in the presence of a negative output gap and that public investment yields a high multiplier (i.e. one dollar of fiscal expansion ultimately increases GDP by more than one dollar). This strengthens the case that Canada’s 2025 budget—focused on infrastructure and productive investment—is unlikely to be inflationary and will likely generate growth.
Sources:
Bank of Canada. "Current Conditions." Monetary Policy Report—October 2025. Accessed November 20, 2025. https://www.bankofcanada.ca/publications/mpr/mpr-2025-10-29/canadian-conditions/.
Blanchard, Olivier J., and Daniel Leigh. "Growth Forecast Errors and Fiscal Multipliers." American Economic Review 103, no. 3 (2013): 117–20. https://doi.org/10.1257/aer.103.3.117.
CBC News. "A $78B Deficit, Public Service Cuts, New Tax Measures: Highlights of Budget 2025." November 4, 2025. https://www.cbc.ca/news/politics/budget-highlights-9.6966595.
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CTV News. "Federal Budget Deficit Nearly Twice the Size Forecast by Liberals." November 4, 2025. https://www.ctvnews.ca/canada/article/federal-budget-forecasts-78b-deficit-as-liberals-shift-spending-to-capital-projects/.
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Gechert, Sebastian. "What Fiscal Policy Is Most Effective? A Meta-Regression Analysis." Oxford Economic Papers 67, no. 3 (July 2015): 553–80. https://doi.org/10.1093/oep/gpv027.
Global News. "Poilievre Blasts Carney over Budget Deficit, Spending in Free-Market Speech." November 7, 2025. https://globalnews.ca/news/11517415/poilievre-budget-economic-club/.
Statistics Canada. "Industrial Capacity Utilization Rates, by Industry." Table 16-10-0109-01. Last modified September 12, 2025. https://www150.statcan.gc.ca/t1/tbl1/en/tv.action?pid=1610010901.
The Globe and Mail. "Ahead of Fall Budget, Former PBO Says Ottawa Can Afford to Run Steeper Deficits." October 28, 2025. https://www.theglobeandmail.com/canada/article-ahead-of-fall-budget-former-pbo-says-ottawa-can-afford-to-run-steeper/.
Toronto Star. "As a Former Budget Chief, This Is How I'd Grade Mark Carney's First." November 5, 2025.https://www.thestar.com/opinion/contributors/as-a-former-budget-chief-this-is-how-i-d-grade-mark-carney-s-first/article_6dc68c78-d859-44a4-96f9-9ccfc1057db9.html.