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Proceedings of the Standing Senate Committee on
Banking, Trade and Commerce

Issue No. 44 - Evidence - September 20, 2018


OTTAWA, Thursday, September 20, 2018

The Standing Senate Committee on Banking, Trade and Commerce met this day at 10:32 a.m. to study new and emerging issues for Canadian importers and exporters in North American and global markets.

Senator Douglas Black (Chair) in the chair.

[English]

The Chair: Good morning, colleagues and members of the general public who will be following this hearing via the Web. Welcome to today’s proceedings of the Standing Senate Committee on Banking, Trade and Commerce. We welcome participation.

My name is Doug Black, and I have the privilege of chairing this committee. I would ask us to swing around the table so my colleagues can introduce themselves to the witnesses.

Senator Wallin: Senator Pamela Wallin from Saskatchewan.

Senator Moncion: Lucie Moncion from Ontario.

Senator C. Deacon: Senator Colin Deacon from Nova Scotia, newest senator, just about.

Senator Tannas: Scott Tannas from Alberta.

Senator Wetston: Howard Wetston from Ontario.

[Translation]

Senator Dagenais: Jean-Guy Dagenais from Quebec.

[English]

Senator Smith: Larry Smith, Quebec.

Senator Day: Joseph Day from New Brunswick.

Senator Stewart Olsen: Carolyn Stewart Olsen, New Brunswick.

Senator Tkachuk: David Tkachuk, Saskatchewan. Nice to see you, Mr. Mintz.

The Chair: As always, we are ably assisted by our clerk and analysts.

Today our committee will hear testimony relating to our study on new and emerging issues for Canadian importers and exporters in North America and global markets. Including today, our committee will have held eight meetings on this study and heard from 23 witnesses. Today is our final meeting on this matter, and then the committee will work diligently to prepare their final report, which we hope to have released soon.

I am pleased to welcome our panellists. I want to start with an apology to our panellists, because I think we have had to reschedule this panel three times. We apologize. There were circumstances outside our control, and the committee very mush appreciates your patience and ability to be with us today.

We have three outstanding panellists today. With us here in Ottawa in our meeting room is Dr. Jack Mintz, President’s Fellow, The School of Public Policy, University of Calgary. Via video conference from Toronto, we have Dr. Tiff Macklem, Dean of Rotman School of Management, University of Toronto. He is well known to this committee because he appeared a number of times with us when he was the Deputy Governor of the Bank of Canada. Also via video conference from Calgary is Mr. John Mercury, Partner and Vice Chair, Bennett Jones LLP.

Thank you all very much for being here. We are anxiously awaiting your comments. You are the last panel we are hearing from, so we are looking for a strong wrap-up. Let’s start with Dr. Mintz here in Ottawa.

Jack Mintz, President’s Fellow, The School of Public Policy, University of Calgary, as an individual: Thank you very much, senators. It is a pleasure always to be back at Senate committee hearings. I have always enjoyed coming to these.

I will do maybe two things that are based on the PowerPoint that I handed out to you and which I think you all have copies of. I want to talk about why competitiveness matters and, in particular, what it means in terms of investment and why investment particularly plays an important role as part of competitiveness issues. From there, I will give you the recent data we have put together on effective tax rates. Some of it is not as new; we have published it in other forums. Some of it you probably have not seen because it is quite new. We recently put together numbers for one purpose in a project that hasn’t been published yet, so those numbers might be of interest to you.

I will begin with something that is probably well known to you: the annualized growth rates of GDP for Canada and the United States since 2015. When I say “annualized,” I mean the rolling four quarters of GDP growth. It is not just the current growth rate in this quarter; when you say “annualized,” you are picking up all four. Sometimes that is reported in the press as annualized and sometimes as quarterly, but it is useful to get the annualized for a broader trend. One quarter is one quarter, and it doesn’t necessarily tell you how the world is evolving.

Also, to challenge you a bit, we have blue for Canada and red for the United States. Just try to remember that. That is because we are going by temperature and not by maybe the colour of the flag or whatever.

As you can see, in 2016, Canada did worse than the United States in terms of growth, but in 2017, we had a very good first two quarters, particularly. But then we started falling down. You will see that by the second quarter of 2018, our annualized growth dropped to below 2 per cent to 1.9 per cent. The reason for that is that the three previous quarters were 0.4 per cent each quarter and 0.7 for the last quarter. When you look at this decline from over 3 per cent to 2 per cent, that really reflects the fact that there has been a slowing down since the second quarter of Q1, but the second quarter of Q1 was also a catch-up for a very bad 2016. So I would say the 3 per cent was — I wouldn’t call it an accident — but it was more like an aberration or a catch-up from an earlier period.

The key point, though, is that when you look at forecasts by most people for 2019, they are not expecting more than 2 per cent for the Canadian economy. It might be a bit more in some forecasts, but that is roughly what we are looking at. That is not surprising, because growth rates are really the sum of two growth rates. One is population growth, or growth in working hours is probably the better measure, and that’s been roughly 1 per cent per year. The other part of our growth is productivity growth, which has also been, historically, 1 per cent. In fact, it continues to be 1 per cent. Here’s the point I want to get to: We could get to 3 per cent, like some countries have done, if we could improve our productivity. It is harder to improve the population growth. In fact, now over 70 per cent of our population growth is coming from immigration, and there is only so far you can push along those lines. In fact, productivity still remains a unique and important challenge to the Canadian economy.

