Carney is trying to trick all of us with some accounting sleight of hand, opines the title of a recent National Post article.

It’s written by Kim Moody. Here are some extracts:

• During the Liberal Party leadership campaign, (Canadian Prime Minister Mark) Carney said he would separate the federal budget into an “operating budget” and a “capital budget” and the operating budget would be balanced within three years. Now, he’s making good on that promise.
• Why is the new approach a trick or a sleight of hand? It’s a blatant attempt to baffle those with low financial literacy to transfer certain expenditures from the overall budget to a capital budget and crow that you are “investing.”
• To reduce the impacts of the overall deficit — which some are predicting will be upwards of $100 billion, an unbelievably high number that threatens our country’s future prosperity — he’s trying to focus us on the reduced “operational budget.”
• There are two keys to this trick. The first is to define what “capital” is and to do so in a very broad fashion in order to easily justify the transfer of an expenditure to the capital budget. The second, like good magicians, is to do so with confidence by pretending to be the smartest person in the room.

The article reminds us that under Canadian Public Sector Accounting Standards, tangible capital assets are non-financial assets having physical substance that

• Are held for use in the production or supply of goods and services, rental to others, administrative purposes or the development, construction, maintenance or repair of other tangible capital assets;
• Have useful lives extending beyond one fiscal year;
• Are to be used on a continuing basis;
• Are not for sale in the ordinary course of operations.

That’s largely in line with general concepts of “fixed” or “capital” assets found in IFRS and elsewhere (IAS 16 defines property, plant and equipment as “tangible items that are held for use in the production or supply of goods or services, for rental to others, or for administrative purposes; and expected to be used during more than one period”) but differs markedly from the description contained in the Canadian government’s new budgeting approach:

• …capital investment is defined broadly as any government expense or tax expenditure that contributes to public or private sector capital formation, held directly on the government’s balance sheet or on that of a private sector entity, Indigenous community or another level of government. Within this broad definition, the intent is to focus on capital investments that meet the following criteria:
  • Conditionality – whether the funding recipient is required to invest in capital formation to receive the benefit.
  • Clear linkage – whether the spending encourages or enables capital investment in identifiable sectors or projects.
• Spending that is not categorised as capital investment would be considered day-to-day operating spending. This would include major government expenditures like transfers to persons, health and social transfers, and the costs of running government operations and services, including salaries and benefits.

Canada’s Office of the Parliamentary Budget Officer weighed in:

• Finance Canada’s definition and categories expand the scope of capital investment beyond the current treatment of capital spending in the Public Accounts of Canada. Based on our initial assessment, we find that the scope is overly expansive and exceeds international practice such as that adopted by the United Kingdom.
• Specifically, the inclusion of corporate income tax expenditures, operating (production) subsidies and measures to grow the housing stock likely overstate the actual contribution of federal government spending to non-residential capital formation in the economy. That is, federal spending under these categories represents the fiscal cost of related measures and not necessarily the amount of non-residential capital formation that will be undertaken in the economy because of these measures.

The new approach rather reminds me of some practices under old (perhaps very old) Canadian GAAP, in which amounts included within the cost of a self-generated capital asset were very loosely determined (even encompassing a portion of operating losses), on the basis that it was all a necessary aspect of getting the asset to its intended state of efficiency: the distinction between such future-enhancing outflows and simple wasted money was necessarily subjective at best. And so it will inevitably be with the government’s self-described “broad definition” of something that contributes to capital formation. Most worrying is the speed with which Prime Minister Carney, trailing a reputation as a technocratic, fiscally-savvy rationalist, has either shed key components of that long-honed image (climate change has been almost completely deemphasized) or, as in the case examined here, made almost as much a mockery of them as Trump has of various long-standing precepts (although, of course, with a very different sheen and tone). One imagines future commentators, far from falling for such transparent “tricks,” will have a field day with future public accounts in which, for instance, the estimated cost of some vaguely conceived tax incentive is soberly recorded as capital investment…

The opinions expressed are solely those of the author.