Keys to developing a domestic growth strategy for Canada

Posted on in Debates

TheGlobeandMail.com – ROB/Commentary
Jan. 15, 2016.   Scott Clark and Peter Devries

C. Scott Clark is a former federal deputy minister of finance and Peter DeVries is a former federal director of fiscal policy.

Earlier this month, Bank of Canada Governor Stephen Poloz warned Canadians that they should get used to a low dollar, since this is a normal, indeed necessary response to the global decline in oil and commodity prices. The necessary adjustments in the economy from the resource sectors to the non-resource sectors could take at least five years, perhaps longer. Private-sector forecasters are beginning to recognize this. They are again cutting their growth forecasts for 2016, to less than 2 per cent, and reducing their forecasts for 2017.

This is not good news, given that Canada’s economy has been operating below its potential for seven years. Business investment has been sluggish and has fallen as a share of GDP. According to analysis released Monday by the Bank of Canada, business investment and hiring intentions are at their lowest levels since 2009.

Over the past nine years, the long-term unemployment rate has risen and both the labour-force participation rate and employment rate have fallen. Amid sustained underinvestment and underemployment, potential output declines – not just in Canada, but in most Organization for Economic Co-operation and Development (OECD) countries.

For years, the OECD, International Monetary Fund and World Bank have been reducing forecasts for global economic growth. This month, the World Bank cut its forecast for 2016 to 2.9 per cent, down from 3.3 per cent just seven months ago. In a speech last September, the head of the IMF said, “We see global growth that is disappointing and uneven. In addition, medium-term growth prospects have become weaker. The ‘new mediocre’ of which I warned exactly a year ago – the risk of low growth for a long time – looms closer.”

In other words, the outlook for the global economy is gloomy, and so is Canada’s. If there were ever a time for a domestic-based strategy to strengthen GDP growth in the short term and potential GDP growth in the medium term, it’s now.

The government is committed to a major increase in infrastructure investment in the near term; details are expected to be announced in the 2016 budget. Investment in efficient infrastructure has the benefit of not only supporting short-term demand, but also strengthening potential output. Given the worsening economic outlook, Ottawa should review its priorities with the goal of freeing up more resources for infrastructure spending over the next four years.

But the government will need to begin looking past this and begin putting together a domestic-based growth strategy. It will take several budgets, careful planning and, most of all, political commitment.

An effective growth strategy will require action across a wide range of policy areas. But there are two areas that, if not addressed early, could seriously weaken any growth strategy.

First, provincial governments need to begin working immediately to create a free-trade agreement among the provinces, allowing greater mobility of capital, labour, goods and services.

There has been lots of “support” from our leaders about the need to break down interprovincial trade barriers. Some bilateral agreements have been negotiated, but nothing significant nationwide. The “support” has largely turned out to be empty political rhetoric. The federal government needs to devote just as much time negotiating an interprovincial agreement as it does any international trade deal.

Second, Canada needs a tax system – personal, corporate, sales – that promotes economic growth. Work needs to begin immediately.

The current personal and corporate tax systems have become too complex and inefficient. The first income tax legislation, introduced in 1917 as the Income War Tax Act, had just 11 pages. Today’s Income Tax Act has 2,800 pages; it needs to be simplified.

There have been few serious attempts at tax simplification. Such efforts come with significant political risks, because they mean eliminating special preferences for groups, individuals, industries and sectors – preferences that can no longer be justified or never were. A credible growth strategy will require comprehensive reform of the income-tax system. There would be substantial financial and economic benefits: A reasonable estimate would be annual savings for the government of at least $5-billion. These savings could be used to support policy changes that would strengthen economic growth and job creation.

The Liberal election platform promised to conduct a review of more than $100-billion in tax expenditures. Details are expected in the upcoming budget. It would be a good start, but more needs to be done.

The current tax model needs to be changed so that it better supports savings and investment. This means moving to a model that depends less on income taxes and more on consumption taxes. Such a shift would encourage savings, since an individual will be taxed primarily on what is consumed, rather than on what is earned. In that way, double taxation of income on savings is avoided.

In 2014-15, personal income taxes accounted for 48.1 per cent of total revenue and corporate income taxes 14.0 per cent. GST tax revenue accounted for 11.1 per cent of total revenue. This mix needs to be changed.

Consider, for example, restoring the two-point cut in the GST implemented by the Conservative government in 2006 and 2007, against the advice of all economists. This would raise GST revenue by about $14-billion annually.

The Prime Minister has said he would not raise the GST. This is truly unfortunate, since this would seriously impede the implementation of an effective and credible growth strategy. The reality is that a tax model that relies more on consumption taxes and less on income taxes would be more beneficial to low- (with a higher GST rebate) and middle-income Canadians than the current tax model, while strengthening savings, investment and economic growth. The size of the federal government would hardly increase at all.

These policy areas will need to be part of any serious discussion of a credible domestic-based growth strategy.

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