That can be seen in the next graph, where I provide productivity growth. Actually, it is not productivity growth, but this is the actual labour productivity in Canada indexed to 2010, and the same for the United States. The slope here matters. In the case of the United States, productivity growth, which actually wasn’t all that good after 2010, until recently, has been a bit over 1 per cent. That’s not particularly good but somewhat higher than Canada’s after 2010. You can see the slope is faster. It’s risen more quickly than U.S. labour productivity in Canada. But we also had relatively slow growth even before 2010, and you can see U.S. growth during the 2001 to 2007 period was quite robust, close to 2 per cent.

This has been a constant issue for Canada. We have done so many right things, and it has not just been in terms of better tax systems and Canada Research Chairs and infrastructure spending and these sorts of things, but we seem to not be able to budge that productivity number. It stays the same year after year. To me, that is the competitiveness issue. That is the one that hurts us the most. Until we can improve our labour productivity, we will not be as competitive in the export markets internationally.

I think this is partly as a result of rather poor performance in investment, particularly lately. If you go to the next graph, gross capital formation, to get up to the current period, we took out dwellings, which you can think of as residential investment. We wanted to focus more on the business side. It also includes government spending on infrastructure.

You can see that Canada dipped heavily after 2014 from a total business investment net of residential investment of over 18 per cent of GDP down to 16 per cent. In fact, it is significantly lower than the U.S. Even though we have improved since the first quarter of 2017, it is still not a very pretty picture. In fact, if you go back to 2009, which was just after the recession hit, you can see that was a really bad period of gross capital formation. We are at the same level as that period, so we are not doing very well on the investment side in that sense.

Infrastructure spending did increase by governments quite a bit after 2009 but has not been all that good since 2015, quite surprisingly, despite all the emphasis on it.

I always try to get out of the government side and try to understand private investment, which I think is more important. If we don’t have businesses investing and creating the kind of tax revenues that are needed by governments, then you will not be able to get growth and have the revenues that are needed for all the public services we would like to have governments provide. That is why competitiveness, if it hurts us, is a serious problem.

This diagram — unfortunately the next one, which goes up to 2015, the latest data isn’t out yet to update any further, but I don’t think it would change the picture very much. We have taken the average of 2011 to 2015 for OECD countries and calculated what I call private sector investment as a share of GDP. We have taken out education and health because they are primarily public in provision, and we also took out government spending, business spending as well and government infrastructure spending that is also included. You can see that Canada has a pretty significant amount of investment that comes from the resource sector. That is in the green bar. In fact, manufacturing is relatively weak compared to a number of other countries, but not entirely out of whack when you compare it to the United Kingdom and a few others.

What struck me impressively is services. The amount of private investment undertaken by the service sector — what I call the service sector is everyone but resources and manufacturing. It includes retail trade, professional services, household services, communications — which I think is very important for information technology — transportation, et cetera. It is a large part of the economy. It should normally be about 70 per cent of the Canadian economy, roughly.

As you can see, service investment in Canada as a share of GDP, even though the size of the sector is quite important, is quite low, surprisingly low — in fact, worse than Greece. That is saying something.

One of the things I have often shown over the years is that our tax system has been biased particularly against service sectors. We have imposed high effective tax rates on capital in the service industries relative to manufacturing and resources. That bias is coming through in terms of how poorly our service investments are being done. There are probably other reasons for it, I will not claim that taxes are the only thing, but it is important to understand that one of the major faults we have right now in our investment decisions is with respect to the service sector. It is underperforming quite dramatically relative to other OECD countries. That is something to keep in mind.

The next graph gives you foreign direct investment. I decided today to show you the share of foreign direct inflows in North America for Canada, and for Mexico and the United States. You can see the pink is the United States. It obviously dominates in the total amount of foreign direct inflows that come into North America. That is something we should always remember.

Canada now is at about 12.8 per cent of North American shares. That is down from 2014 when it was 20.3 per cent. It is better than 2010, which was not a very good year; 2009 wasn’t a good year either, when it was at about 10 per cent. Of course, in 2007, which was the peak, during that period we had about 25 per cent of inflows coming into North America, which was the best we’ve done.

That indicates that we have had somewhat of a decline, but you can see that it doesn’t go down easily or have a single trend. For example, in the fourth quarter of 2017, we did relatively well in foreign direct investment inflows at 17 per cent, which was relatively good. Not as good as some of the other years, but that was only one quarter. When you look at the intermediate period between 2014 going up to the fourth quarter of 2017, it was low, in fact less than 10 per cent most years. That is why foreign direct investment has not been doing particularly well.

We can go on about why our investment is low. There are regulatory reasons; there could be other reasons people have talked about, such as entrepreneurs aren’t risk-taking enough and they are not taking on enough investment. There are a whole bunch of things that could be illustrated. Clearly, however, one of the issues that people worry about is the taxation side.

In the last part, I will quickly review what we are doing on the tax side.

First, I provided you the personal income tax rates. Why they can matter to investment is that, especially when you get to closed companies where the entrepreneurs are making decisions, they don’t look at just the corporate income tax, they also look at the personal tax rate, and they will then decide where to invest and even where to reside based on those tax rates. We have bumped up the top personal rate in Canada to an average that is — here I have the Ontario rate at 53.53 per cent, the combined federal and provincial rate, but the average is a little less than that because B.C., Alberta and Saskatchewan have lower personal tax rates. Quebec is higher than that, but if you look at it, it is roughly between 52 and 53 per cent today.

