I can’t say I remember a time when a Canadian federal election caused investors to shift gears and I don’t think it is going to be any different after we get the results on Monday evening. Likewise there is no value, in my opinion, in positioning ahead of the vote.  For one, polls are just too close to call and show basically a dead heat between the Liberals and Conservatives. This suggests that a majority government is less probable than when we went into the last election, last then two years ago. The real reason, however, is that Monday’s outcome is going to be overshadowed by other larger global events, like next week’s Federal Reserve FOMC meeting and the ongoing Evergrande saga in China.

That’s not to say that the policy environment following the election won’t have an impact on Canadian investors over the term of the next government. There is a lot at stake as Canada grapples with a deficit and debt that few thought even possible the last time we stood in line to vote. Presumably, we will get an economic update by the next government in October or November, which could be the launchpad for a new set of policy initiatives. A minority government would make it less likely that will see major ones, and we could be left waiting until the next federal budget sometime in the first quarter of next year. In either case, the attention of international investors and rating agencies will be on the plan (or lack thereof) to bring the current $150 billion dollar plus deficit back to zero.

 
Given that tax revenues appear to be running higher than what was projected back in the April budget, there will be the temptation by any government to keep the foot on the fiscal gas pedal. The first couple of budgets, regardless of party, will probably not project a balance any time soon and, to be honest, there will be some slack cut by investors. Emphasis on the word “some”.  Once we get through 2022, and hopefully out of the pandemic, the environment of ultra-low interest rates will begin to fade.  Canadians will start to pay more for their mortgages and Ottawa is going to pay more to service its $1.4 trillion in debt. That is going to slowly take away any manoevering room the federal government has in adjusting policy in an attempt to bring the deficit down. 

 
As I have commented before, Canada does face a material risk of running a structural deficit, which is what happens when the share of each revenue dollar going to servicing debt rises to such a level that modest spending cuts and tax hikes have little impact. The last time we faced this was back in the early 1990s when budget after budget failed to pull back high deficits.  By 1995, the major world rating agencies had taken away Canada’s triple-A status. Spreads between Canadian and US bonds widened out and the Loonie fell from a peak near 90 US cents at the end of 1991 to 70 cents by the first quarter of 1995. 

The federal government was forced to introduce tough spending measures to repair the mess and I still remember sitting with then Finance Minister Paul Martin in a private meeting when he told me the plan to get the deficit to zero had no room for error. The books were balanced four years later, though the currency and Canada’s relative value status to other markets remained under pressure through that process.  That is why the medium-term outlook for Canadian markets is something investors need to start focusing on and planning for, regardless of how Monday shapes up.