Reform taxes, don’t hike them

Posted on January 20, 2015 in Governance Debates – FP Comment
January 20, 2015.    Jack M. Mintz

The 2009 Ontario budget was an inspired package – McGuinty’s most important policy reform

With falling commodity prices, the last thing our resource-based economy needs is new taxes to grease governments’ spending wheels. Yet we are hearing about carbon taxes in Ontario, income tax hikes in New Brunswick and sales taxes and health premiums in Alberta as provinces deal with their on-going deficits.

We should instead focus on economic growth. In the past year, not just oil prices dropped (by over 50 percent) but also agriculture raw materials (7.5 percent), mining (17.5 percent) and industrial inputs (7.5 percent). Canada’s plodding growth rate of 2.4 percent in 2014 is now marked down to as low as 1.8 percent for 2015 by some forecasters.

The federal government gets it. Joe Oliver, Minister of Finance, made clear that the upcoming April budget would not include tax hikes. Instead, the federal family tax cuts will start being paid out to Canadians, well timed to offset any potential slowdown in economic growth due to low commodity prices.

It is one thing to raise taxes or cut spending to deal with so-called structural deficits (these deficits don’t disappear even in the good times). It is another to push for higher taxes or less spending to reduce the “cyclical” deficit when an economy is entering a slowdown.

Many Canadian provinces face both types of deficits – an on-going structural deficit that had not been dealt with since 2009 and a potential cyclical deficit due to falling resource prices. While the overall Canadian economy won’t be severely hit by the commodity “de-boom,” the resource-intensive regions will surely feel the pinch.

The structural deficits, such as the one in Alberta and Ontario, are best dealt with through fiscal reforms that make government spending more effective and reduce the economic costs of raising taxes. When economic trouble is on the horizon, cyclical deficits have to be tolerated. However, a crisis should not be wasted if substantial program spending and tax reforms are to be adopted to put the economy on a better track for the long run.

The UK government figured this out in the height of the 2008 global recession. The government cut the 17.5 percent VAT rate initially to help buoy the economy although subsequently it raised the rate to 20 percent when the economy was recovering. It did increase the top personal income tax to 50 percent in 2010 but later reduced it to 45 percent by 2013. Given consumption taxes are less harmful to an economy, the shift to the VAT from the income tax by 2014 was wise.

Corporate tax reform has also been adopted with an intent to grow the economy. The UK has aggressively reduced its corporate income tax rate from 28 percent in 2011 to 21 percent today (still to fall to 20 percent in 2015). To make up for any revenue loss, the UK has reduced tax preferences, including abolishing the low rate for small business and increasing its rent-based taxes on the oil and gas sector.

It wouldn’t be wrong for provincial governments to think of tax reform, not tax hikes, as a means to help grow the economy at a time of economic stress. Dalton McGuinty figured this out in Ontario when the 2008 global recession was creating havoc for the province. Instead of raising taxes as the Ontario deficit grew, he looked to establish a more competitive tax regime.

McGuinty took on the politically risky strategy of replacing the 8 percent retail sales tax with a provincial tax harmonized with the federal GST. He coupled this with a reduction in corporate income tax to 10 percent and provincial tax reductions on the basis that the overall reform would be revenue-neutral. The HST was a far better tax than the old provincial sales tax since it led to the removal of most sales taxes on business costs. This made Ontario businesses including manufacturing more competitive in export markets as well as reducing substantially the tax on capital investments.

The 2009 Ontario budget was an inspired package – it was McGuinty’s most important policy reform that will help Ontario in the coming years. A blight on this record was a retraction of some legislated corporate tax reductions soon afterwards. So much for the promise of revenue-neutrality – such actions create distrust in governments and make smart revenue-neutral tax reforms harder to implement.

The left-wing Wynne government has adopted or is proposing major new taxes. Ontario has returned to almost 50 percent top tax rates on incomes above $150,000 and raised the aviation fuel excise tax in its last budget. It is now considering a carbon tax, corporate tax increases and an unnecessary new payroll tax to fund future pension benefits.

An explosion in new taxes will do little for economic growth. Premier Wynne should take a leaf from her neighbour in Quebec where Premier Couillard is reducing the structural deficit with expenditure and tax reforms. Spending is being cut by $2.7-billion this year by freezing staff levels and reducing administrative costs, with more to come with spending reforms. Some tax increases are being imposed. Less sensible is a temporary tax on financial institutions (a favourite whipping boy for governments). On the other hand, the union fee tax credit is reduced from 20 to 10 percent, a good idea given that strike pay is not taxable.

Deficit-plagued governments need an agenda of spending and tax reforms. Just hiking taxes won’t help grow their economies.

Jack M. Mintz is the Palmer Chair, School of Public Policy, University of Calgary.

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