We apply it at — this should be roughly $220,000 in income not $300,000. That was an error.

If you look at other countries, except for France and Japan, which have comparable rates or a bit higher, ours is significantly more than the United States. This is taking into account the 2018 law in the United States where state and local income taxes are assumed as not deductible. In fact they are deductible up to $10,000, but we assumed it is not deductible at the margin and is added on to the current 37 per cent rate to get to 44 per cent. Of course, the U.S. rate applies at a much higher threshold compared to Canada, almost two to three times more than the Canadian one.

So if you were living in the United States and you were an entrepreneur, you would be paying a lot less personal tax than you would if you were in Canada. That should be considered part of that.

If you look at the next page, this is new. This has not been published. You are the first to see these numbers. One of the things we do is calculate effective tax rates on new investment, or marginal effective tax rates. We do this for small and what we will call medium-sized firms. These are assumed to be closely held companies. In the United States, many of the small businesses are actually just pass-throughs, as they are called in the United States, or flow-through companies; that is, the company doesn’t pay corporate income taxes, but the income is fully attributed to the individual, including any income that is being used for retained earnings within the corporation. That makes a very big difference.

These numbers also include things like retail sales taxes on capital purchases, and they take into account all of the depreciation and inventory cost rules that apply in the United States and Canada, by province and by the various states in the United States.

First, if I gave you the 2017 numbers, you would see that the differential effective corporate and personal tax rates on income earned by entrepreneurs between the United States and Canada were roughly comparable; they weren’t that much different. But with the 2018 law in the United States, the U.S. is now much more competitive for small-business investment. For example, in Canada, the overall rate is 42.4 per cent, including the personal tax rates for a small business, and in the U.S., once you take into account the special deduction now given for pass-through income in the United States, it is 32.5 per cent for a company of $10 million in asset size. For a company with $20 million in asset size, the Canadian rate is 48 per cent because you have lost the small-business deduction, effectively. For the U.S. corporation, there is also a limit on the deduction, but it is still a lower rate of 37.8 per cent. That is partly because of expensing and some of the other rules in the U.S. that have lowered the tax rate.

The main point is that if I were a young entrepreneur and I were looking at being in the United States and trying to service the American market with my output, or trying to operate from Canada and export to the United States, it is much better to be in the U.S., from a tax point of view. That doesn’t mean there aren’t other considerations that won’t affect your decision, but we are well offside. This is a very different story than what the Department of Finance always gives because they keep comparing corporate tax rates, which is silly anyway with the U.S. If you did that and took the pass-through case, which is called a Subchapter S corporation in the United States, it would pay no corporate income tax, except in the state of California and a few others. There are some state-level corporate income taxes on these pass-throughs, but that is a very small number relative to others.

The other graph you may have seen, which has been updated, compares, for large multinational companies, which is particularly important, effective tax rates of capital. Here, personal taxes don’t play a role. If I were a multinational, I could raise money from anywhere in the world, and the personal taxes will influence world cost finance like the interest rate, but they don’t influence directly the cost of capital for a Canadian firm versus a U.S. firm. In other words, American, Canadian and U.K. firms all raise money from the international market, so the personal taxes are there, underlying this, but I don’t include them because they are the same across different parts of the world under that assumption.

We have updated our numbers, and they are close to the Department of Finance’s for the U.S. We have an effective tax rate on capital of roughly 18.8 per cent — 18.9 per cent in another calculation, but it is pretty well the same. For Canada at this point, depending on what budgets come out in the near future, the effective tax rate in Canada is now higher on capital, at 20.9 per cent.

We are competitive relative to Latin America, which has high effective rates, partly because — if you look at Brazil, there is a lot of non-refundable VAT on capital equipment and things like that, so we have high levels of taxation there. In Asia, similarly, there are some high effective rates — and in countries like India particularly, which influence these numbers, but in a number of the countries. We are kind of in the mix with Europe. Most small European countries have lower effective tax rates on capital than we do, countries such as Sweden and other Scandinavian countries, while the big ones, Germany, particularly, and France, have a higher effective tax rate on capital, although France has announced it is lowering its corporate income tax from 34 to 25 per cent over the next three years. They will actually have a lower corporate income tax rate than Canada. I would have to rerun these numbers to see what that would do, but it would have some effect, but not huge.

This gives you an idea of how we place. We are no longer in the middle of the pack as much. Even with the corporate income tax rate, we go on thinking that 27 per cent is in the middle of the pack, but it’s not anymore. If you look among OECD countries, the highest rate is Japan, which is close to 31 per cent, and you can get your corporate rate down if you do enough hiring of people. They have a special incentive to lower your corporate rate a bit in Japan.

Germany and Italy have a higher rate than we do in terms of statutory rates, but they are around 30 per cent or 28 per cent. In other words, we are at 27 per cent. We are not far from being the top anymore when it comes to the corporate income tax rate. We have a relatively high corporate income tax rate. That encourages a lot of companies to shift their costs into Canada, particularly after the latest U.S. tax reform, especially with the fact that there are some states that don’t have corporate income taxes and have a 21 per cent tax rate, like Texas and Ohio, which are important vis-à-vis Canada in terms of competition. When you also look at the new foreign-derived tangible income tax rate in the United States, which is for intangible income — intellectual property; sales forces; marketing; mining income, interestingly — that tax rate is 13.125 per cent in the United States, much lower than the 21 per cent here. That is encouraging already a number of companies to slim down operations in Canada and move sales forces to the United States, et cetera.

