September 17, 2006
Killing with Kindness
Those Albertans who understand Canada’s equalization program might agree in principle with sharing the wealth with “have not” provinces. But a growing body of evidence shows that equalization perpetuates dependency by paying provinces not to pull up their policy socks. It’s the kindness that kills.
As their uptake of subsidies has increased, the growth rates and competitive positions of “have nots” have declined. The more they receive, the more they lag behind. The extra money has inflated their public sectors and allowed them to maintain unattractive tax, investment and regulatory regimes. The obtuse equalization formula reduces transfers if taxes are cut or government assets and organizations sold.
With 20% of its budget from equalization, Manitoba is a particularly tragic casualty. Once the third largest city in Canada, Winnipeg’s now ranked eighth. Downtown office vacancies are rising as corporate headquarters have followed more favourable tax policies to places like Calgary. The only construction downtown this summer is an unneeded tower for the lethargic Crown, Manitoba Hydro. As a percentage of per capita GDP, Manitoba has the most expensive public schools and close to the most costly healthcare system in the country. Despite the funding bonanza, both report mediocre outcomes.
Absorbed by government personnel and salaries, the money does not flow into education or health, or into Manitoba’s ramshackle streets and highways. Mature, highly unionized government bureaucracies dominate the list of Winnipeg’s top ten employers. Government spending accounts for half the economy – a far cry from 1965, when the province had the smallest government in western Canada and comparatively robust growth. The only western province with a provincial payroll tax, Manitoba maintains a hopelessly uncompetitive top income tax rate of 17.4%, compared to Alberta’s 10%.
In a time of angst about energy consumption, Manitoba Hydro counterproductively sells domestic electricity at cost. That’s supposed to attract factories but demonstrably does not. Imagine if Alberta sold its $70 oil for $30 and looked to outsiders to pay for public services. The policy loses Manitoba about a billion dollars in lost annual revenue, a sizable portion of the $1.6 billion boodle from equalization. In effect, Alberta and Ontario pay Manitoba to underprice a valuable resource, which in turn promotes profligate overconsumption. The same applies in Québec, which receives almost half of Canada’s total equalization payout. So this “help” also hurts the environment.
Despite several advantages, including Canada’s most diversified economy, renewable energy wealth and high-skilled labour, Manitoba’s young people and skilled brainpower head west. Unless you are Manitoba’s NDP, with its natural powerbase in a sprawling, old-style public sector, fortune and opportunity lie elsewhere. To be fair to Premier Doer, the most enthusiastic apostle of more equalization, the present formula directly penalizes policies which encourage economic growth. It’s rational to chase transfers when the alternatives like public sector efficiency or tax reductions bring equalization clawbacks.
The noble goal of the subsidies – to “provide equivalent levels of services at equivalent levels of taxation” – remains unachieved. Well-developed research into the “optimum size of government” shows that economic growth declines as taxes rise when governments consume more resources than necessary for core public goods. The fastest growth occurs when government consumes 30% of the economy. Past that sweet spot, growth slows steadily. Alberta grows faster because its state sector is closer to the optimal size. In contrast, Manitoba, Québec and the Maritimes are far beyond, permanently stuck in a slow-growth purgatory.
Pressured by cutthroat international competition and rising energy costs, Ontario recently rejected an expansion of equalization. That’s a blessing in disguise. Alberta can easily afford to keep the “have nots” on the dole, but it should back out on humanitarian grounds and push for reforms that give “have nots” at least some prospect for self-sustaining economies and modern policy models.
The federal government could liberate Manitoba by swapping equalization for debt. Another, more complicated approach would be to fiddle with clawbacks by reducing payments in proportion to relative public sector inefficiency -- difficult but not impossible. In Manitoba and Québec’s case, Ottawa could slash equalization in direct proportion to electricity subsidies.
We need to recognize that equalization’s noble intentions have not been met and radically rethink it. Alberta should show some leadership and push for a model of transformational equalization that stops killing Manitoba with kindness.
The Frontier Centre for Public Policy
is an independent public policy think tank whose mission is "to broaden the debate on our future through public policy research and education and to explore positive changes within our public institutions that support economic growth and opportunity."