March 28, 2012
Separating Fact from Fiction
Too frequently public discussions of Equalization and other federal-provincial transfers have been incomplete and confusing.
This has resulted in much misunderstanding about the distributive implications of federal fiscal transfers and expenditures.
Fiscal federalism in Canada, as in other federations, is rather complex and takes some effort to understand. This paper is an attempt to sort out some of the main features, identify important facts, and contribute to a clearer understanding of the policy issues of fiscal federalism—with a focus on addressing concerns raised in Alberta during recent years. These concerns have been raised elsewhere and are often discussed nationally.
This paper does not make political judgments about the relative contributions of Alberta, Ontario, or other provinces but it does lay out the basic facts of the country’s system of fiscal federalism. The goal is to provide Canadians with a clearer perspective on these matters and allow them to better assess the current state of fiscal federalism and its alternatives.
Executive Summary
Too frequently public discussions of Equalization and other federal-provincial transfers have been incomplete and confusing. This has resulted in much misunderstanding about the distributive implications of federal fiscal transfers and expenditures.
Fiscal federalism in Canada, as in other federations, is rather complex and takes some effort to understand. This paper is an attempt to sort out some of the main features, identify important facts, and contribute to a clearer understanding of the policy issues of fiscal federalism—with a focus on addressing concerns raised in Alberta during recent years. These concerns have been raised elsewhere and are often discussed nationally.
Equalization entitlements are determined by an assessment of the value of a province’s tax base (i.e. fiscal capacity). If fiscal capacity is less than the national average, the province receives a per capita Equalization payment to make up the difference. There is no mechanism to reduce the fiscal capacity of provinces above the national average. The program is financed through federal tax dollars collected in each province. This means that recently Albertans contributed approximately 15 per cent of the cost of Equalization, Ontarians contributed approximately 41 per cent, Quebecers contributed approximately 19 per cent, and so on.
Per capita, Albertans contribute the most to the federal treasury and, in turn, to Equalization. Recently, their contributions have been 55 per cent above the national average and about 35 per cent greater than the per capita amount from Ontario. The greater amounts largely reflect the high personal incomes and corporate profits associated with Alberta’s energy boom. The implicit contribution of the average Albertan to Equalization was about $650 per capita in 2010-2011. Alberta does not receive Equalization so that total amount is a net contribution. Ontario, despite receiving payments through the program since 2009, is still a net contributor. In 2010-2011 Ontario funded Equalization to the amount of $454 per capita but received payments of $74 per person—a net contribution of $380 per Ontarian. The other Equalization receiving provinces are net recipients. The average expenditure per Canadian for Equalization was $421 in 2010-2011.
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Traditionally, five provinces (Prince Edward Island, Nova Scotia, New Brunswick, Quebec, and Manitoba) have comprised the ‘core’ recipient group with consistently below average fiscal capacities. Critics maintain that this core group has become dependent on the tax dollars of contributing provinces—that is, they have lower tax rates yet are able to spend extravagantly on public services. The analysis in this paper indicates that this is not the case.
The analysis reveals that Equalization receiving provinces provide comparable expenditures by imposing comparable tax rates on the tax bases available to them. Only the resource rich provinces enjoy low tax rates. Further, there does not appear to be a trend of growing dependency on Equalization payments in recipient provinces.
But Equalization is only part of the federal intergovernmental transfer story—in fact, only one-quarter of it. The Canada Health Transfer (CHT) and the Canada Social Transfer (CST) are the major other (non-Equalization) federal cash transfers. Together, those two represent 60 per cent of total federal transfers to the provinces. The non-Equalization transfers have tended to be and are becoming more equal per capita across the provinces.
Federal intergovernmental transfers are only one part, and even a relatively small part, of the redistribution resulting from the federal government’s expenditures and taxes. Transfers to persons (and businesses), purchases of goods and services, and interest on the federal debt represent almost 80 per cent of federal outlays—intergovernmental transfers are only about one-fifth of the total. The expenditures and the taxes are not uniformly distributed. That is, more federal funds are collected in some provinces than are spent in them while, in other provinces, more is spent than is collected. The data for 1999 through 2008 show three provinces being net contributors to the federal treasury—Alberta, Ontario, and British Columbia in the per capita amounts of $3672, $1771, and $742 respectively—while the other seven provinces were net recipients in amounts ranging from $616 for Quebec to $5497 for Prince Edward Island.
These differences have led some to call for an overhaul of the federal transfer system. Many in Alberta believe their province’s contribution is too high. Ontarians have also criticized the system and recent economic shifts have provoked some Ontarians to ask: is there something contradictory in the finding that a province with below average fiscal capacity experiences a net outflow of cash through the federal transfer system? The answer evident from this work is that everyone contributes to Equalization as a function of their wellbeing.
Some options for reducing the fiscal redistribution are explored in the paper. The consequences (even for substantial changes) for the net contributing provinces are typically found to be (perhaps surprisingly) modest while those for the most fiscally disadvantaged provinces can be severe. Many suggested or implied reforms may not be appealing.
This paper does not make political judgments about the relative contributions of Alberta, Ontario, or other provinces but it does lay out the basic facts of the country’s system of fiscal federalism. The goal is to provide Canadians with a clearer perspective on these matters and allow them to better assess the current state of fiscal federalism and its alternatives.
Author
Melville L. McMillan
Release Date
March 28, 2012
ISBN
978-1-927350-21-8
Mowat Publication
No. 49