It is a complicated tax law in the United States. I would be happy to take more questions on that, but it is something to keep in mind.

My final point is that I thought, given all the discussions around NAFTA — and we can have further discussions about that — I thought you would be interested in seeing effective tariff rates in Canada and the United States for manufactured goods and all products. You can see they have moved down to below 2 per cent. In fact, ours are a bit lower than the United States, at least as of 2016, when the state of it goes up. I have seen a publication from JP Morgan, which I would be happy to share with you if you want to get hold of it, and they estimated the impact of aluminum and steel tariff rates on the effective rate in the United States. It has somewhat of a small impact — a little less than half a point impact — on the effective rate in the United States. It is probably similar for Canada, I would assume, although I haven’t done the calculations.

One that would give a huge impact under the JP Morgan estimates is moving auto tariffs at 25 per cent. That would raise the effective U.S. rate from roughly, with aluminum and steel tariffs of about 2.5 per cent, over 5 per cent. That is a big jump.

One of the things no one has done, including the Department of Finance, us or others, is to think a bit more about how effective tariff rates not only affect the cost of consumer products but also the cost of capital. When you are taxing autos more heavily, a large number of light-duty trucks and autos would be impacted in terms of tariffs. That is a very important investment category when looking at investment in Canada. That would translate into higher costs for businesses, and it would also have an impact on their investment.

At some point I might try to incorporate tariffs themselves as part of our calculations. We do include retail sales taxes, some other sales taxes and capital purchases, but it would be good at some point to include tariffs. But certainly, as part of an evaluation, I want you to think about how these higher tariffs are going to translate into higher costs of capital for businesses as well.

I’ll conclude there.

The Chair: Thank you very much. May we hear, please, from Dean Macklem.

Tiff Macklem, Dean of Rotman School of Management, University of Toronto, as an individual: Thank you, chair. I’m very pleased to appear before the Senate on the important issue of Canada’s trade performance. I’m only sorry I can’t be there in person. At the risk of embarrassing him, you should know that Jack Mintz, as a very young professor, taught me my first course in economics. It’s always good to be back working with Professor Mintz.

Our productivity underpins our ability to compete in the global marketplace, and Professor Mintz has gone through this issue in some detail. I’m going to focus on a different dimension of our trade performance, but one that’s entirely complementary, and that is the need to diversify our trade beyond North America.

Our most important trade relationship is, of course, with the United States, and we should do everything we can to secure a renewed NAFTA agreement. This is paramount and without doubt our most important trade priority.

But our experience with NAFTA has really highlighted our vulnerability. We shouldn’t be in the position we’re in. We need to diversify our trade beyond the United States, and, particularly, we need to build closer links to rapidly growing emerging market economies.

I circulated some slides, which I will take you through in a minute. The fundamental reason why we need to broaden our trading relationships is that growth has pivoted in the last 15 years or so to emerging market economies, particularly Asia. So this raises the question, why hasn’t our trade pivoted along with that? I think the answer is simple. For many, many years, at least a good part of the last 60 years, being right next door to the United States has been a tremendous advantage for Canada. It’s the biggest, deepest, richest market in the world, and we’re right next door. We’re comfortable doing business with the United States. We speak the same language, watch the same TV shows and sports, listen to the same music; and we share many similar institutions and policies. For a long time being right next to the United States has been a great ride for Canada. The result is that our two economies are tremendously integrated in retail, manufacturing, financial services and agriculture. Both countries have benefited tremendously: 75 per cent of our trade goes to the United States, and we are the U.S.’s biggest export market, which we are reminding them of daily.

Why do we need to diversify? Well, there is the obvious vulnerability, which is highlighted today in dealing with the U.S. as an unpredictable partner, but the need to diversify really predates the recent experience. In the past 15 years, the U.S. has not been the global engine of growth that it was in the past. Growth has pivoted to emerging market economies, particularly Asia. Second, the competition in the U.S. market from emerging markets has increased substantially.

We should have developed a more diversified trade strategy a decade ago. Unfortunately, absent a crisis, there was little imperative. You can call it a lack of vision, a lack of risk taking or a lack of leadership. I think from a Canadian perspective, too often emerging markets, particularly in Asia, are seen as distant. They’re less familiar, they’re seen as risky, they’re seen as more expensive to penetrate. Relationships are critical, and those take a long time to build. Unfortunately, the consequences of this lack of a push to diversify our trade relationship have been very stark. If you look at the slides, which I hope you have in front of you, on the first one, Canada’s share of world exports, you can see that it has declined quite sharply. It slipped from 4.5 per cent in the last 15 years to about 2 per cent today. What the chart highlights is that this is a big decline in magnitude, but if you look across the top 20 exporting countries, Canada’s performance since 2000 is the second worst. The only one that’s worse is Japan.

So why have we done so badly? If you turn to the next slide, about two thirds of the answer is whom we trade with. About 85 per cent of Canada’s trade is with slow-growth advanced economies. Obviously 75 per cent of that goes to the United States. Another 10 per cent goes to other slow-growth advanced economies. Only about 9 per cent of our trade is with fast-growing emerging market economies. If you look at who is in that list of emerging market economies, it’s a number of big economies, China, India, Mexico, Brazil, as well as a number of others.

