An Answer for When Ontario Comes Calling

Commentary, Equalization, Peter Holle, Uncategorized

April 9th could be a historic budget day for Manitoba. With federal transfers heading perilously towards 40% of total provincial revenues, it’s likely that these monies have reached a high water mark and that we may see sharp reductions in them starting next year. Such a development would be in the long term interest of our province.

Many of Manitoba’s public policy follies and the associated relative long-term decline of our province are rooted in Canada’s well-meaning but perversely dysfunctional transfer payment system. Federal health and social transfers come with strings attached that discourage reform and innovation of provincial health systems. The no-strings-attached 51-year-old equalization program has been more damaging because it effectively pays our politicians handsomely for avoiding innovative public policy.

If you were a politician, why on earth would you want to modernize your government if this reduced your federal transfers? Let us consider some examples.

Manitoba’s domestic electricity prices are below market levels , which has two perverse results — people consume more power while being charged extra tax to make up lost revenue. The logical approach would be to price electricity at the market rate so that it is used in an economically and environmentally friendly fashion and then to use the extra revenue to reduce taxes. However, in the Alice-in-Wonderland space of Canadian transfer payment policy , that would lead to a reduction in equalization payments, so it is best to do nothing.

Manitoba has one of the least competitive economic environments in the country. Taxes are high, and private investment levels are low. Unfortunately, equalization isolates politicians from this reality. Most politicians in the world have found that strangling the economy means a smaller tax base, but not ours. Politicians in a have-not province are indifferent to economic growth: If the economy grows, it will yield more taxes, but if not, the province gets more equalization payments anyway.

Equalization also isolates politicians from the political fallout of poor spending choices. Most politicians find that their voters are concerned with the value they get from their taxes, but this is less so in Manitoba. When close to 40 per cent of government revenue comes from other provinces, the accountability link is weak. Manitoba spends more on services than the main “have” province Ontario (Alberta recently surpassed Manitoba) which picks up the tab, but it does not get better results. The extra money goes instead to enlarge and enrich the public sector.

But changes loom.

Equalization may be about to make our politicians accountable to Ontario voters. The Ontario economy, which more or less underwrites a majority of the entire scheme, is under full-fledged assault by skyrocketing energy prices, a rising Canadian dollar and a recession in the critical U.S. markets that buy its products. Among the provinces, it will rank number 9 in economic growth this year. For the first time in three decades, its unemployment rate exceeds the national average, and record numbers of people are leaving the province.

The Ontario public is starting to realize how badly the province is being ripped off. The Toronto Star and the Globe and Mail newspapers, for example, are beginning to shine a light on transfer payment over-equalization.

The attached chart reveals how badly tilted the transfer system has become against Ontario. Comparing Manitoba and Ontario expenditure and service levels we can see that Manitoba’s per capita revenues are 20% higher. It has 35 per cent more hospital beds, 35 per cent more nurses and 65 per cent more judges per capita. It has 44 per cent more government employees per capita compared to Ontario. “Have – not” Manitoba enjoys 12 per cent higher total revenue per capita than so-called “”Have Ontario.

As factories close, more Ontarians will ask why their economy carries so much of the weight of an over-equalizing system of transfers. For some perspective, if Manitoba’s health system was scaled down to Ontario levels, we would have to fire 2,935 nurses and close 1,174 hospital beds. The wider body count in the public sector would have to fall by almost 41,000 working in the provincial government, the healthcare and university sectors, and local school boards (see www.fcpp.org).

The federal conservatives may finally figure out that a real reform of the transfer payment mess might be a political goldmine for them in the elusive Ontario political marketplace.

A simple fix would be to cap total transfers, so they cannot exceed Ontario benchmarks. For example, if Ontario revenue per capita were $8,200 per year, transfer top ups to Manitoba would stop once its total revenue was equivalent. Clawing back electricity subsidies would eliminate the equalization formula subsidy to un-green power pricing in Manitoba and Quebec.

A much cleaner and ultimately more productive approach would be to exit the equalization policy contraption entirely. This would remove the penalties the model imposes on Manitoba policy-makers for embracing a growth-oriented tax model, pricing electricity without subsidies and pursuing innovative public sector reform. Most importantly, this would benefit struggling Ontario by ending its milk cow status.

But there must be a politically acceptable trade-off which provides a similar value of transfer in a smarter way. To achieve this, the feds would make up the revenue by swapping tax points to the provinces and trimming Manitoba debt-service payments by absorbing some government debt.

Manitoba would need a tax and debt swap equivalent to the $2.2-billion it gets in equalization payments from the feds. Transferring the GST to Manitoba (with the requirement it harmonize with the PST) is worth $800-million, leaving a $1.4-billion shortfall. To deal with the power subsidy problem, the province would split the difference with the feds. Assuming these subsidies are worth $1.4-billion, we can knock off $700-million, leaving $700-million to be made up in reduced interest payments. The feds would absorb $6-billion to $10-billion in provincial debt, depending upon the interest rate used in the calculation.

Ontario will smile.

Then, say goodbye to the Kafkaesque transfer policy model, which has locked Manitoba in a penalty box of proactive stagnation for years.