Whats the secret to success? Turns out, we might be able to learn a thing or two from Canada, which regained an AAA rating just about a decade ago and is one of the best-studied cases of a countrywide, financial turnaround.
A quick Canadian history lesson: in the early 1990s, things were looking pretty grim. The country had regularly run fiscal deficits since the 1960s. In 1993, stood out among the G-7 as having the most foreign indebtedness. As one analyst noted, From the beginning of 1990 to the end of 1993, Canada experienced a long slide in economy activity and employment. The country lost its AAA rating in 1993. Feel familiar?
Facing an unprecedented fiscal crisis, Canada got down to work. The country passed a landmark budget in 1995. The plan tilted heavily towards cutting expenditures but also included some new revenue (the ratio was about $7 in cuts for every $1 of revenue). Canada cut the civil service by about 25 percent and overhauled its pension program. The plan worked. Canada is now on much more financially-sound footing; S&P restored its AAA rating in 2002. The turnaround is now referred to, in some economic literature, as The Maple Leaf Miracle.
Canada is a good example of a country that put a fiscal turnaround in place after a shocking downgrade, e-mails Anne Vorce, an marcoeconomist who has done extensive research on countrys fiscal comebacks. It took a while but they came back.
Four other countries - Australia, Denmark, Finland and Sweden - have also succeeded at regaining AAA ratings, all using different approaches that Vorce detailed in a 2010 paper. Denmarks fiscal improvement was rooted in revenue from higher taxes, largely on households and businesses. Sweden adopted dramatic pension reforms. Finland made across-the-board cuts to social benefits and reduced capital spending.
Each country took its own path towards financial stability. They did, however, have one key thing on common: regaining a top credit rating required big, structural changes - no tinkering around the edges. All included some combination of spending cuts and revenue raisers, although tended to lean more heavily on the former.
In dealing with short term debt, they made structural changes to their long term debt situations, says Marc Goldwein, policy director of the Committee for a Responsible Federal Budget. Even though they did a little to deal with the immediate, it was also long term. The markets are forward looking.
What does that mean for the United States and our newly-formed supercommittee? As the Committee for a Responsible Federal Budget concludes in a report out Thursday, the United States is going to have to make some big changes, too.
Continued failed efforts to put our debt on a stable to declining path, continued unwillingness to take on entitlement and tax reform, and the growing gulf between the political parties on fiscal issues will continue to feed lack of confidence in the federal government and the economy more broadly, the group writes. Absent a serious plan to bring the debt under control,the consequences could be dire.
Another history lesson: an improved credit rating requires patience and a commitment to seeing through wide scale policy changes. The year after Canada passed its sweeping budget plan, it received a second S&P downgrade, from AA+ stable to negative. Canada needed to do more than pass a budget; it needed to show that, once implemented, it would work.
Or, as one study of the Canadian fiscal crisis puts it: Perhaps the main lessons that can be drawn are that a government needs a profound sense of purpose and political commitment to carry out such a daunting task.