If you turn to the next slide, you can see that when we compare ourselves with our peers, what we see is that Canada is remarkably under-leveraged to emerging market economies and developing countries. Canada’s share of exports to rapidly growing emerging market economies is a little under 10 per cent. Germany’s is about 20 per cent. Japan’s and the U.S.’s are around 30 per cent. Australia, right next door to China, of course, is in the 40 per cent range.

The other reason for our trade underperformance is that competition in the U.S. market has become more intense, and we are losing out in that market. Part of the reason has got to be many of the factors that Professor Mintz just highlighted.

If you turn to the next slide, you can see that in 2000 Canada was the leading source of U.S. imports with more than 18 per cent of the U.S. import market. Today, of course, China has the largest share of U.S. imports. Since 2000, China has increased its share in the U.S. from 8 per cent to 20 per cent. Canada’s share has declined from 18 to 12 per cent.

What you see when you look at this chart is that China’s penetration of the U.S. has come largely at the expense of two countries: Canada and Japan. Other countries, such as Mexico, Germany, and Korea, have seen their shares hold roughly steady or in some cases even increase.

So what’s the message? The message is that in the last 15 years, the U.S. share of global GDP has fallen from about a third to a quarter, and Canada is losing share in that market. So we’re losing share in a market that’s losing share. We’ve been slow to recognize the problem. Our proximity to the United States has been a huge advantage for much of the past 60 years, but in the past 15 years growth has pivoted and we have not.

Rather than losing share in a market that is losing share, we should be focused on gaining share in a market that is gaining share, and that means diversifying our trade to rapidly growing emerging economies, particularly Asia.

To conclude, our first and immediate priority has to be to secure access to the U.S. market, our largest trading partner. But let’s use the vulnerability that this renegotiation of NAFTA has exposed and get serious about our trade diversification. Finally, coming back to where Professor Mintz was focused, we need to strengthen our competitiveness to secure a larger footprint in the global marketplace.

I know we’ve probably raised more questions than answers, but let me stop there and turn it back to you, chair.

The Chair: Thank you very much. That was extremely helpful and very succinct.

Mr. Mercury, please, may we hear from you.

John Mercury, Partner and Vice Chair, Bennett Jones LLP, as an individual: Indeed, good morning. Thank you, Mr. Chair. It’s a privilege to be part of this discussion today. Obviously you’re undertaking a very significant mission and project on behalf of all Canadians. So we’re grateful, and I’m honoured to be part of it.

Just a word of background. I’m a corporate lawyer. I’ve been practising with Bennett Jones for roughly a decade. Most of what I do day to day is work on Canada-U.S. transactions from mergers, acquisitions, private equity, financing, debt and equity and so forth. Prior to my decade living and working in Canada, I spent 10 years working in New York City as a corporate lawyer with a U.S. law firm working on many Canadian transactions but on the U.S. side. So that’s a little bit of my background.

I’ve spent an awful lot of time in my duties in the United States in cities like New York, Chicago, Houston and Dallas, speaking with U.S. investors. Quite a few of those are alternative investment providers — in other words, private equity hedge funds and so forth. My comments this morning will certainly reflect and be informed by what I hear from them. I think it’s timely if I can share some of the viewpoints I’m receiving. I think it’s important that we hear some of that live.

My principal message to the committee is this: In a global environment where investors have choices, Canada needs to be unequivocal in its commitment to ensuring that it remains an attractive destination not only for global investors but also for Canadians. Since the end of the financial crisis there has been an explosion in the amount of private capital available for deployment. The reasons for this are several but beyond the scope of my formal remarks. What has accompanied this precipitous growth in the private capital markets has been, not surprisingly, fierce competition globally for deal flow. This competition, when coupled with accommodative credit markets, has resulted in pressure on asset prices and company valuations. Much of this capital formation in the private markets has taken place in the United States — not exclusively, but they certainly have led that path. The pressure on those players to generate appropriate returns for their investors is fierce, and therefore that has resulted in them scouring the globe for investment opportunities. Canada naturally has been one of the first international jurisdictions to enjoy that type of attention.

There are a number of reasons why U.S.-based funds have been historically and remain attracted to this country. First, Canadian consumer preferences and behaviours have more in common with those in the U.S. than not, therefore allowing more accurate financial modelling of expected revenues and returns. Second, Canada’s banking environment should be viewed as stable and strong. This is important not only at the outset of a business relationship, but, as we know, especially more so during times of financial distress when having a solid and valued business partner is crucial. Third, Canada’s vast energy sector has been of natural appeal and interest historically to U.S. investors, as we all know. This remains the case notwithstanding our well-chronicled challenges in getting our products to market. Fourth, the Canadian technology sector, which boasts pioneering research in such areas as artificial intelligence and machine learning, is a source of growing attention from U.S. and foreign investors, something that we should be very proud of. Finally, our geographic proximity to the U.S., our familial ties and friendships, our shared values and institutions and the collective preference for the rule of law all underscore that, while we are different, our economies are more similar than not and, in any event, inexorably linked. All of these are reasons that provide U.S. investors with comfort and Canada with natural advantages as a destination for U.S. capital.

Given the many advantages that Canada enjoys, how do U.S. investors currently perceive the investment climate in this country? The short answer is, at very best, mixed. On the one hand, the Canadian economy is growing and remains a natural environment for North American consolidation and integration. And as we know, globally supplied chains and management programs really flourish when they are applied geographically, so we have advantages obviously there.

