Why equalization no longer works
NationalPost.com – FP Comment
February 10, 2016. Joe Oliver, Special to Financial Post
Equalization is about to loom large in federal-provincial relations and will make the prime minister’s promise to meet with his provincial counterparts increasingly uncomfortable. The significant regional restructuring of economic fortunes, resulting from the precipitous decline in resource-based revenue, will reallocate billions of dollars in transfer payments — some from previously “have not” to “have” provinces. Several of these adjustments will be counter-intuitive and will likely engender embittered political reaction from provinces that perceive themselves as losing out. A reordering of transfers will also raise the larger issue of whether the program should be fundamentally revamped.
The public policy rationale for equalization is to ensure that all Canadians in every province receive reasonably comparable provincial services at reasonably comparable rates of taxation. The federal government achieves this by making up the difference for provinces with less revenue capacity than the average (note that the formula is based on capacity, not taxes actually raised). The formula calculates what each province could collect, on a per capita basis, in personal, consumption, property and business taxes, if they all imposed the same rates.
Recipients can use the funds any way they wish, so, the objective of the program may not be achieved if a recipient province uses the money for priorities other than public services. On the other hand, Quebec will receive 56 per cent of equalization payments next year, while enjoying a publicly funded daycare program that is unavailable in “have” provinces.
The total amount the federal government transfers to the provinces, almost $18 billion, is based on a three-year moving average of nominal GDP growth. It operates both as a ceiling and a floor. But if disparities are small, which seems to be where we are heading, the result would put us in unchartered territory. Since recipients cannot end up in a better position than the average of non-recipients, part of the large balance might have to be distributed to all the provinces on some yet-to-be-determined basis.
Should provinces be penalized for not pursuing revenue opportunities, like resource development?
Another predictable oddity is that, in 2017, Ontario could shake off its status as a “have not” province for the first time since 2009, losing almost $3 billion in equalization payments. This is not because Ontario is doing well fiscally. Rather, the resource economies of Alberta, Newfoundland and Labrador and Saskatchewan are reeling.
At the same time, these resource-based provinces will likely be aggrieved that the three-year weighted average calculation of fiscal capacity does not fully take account of their current financial pain, as Saskatchewan Premier Brad Wall has already pointed out. Meanwhile, lowering the average fiscal capacity may reduce the amount Quebec receives.
Another counterintuitive element of equalization is that fiscal capacity excludes either all of a province’s natural resource revenues or half of them, depending on which provides the largest per capita transfer payment.
This brings us to the highly contentiousness issue of whether a province that could generate resource revenue, but decides not to, should see transfers reduced accordingly. Several provinces have imposed a moratorium on fracking of oil and gas, even though fracking has been safely utilized for over 40 years in Western Canada and fracking has made the U.S. the largest producer of oil in the world. Certain provinces and municipalities also oppose new export pipelines. Apparently, they believe it perfectly acceptable to receive transfers derived from resource development in other provinces, and yet improper to develop their own resources or even permit development elsewhere.
Opposition to resource development, unrelated to legitimate environmental concerns, is a self-indulgence we cannot afford in a period of slow growth, large deficits and escalating health-care costs. The public may not be fully aware of the financial and social implications of its choices. A reduction in equalization payments would be a wake-up call.
It is time to ask whether this massive government program meets its original goal, still achieves a legitimate public purpose objective and is recognized as equitable. Other questions need to be answered: Should recipient provinces be required to use the funds for provincial services, the rationale for the program? Should a province that imposes relatively high taxes, potentially driving away jobs, have the actual tax it collects counted?
Why exclude certain resource revenue when revenue from other industries is not? Should “have not” provinces be penalized for the decision not to pursue revenue opportunities, like resource development? Does the formula adapt quickly enough to dramatic changes in financial fortunes? If the disparity between recipient and non-recipient provinces narrows appreciably, is there a justification for massive transfer payments?
Then there’s the big, philosophical question: Is equalization creating a welfare trap that subsidizes inefficiencies, discourages employment and undermines economic growth?
These questions will doubtless set some premiers’ hair on fire. However, our current economic challenges and shifting fortunes cry out for a major overhaul of a decades-old equalization program that is past its best-before date.
Joe Oliver is the former Canadian Minister of Finance.
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This entry was posted on Thursday, February 11th, 2016 at 10:17 am and is filed under Governance Policy Context. You can follow any responses to this entry through the RSS 2.0 feed. You can skip to the end and leave a response. Pinging is currently not allowed.
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