How To Get Ottawa To Take Ontario Seriously

Commentary, Equalization, David MacKinnon

Over the past five years, evidence of major trouble in the financial relationship between Ontario and the rest of Canada has become evident. The problem is clear: the federal government is taking too much out and putting too little back in.

Banks, university professors, think tanks of all types and the Ontario Chamber of Commerce have drawn attention to the seriousness of the problem.

This situation is now made much worse by changes in the global economic environment which have eroded the foundations for past economic success in Ontario.

Unfortunately, the federal government and Ontario’s federal legislators don’t understand this. While some recent policies help, such as permitting Ontario access to equalization, others such as large recent enhancements to equalization make the problem worse.

The general scale of this problem at the heart of our federation is unchanged, despite recent announcements by Mr. Flaherty.

However, regional subsidies must now be viewed in relation to the startling changes that have occurred in global finance. These suggest another way of looking at Canada’s system.

We are fortunate that we don’t have a housing bubble that is nearly as serious as in Western Europe and the United States.

However, we now better understand the nature of financial “bubbles” driven by excess and it is increasingly evident that we have our own. They are called Manitoba, New Brunswick, Nova Scotia, Prince Edward Island, Newfoundland and to a lesser extent, Quebec.

The Atlantic Provinces and Manitoba are now permanently dependent on massive subsidies from other Canadians to support their provinces at anything like their present population and scale. Their short term economic stability is also dependent on these subsidies. This remains true of Newfoundland even as it comes off equalization.

Quebec is less dependent but it too would face serious short term challenges if subsidies from other Canadians were removed or reduced.

This is why these provinces are financial bubbles. To the extent that the current world crisis weakens the capacity of Ontario and Alberta taxpayers to pay for most of the regional subsidies, and both provinces are being very hard hit by it, populations in the receiving provinces are open to all the risks associated with sudden change.

Financial bubbles normally have four very important characteristics.

First, their underpinnings are not transparent and are excessively complex. Our system of regional subsidies, which few understand, qualifies on this score.

Second, they are driven by expectations and entitlements that have no realistic basis in actual need. Government programs in recipient jurisdictions that are already far more accessible than in other parts of Canada qualify them on this score.

Third, they are unsustainable. In the past four years equalization expenditures, largely paid by Ontario and Alberta taxpayers, have grown four times faster than Ontario’s growth and Quebec’s equalization receipts have grown about ten times faster.

Four, the bursting of bubbles is not controlled by anyone and timing is unpredictable. We have whole provinces based on subsidies that are driven by excess, lack of transparency and unsustainability. The only real question is when and how they face reality.

The federal role in putting this in place is analogous to the role Wall Street bankers have played in the current crisis. Ottawa has implemented a wide variety of subsidies for regions without ever examining the aggregate of them. It did not measure equalization against its goal of program comparability and federal leaders never studied the impact of the regional subsidy system on Ontario.

These failures rank with the failure of Boards of Directors and regulators in the United States to understand the impact of securitization and the packaging of subprime loans.

Premier McGuinty responded to this crisis of finance and governance in a thoughtful way. He sought allies, he described specific inequities and he negotiated with Ottawa even though the response was often name calling and disinterest.

Unfortunately, the policies of reason and accommodation have largely failed. The general problem, as noted earlier, is still as large as it was five years ago.

The question is what to do now.

Ontario now needs to demonstrate unshakable determination to move forward and success is much more likely to come from action than from words.

There are four things the province could do which would ensure a more substantial federal response.

The first is to refer the problem to a Royal Commission on Ontario’s Public Finances and Economic Future for public hearings and a full and unbiased analysis of the issues for Ontario.

The second is to propose a radically different method to calculate equalization based on population need. Population need does not factor into the current system which means that immigrant absorption, for example, has no bearing. Elimination of this deficiency would likely mean much more funding of Ontario, British Columbia and perhaps some other regions.

Third, Ontario should build on an idea suggested by Professor Tom Courchene of Queen’s University. It should prepare a plan for provincial assumption of E.I. within the province. Once a plan was available, the federal government should be given a short deadline by which the program would be reformed so that similarly situated Canadians are treated similarly wherever they live or Ontario would opt out and manage its own program.

Finally, Ontario should propose a system by which GST revenues would be transferred to the provinces in return to the elimination of transfer payments. Political leaders in Canada who spend money would then have the responsibility of raising it, a basic principle of accountability.

The important thing is that Ontario shift from a strategy of gentle and reasoned persuasion to one of very forceful negotiation, combined with action on its own.

If they choose this path, Ontario’s leaders will not only safeguard Ontario’s position. They will also reduce risk to all provinces and point the way to a better and safer future for all Canadians.