On the other hand, there is a growing perception that Canada is quickly losing many of its historic advantages. This should serve as a wake-up call to us all, because both capital and human talent, the foundations for a prosperous economy, are mobile. In my mind there are a number of structural challenges which are impeding capital investment in this country and, in turn, handicapping Canadian competitiveness. I will cite two: regulation and taxes. First, U.S. and global investors, each with their own cost of capital, are in increasing numbers turning their backs on participation in Canadian infrastructure projects, largely because of a perception that our regulatory process is inchoate, disjointed across jurisdictions, duplicative, insensitive to timelines and the commercial realities facing business and subject to endless litigation in our courts. This view is widespread and is being exacerbated by a perception — and I know it’s a perception — that our provincial and federal governments are either unable or unwilling to deal with these structural matters and instead have other priorities. Global investors need clarity on conditions in order to commit project financing of any flavour, and the perception that the Canadian goalposts keep moving is clearly frustrating to project proponents and related financing sources.

We urgently need to revamp our project approval processes, proceeding from a different premise — that attracting capital and creating jobs are national imperatives. Barring decisive change now, our recent track record will likely continue to discourage investment, particularly in our resource-extractive industries.

Second, and especially in light of U.S. tax reform, Canada’s competitiveness on corporate and personal income tax has deteriorated on a relative basis to the U.S. Professor Mintz has already addressed that. Much has already been said about this topic, and I’m sure that discussion will ensue.

Finally, when putting competitiveness in perspective, we must remember as Canadians our collective station in life. Canada is a large country with vast resources, world-class universities and a skilled labour force, but we are also a relatively small internal market in terms of consumption and investment and therefore have no choice but to embrace international trade, as we have, and court international capital with dispatch. There’s plenty of dry powder in the capital markets today, but in order for Canada to secure its fair share and benefit thereby, we need to stand tall, be bold, and act nationally, decisively, and in a bipartisan manner. Anything short of that, in my view, puts this country’s future prosperity into jeopardy.

The Chair: Thank you very much. A very strong presentation, and we’re indebted to you for that.

Senators, it’s time for questions, and we have a long list.

Senator Stewart Olsen: Thank you for your presentations. I will be brief because the picture you paint is pretty bleak.

Among things that were said, I think by Professor Mintz on corporate taxes, lowering taxes, I believe was your message, might be good. And on infrastructure investment in Canada there was a particular story this morning about the Infrastructure Bank, which has obviously had to borrow from Canada to pay for infrastructure programs. So I’m not sure how we climb out of the mess we’re gradually digging into. I worry, and if you could just help me, perhaps, Professor Mintz. If we can’t attract this investment and we can’t lower our taxes, how are we going to be able to maintain our standard of living, our social services, et cetera?

Mr. Mintz: First of all, it’s a real balancing act because, on the one hand, you want to make sure you have the tax revenues in to fund those public services. So we’re not talking about going to zero taxes. That would be a ridiculous way of proceeding. On the other hand, we have to try to think of really what taxes and spending are all about. Some spending actually can help grow the economy, like infrastructure spending if done properly, not spent on white elephants but if done properly. And education plays a very important role, and we have done that very well, I would argue, on the whole in Canada. Those things do help contribute to a higher standard of living for Canadians and more competitiveness through having better human capital.

But what I really worry about right now is the private investment side. We’ve had a real downturn, and it isn’t just the energy market. This is what people don’t understand. You’ve seen in my numbers that the service sector has been particularly problematic; in fact, we’ve had a tax system — and a regulatory system to some extent — that’s been biased against services for many years. We’ve improved it to some degree with tax reforms beginning in 1985, and then at a later time, but we haven’t completely cleaned up our act.

We need to rethink the tax system in general. Taxes always cause pain on the economy, but you want to minimize the pain. The best way is to try and rely on those taxes that cause the least economic cost, and to some extent try to use those to fund our public services.

As we know, corporate taxes tend to have the highest efficiency cost associated with them. People think it’s fair to tax corporations, but, as we know, corporations don’t pay taxes, people pay taxes ultimately. Many recent economic studies around the world as well as in Canada have shown that a significant portion of corporate taxes, especially on large multinationals, believe it or not, tend to hit most labour in the economy — either through higher consumer prices because they’re shifted through in terms of higher domestic prices charged to the consumers, therefore lowering the purchasing power of Canadians, or through lower wages by laying off workers or not hiring as many, et cetera.

A number of studies have confirmed that a very large portion has shifted to labour. I use somewhere around two thirds to three quarters that has shifted to labour. The corporate tax is also an unfair tax.

We really need to rethink the income tax system particularly. Currently I’m thinking about dual income taxes, which have been adopted in Scandinavia, countries such as Denmark, Sweden, Norway and Finland. Those taxes have a low tax on capital income, 20 per cent in some of the countries now. That’s interest, dividends, capital gains and corporate income. In fact, you have only a single corporate income tax rate and not differential rates by small and large businesses, and then you have progressive taxes on labour. There are a number of issues around that kind of tax system. It’s not perfectly simple, and those issues must be dealt with. But the Scandinavians have been doing it and a number of other countries have now gone to that kind of world. I think that’s where we should be heading next. That would have a very significant impact on competitiveness ultimately.

Senator Stewart Olsen: Thank you, professor. In the interest of fairness to the other members of the committee, I’ll leave it at that.

