Canada’s Equalization System Has Proved an Utter Failure That No Country Would Want to Copy

Commentary, David MacKinnon, Equalization

David MacKinnon

February 2, 2017

In recent months, several commentators have been recommending that other countries adopt equalization and other Canadian-style regional subsidies. They argue that this would help avoid the political stresses that the American rustbelt and other regions have experienced from headwinds in the global economy.

Let’s hope other countries are not listening. While our regional subsidies helped troubled regions achieve short-term stability, they impaired economic performance in these regions and Canada as a whole.

These arrangements are also mired in mismanagement. The federal government has never studied the impact of equalization and other regional subsidies and federal legislators have never been informed about the full extent of this system. Its scale and impact is a mystery for the public and the legislators who manage it.

Equalization started in 1958, followed by other regional subsidies, including massive subsidies conveyed by EI to regions. Despite very large funding from other Canadians over five decades, Quebec and the Atlantic provinces are among North America’s poorest economic performers.

Quebec and the Maritime provinces were among the five weakest North American jurisdictions in terms of average real per capita GDP from 2010 to 2014. P.E.I. was at the bottom of this list. With respect to growth, Quebec, P.E.I. and Nova Scotia were below the average Canadian level. New Brunswick was very near the bottom.

Low productivity is especially serious. The rates of growth in real GDP per worker in Quebec and the Atlantic provinces are about half that of Canada’s; several were less than half the Canadian average.

Equalization and other regional subsidies have enabled the emergence of public-sector-driven economies in most recipient jurisdictions that are completely out of place in a market-driven world. Extravagant public sectors are the core economic problem in each of the Atlantic provinces and also in Manitoba, not coincidentally Western Canada’s economic laggard.

What cannot be debated is that the massive regional subsidy system, in place for decades, has failed to raise the economic performance of recipient jurisdictions to the levels found elsewhere in Canada or the United States.

Other factors should also discourage countries from copying Canada’s approach to equalization, the largest portion of Canada’s regional subsidy system. These were summarized in a recent FP Comment column by former finance minister Joe Oliver.

The first of these is that funding for the program will grow at the rate of national GDP growth even if reduced commodity prices lead to a major reduction in fiscal capacity differences among provinces. In other words, funding for the program would continue even if the original rationale for the program becomes less significant or largely disappears.

Another issue Oliver mentions is the moral hazard associated with equalization and other subsidy arrangements. Provinces can choose, as some have, to prohibit activities such as fracking and uranium mining in part because the money coming to them from other Canadians might fall off if these activities generated more economic growth.

This problem is especially perverse because recipient jurisdictions receive subsidies that are in part generated by activities elsewhere that they prohibit or discourage in their own jurisdictions.

There is another, quite different factor that should give countries pause if they are thinking of copying Canada’s fiscal arrangements: the impact these have on the lives of many of the people living in receiving jurisdictions.

The best way to understand this is to visit communities in Atlantic Canada and Quebec. Some are entirely dependent on transfer arrangements. For example, in 2014 the mayor of Souris, P.E.I. accused the federal government of murdering his town when it made minor adjustments to the EI program. A visitor to Souris would find the dependence noted by the mayor depressing. In fact, Souris is generally depressing. The retail community is minimal. Many businesses barely hang on. The housing stock appears dilapidated. Social indicators are poor. The town appears grey and worn.

Subsidy arrangements such as equalization have caused or contributed to these problems because they have discouraged economic-adjustment processes.

It is also clear that remarkably large federal subsidies have not helped people in Souris avoid the circumscribed lives that living in a depressed community inevitably causes. Sadly, many communities resemble Souris.

Canada’s regional subsidy system has failed to perform. It has also contributed to isolation and dismal economic performance in many communities and regions. This is not a system that governments anywhere should imitate.

Originally printed in the Financial Post.