Tuesday, April 1, 2008

"Flaherty doesn't know what he's talking about"

Macleans scribe Paul Wells contends that this Alberta government source "suggests" the federal Finance Minister "doesn't know what he's talking about" when he claims that "Ontario's business taxes are currently the highest in Canada."

If one considers what Flaherty is calling for in full context instead of relying on a Toronto Star snippet, it may be noted that one must also consider capital taxes and the structure of the retail tax. Wells cites a speech by Barrie MP Patrick Brown in which Brown quotes Jack Mintz:

Ontario has one of the highest effective tax rates on capital not just in Canada but around the (industrialized) world. The government has not understood that its policies have hurt capital investment and what it does to productivity.

Is it the case that Mintz, arguably Canada's #1 tax expert, "doesn't know what he's talking about"?

The Brown speech, which Wells doubts is "prudent", explains what is really at issue here, which is the Marginal Effective Tax Rate or METR. It's true that Nova Scotia, for example, has a higher corporate rate than Ontario. But Nova Scotia has harmonized its sales tax with the federal GST. Ontario refuses, primarily because that would mean converting its retail sales tax to a value added tax, which would cause it to lose the 40% or so of its sales tax revenues currently paid by business (never mind that they might make a lot of that up in increased corporate tax revenues, as Mintz as noted elsewhere). I've worked at Finance Canada and I've seen data suggesting that harmonization would have an even greater impact on Ontario's METR than reducing its provincial corporate tax rate to zero. Economists have recognized the efficiency of a VAT for a some time now and VATs have accordingly become progressively more popular amongst developed nations. Ontario's retail sales tax harms corporate competitiveness because it applies to business inputs, increasing production costs and deterring investment.

If Wells' point is simply that the METR in the United States is higher than in Ontario, point granted. But the US tax system is no model of efficiency. Even if McGuinty were to cooperate with just the goal of a combined 25% corporate tax rate in Canada by 2012, this would still be higher than the average EU rate now. That Report on Business link I just provide there does get after the feds for not having launched "a serious reform program", but the feds, both Conservative and Liberal, have in fact made significant progress relative to 2000 and that article came out before the October 30 Economic Update.

In fairness, Wells concedes that "this is not my field of expertise" and calls for other figures. These numbers aren't very easy to provide, however, since there are so many moving parts. For example, Quebec's VAT still contributes to its (and Canada's) METR because some tax is still imposed on some capital inputs. It just happens to be very small. There's also the federal Atlantic investment credit which actually gives New Brunswick the lowest METR in the country (which may be reason why the Alberta government doesn't advertise an interprovincial METR comparison). I would simply presume that Finance Canada is giving the government valid numbers, and if there is any doubt, contact them directly. I fully grant that, given what we know about Flaherty's style, he's more likely to be aggressive with the information he is given than, say, former Minister John Manley (and, yes, it is somewhat contradictory for the feds to call for Ontario to effectively raise its VAT (by zeroing out its current PST) while the feds cut their own VAT; the Tories want us to listen to the Finance Canada economists except when they don't want us to). The current Director of the Business Income Tax Division in the Tax Policy Branch is Nancy Horsman (613) 992-1008 or Horsman.Nancy [at] fin.gc.ca.


Mark said...

"I've seen data suggesting that harmonization would have an even greater impact on Ontario's METR than reducing its provincial corporate tax rate to zero."

Which begs the next obvious question. Why did Mike Harris's government steadfastly refuse to Harmonize its sales tax when other provinces were doing so?

Surely Jim Flaherty has some recollection of that era of Ontario history.

Anonymous said...

Probably because it would result in a loss of revenue and a shifting of the tax burden to people from business.

Anyway, Ontario is the (2nd?) lowest spending province in Canada and doesn't really have room for this without massive fed transfers or royalties to enable lower taxes.

Brian Dell said...

A fair question, although I don't know how hard the Ontario government was pressed at that time to review the issue, whether by think tanks, its own Finance Dept, or others.

Last year the CD Howe Institute released a study indicating a significant increase annual investment in machinery and equipment in the Atlantic provinces in the years after their 1997 harmonization (go to http://www.cdhowe.org/index.cfm and scroll down to "What's New in Publications", and then look under "Fiscal Policy" for a July report titled "Lessons in Harmony: What Experience in the Atlantic Provinces Shows About the Benefits of a Harmonized Sales Tax".

As as aside, on page 6 of "Federal and Provincial Tax Reforms: Let's Get Back on Track", released the same month, it says, under a subtitle of "Taxes on the Cost of Doing Business" that "In 2007,
Ontario is the most highly taxed province, with an effective rate of 27.6%"

Brian Dell said...

"Probably because it would result in a loss of revenue and a shifting of the tax burden to people from business"

Well, on that one Jack Mintz disagress. See page 4 of the "2007 Tax Competitiveness Report", also released by the CD Howe last July:

"... Canada’s corporate income tax rate is on the wrong side of the “Laffer curve,” the relationship between government tax rates and tax revenue. ... Canada could reduce corporate income tax rates, possibly increasing revenue or at worst losing little. Compared to any other business tax policy, this is a “win-win” proposition — both government and the private sector would be better off.
Reductions in the current corporate rate would increase corporate tax revenues because Canadian and foreign multinationals would shift fewer costs into Canada and fewer profits out of Canada."

U of Alberta prof Bev Dahlby's analysis of corporate tax cuts in B.C. also showed that the provincial government didn't lose any income over the long term, because of the increased economic activity.

Mark said...

Significant investment post-1997 in Atlantic Canada probably has a lot to do with that black gooey stuff and that shiny metal stuff.

Nevertheless, thanks for the link and I'll take a look.

Mike said...

Good arguments.

Brian Finch said...

This all misses the point, the Federal Finance Minister no matter how right or wrong he or she is, shouldn't be meddling in a provinces affairs in an almost unprecedented level.

I'm sure if the same scenario played out in Alberta with a Liberal Finance minister flying into Edmonotn on the eve of a PC ministers budget day would have be met with cries of separation.

We've experienced the Harper recycled ministers before and we don't want to go back to where we were.

I do believe in a role for lowering corporate taxes, but not this let's-gut-the coffers-on-tax-cuts so that we go so close to the bone to deficit and then assume the lotus postion, chant a few free market prayers, and hope for the best.

Mike said...

Why shouldn't the federal finance minister engage a provincial premier in a discussion about policy?

Demosthenes said...

Wait a second. Canada's "premiere tax expert" is someone who attempts to do serious analysis based on the Laffer Curve?

Does anybody else hear the sound of a thousand reputable economists laughing hysterically?