Mr. Macklem: I’ll just add a couple of thoughts on the tax side. It is important to keep in mind, with respect to the U.S. tax reform, that U.S. corporate taxes were very high globally. They’ve come down to something closer to the global average. Canada had a big advantage on corporate tax. That has gone away. We’re at a slight disadvantage now. We could lower it a bit, but I don’t think we want to competitively try to undercut internationally on corporate taxes.

Coming back to the particular problem that Professor Mintz highlighted on investment, the other part of the U.S. tax reform is vastly accelerated depreciation on investment and machinery and equipment. That is something we should look at seriously in Canada, matching that. That gets directly to the investment problem. We do not want to put our companies, who are facing investment decisions, at a real disadvantage when they can put the investment in the United States or they can put it in Canada. We should level the playing field on that front.

With respect to the personal tax rates, I share Professor Mintz’s concern. We have an innovation agenda in this country. That is essential to our productivity. We have lots of great science. We’re not doing a good enough job commercializing it. We must align our innovation agenda with our personal tax rates so that there is sufficient incentive for founders to start, build and scale their businesses to a global footprint here in Canada.

Senator Tannas: Thank you very much for being here. With respect to some of the charts that we saw from Dr. Mintz and Dr. Macklem, how do you normalize things like foreign exchange between Canada and the U.S., the price of oil, health insurance costs that are baked into our taxes versus not in the United States and mortgage deductibility? Do you make any attempts at that, or is that a mug’s game where you say that we can’t do it, we’re just going to look at raw numbers, and over time that all smooths out? Is that how you work?

Mr. Mintz: I want to say something in reaction to my former student, and I guess one of the things I missed in one of my lectures.

On your question, once in a while I do this, but it takes a lot of effort, but I’ve looked at the impact of all fiscal measures on the cost of doing business. When you think of the cost of doing business, firms use labour, capital, energy. You’d have an effective tax rate on each of those things, but also you have various grants and other subsidies that the government provides — and health care subsidies is one of them — that help reduce the cost of labour when you’re comparing with the United States.

In the work that I did over a decade ago, what we showed was that the business tax advantage that we had in Canada on the corporate side was actually really important because it offset a lot of the other disadvantages. The health care subsidy was also important. The calculations showed that in the end, we didn’t have that much of an advantage compared to United States because of all the other things. We need to look at that again because we have higher energy taxes. Fuel excise tax rates are much higher than in the United States. We’re going into higher carbon taxes than the United States, so that’s going to add more costs onto businesses. Our personal taxes are much higher than the U.S., so it leads to a higher effective tax rate on labour. We’ve taken into account education subsidies, and I know how that would operate. Then we also have grants for R&D in the U.S. that are much higher than Canadian grants for R&D. I have not done the work, but my hunch is when you include everything on the fiscal side, it would probably be a net negative now for Canada now that we’ve lost that corporate tax advantage.

The big question is how do we address it. I do agree with Tiff that if we’re going to remove some of the other disadvantages that we’ve created — particularly things on the regulatory side which I haven’t talked about, and higher energy taxes — and if we were going to remove some of those other things, then we don’t need to compete on corporate taxes. We’re about the same as the United States.

One thing I totally disagree with Tiff about is that I think we should be very careful of accelerated depreciation. Remember the history of that. We’ve had accelerated appreciation for manufacturing for years. We had it for a whole period going up to 1988-89, then we got rid of it, and then we brought it back in 2006. Frankly, it didn’t do that much in the manufacturing sector, and there are reasons for that, because accelerated depreciation doesn’t necessarily work. It creates more tax loss companies that can’t use the deduction. It doesn’t impact on their marginal decisions anymore. They also accumulate large losses. There are all sorts of games being played to get losses from one company to another, and it puts pressure on the system.

This is what happened in 1985 when we took on our first major tax reform. At that time, Michael Wilson was the finance minister.

The reason we did it was exactly why the U.K. did it at that time in May 1985. We had a huge number of pressures under the tax system because we had investment tax credits, accelerated depreciation, and there were a lot of companies that were profitable and not paying any tax at all, and they were busy trying to get their losses paid out to someone else. Finance would have to come in with rules to try to stop it. That is when we started lowering rates and getting rid of these things.

I would not call the expensing provisions in the U.S. a great way of doing tax policy. I think it was a mistake, frankly. I think that if we want to have a better tax system, the way is not introducing accelerated depreciation. I am very disappointed in the business community now starting to push that, that somehow we should jump into the lake with the Americans on this.

Senator Tannas: Our share of foreign investment inflows is at 12 per cent, near low, but that is at quarter one. Where do you think we are now, and where do you think we will be over the next year or so with status quo?

Mr. Mintz: Well, it’s only a hunch. I don’t like to forecast these things, but frankly, I don’t see any great desire. In fact, I agree with Mr. Mercury.

This is all anecdotal, but I have heard from many companies that make presentations in the United States that the U.S. investors have written off Canada as too politically risky now for investments. So I don’t expect a lot of foreign direct investment inflows at this point.

The Chair: Dean Macklem, you may want to respond to some of that.

Mr. Macklem: Well, Jack is the tax expert. My fundamental point is that when we are looking at taxes, particularly with our largest trading partner, the United States, to the extent where we can, having a level playing field would support our ability to compete better with the United States and others.

As you can see as you get into it, defining exactly what level is becomes very complicated, and the U.S. tax system isn’t perfect either. I think that where there is something that is really unlevel, that will influence business decisions here in Canada, and we have to take that into account.

On the overall corporate rate, they are roughly equal. There are some other factors in Canada that you have to look at together, but I will not argue the details. The point is to try to level the playing field.

The Chair: Thank you. Mr. Mercury, do you wish to add anything?

Mr. Mercury: Yes. Thank you. One observation I would make, taking a slightly different track on capital flows into Canada, is that we are at a moment in time when you are seeing very overheated competition in the U.S. within and between U.S. players. That is causing asset values to rise and returns to shrink on those opportunities. As a result, they will be looking abroad and will continue to look abroad for opportunities and ideas.

We visited with people who were travelling to Toronto, Calgary, out of New York, every week. They are here to build relationships, get on the inside and find a proprietary opportunity, because no one wants to be in an auction.

I am more optimistic about all of this. I mentioned all those structural problems. Those will remain, and hopefully, we can address them, and I think we will turn a page. I thin, you will see a long-term remaining commitment on the part of the United States capital providers to look at Canada as a twin companion jurisdiction. That is one comment I would make.

Just a couple of points quickly on tax. This may have a partial Western Canadian bent, but we are certainly seeing capital flight out of Alberta in terms of high-net-worth individuals. That could be attributed to tax or, frankly, just this economy. What is more distressing to me is that when there is a new opportunity that could be pursued or incorporated either in Calgary or in Houston, Canadians are opting to take the southern option for all the reasons that have already been discussed. There are real issues on that side of the table.

I have two smaller points that I think are worth noting. We talk about tax in the aggregate. I would point out that the U.S. has a world of different approaches to deductions, so it is difficult to look at the bottom rates and say that draws perfect comparisons. But that is more for your other two experts than me.

From a deal perspective, there are two things I would point out. One is that when foreign investors deploy capital into Canada, into certain types of entities, including our extractive industries and real property, when they dispose of those investments, there is a withholding tax and a process that people need to go through and a withholding of proceeds. That should take a relatively quick period of time to be released.

We are now into a period of time where if that used to take three months, it is now up to two years. What you are doing is tying up people’s capital for a long period of time, which, in turn, cannot be distributed back to their investors. That is a significant detriment to their overall internal rates of return. That may sound like a small matter, administrative and kind of “behind the hood,” but the reality is that it is one more thing that people look at when they are evaluating a U.S. versus a Canadian opportunity.

The last point I will make has already been touched on, but we need to really consider more deeply embracing equity compensation for our executive teams in Canada, or our pioneers and founders, and show that we are unambiguous about the benefits of equity compensation, stock options and so forth. Treating those as if they are just some kind of penalty because your company has performed or created value for the economy is antithetical to how that model really works around the world. We could do better on that, certainly for our venture and our risk takers in this country.

[Translation]

Senator Dagenais: Thank you to our witnesses. My question is for Mr. Mintz.

By following the news, we know that Canada and the United States do not always agree on NAFTA. Do you think supply management still benefits Canada?

[English]

Mr. Mintz: To be brief, no, I cannot think of one reason why you would ever have supply management as a policy. I think it was a huge error. In fact, that is one of the reasons why I often worry about policies coming in. It is hard to reverse them at a later time.

It has led to higher consumer prices, and it has been like an excise tax on milk, poultry and eggs paid by consumers. As a result, it has hit lower-income individuals most hard. Why would we believe that a regressive policy is a good idea? I am not sure.

Also, if you look at Canada, we do poorly when it comes to exporting products that are made with dairy, like cheese, yogurt and things like that. Why? Because raw milk is so expensive that no one can compete internationally. In fact, one of the great successes of Australia and New Zealand getting rid of their supply management systems is that they have become big exporters in products made from milk. In other words, part of the value-added chain has been higher as a result. So just from a domestic policy sense, we should be getting out of supply management, never mind the threat of NAFTA.

Supply management has hurt us on all our negotiations with other countries. For example, I totally agree with Tim about the value of diversification of trade, but it is not as simple as one thinks. I think it is a worthy goal. However, if you talk to many people who have been in treaty negotiations with other countries, supply management has always been one of the barriers to us getting better deals. In fact, that is why other farmers, like beef farmers, you can talk to them, and they will tell you what they think of supply management. It has hurt them on export markets because of the fact that we have had this difficult process.

In terms of NAFTA, I cannot believe that any government would want to hurt the auto industry and save 11,000 dairy farms and maybe 4,000 or 5,000 poultry and egg farms instead. It just doesn’t make sense to me.

[Translation]

Senator Dagenais: I have another question from the news. It pertains to the infamous carbon tax. This morning, the newspapers reported that Quebec, which does have a carbon tax, has failed in 50 per cent of its investments. We know there is no carbon tax in Saskatchewan and Ontario.

For people thinking about investing in Canada, would Ontario and Saskatchewan not be more attractive since they do not have a carbon tax?

[English]

Mr. Mintz: That is a good question. I’m not sure, from the competitiveness point of view, that the cap and trade system in Quebec — and I think they still have their small carbon tax applied — has that much impact on competitiveness at this point in Quebec because the size of it is not very big. In fact, I did some work recently where we tried to look at the impact on investment of the cap and trade system in Ontario as it existed at that point, which was raising gasoline prices by 4 cents a litre or something like that. The impact on competitiveness, let’s say the cost of capital, was very small. It wasn’t negligible, but it wasn’t very large. I am not sure that is a significant issue.

When you start getting to $50, then we also have to think more about the impact. The big issue that I have had over carbon taxation is that I believe carbon taxation, if you are to address the carbon problem, is the right way to go. Because if you put a price, people can figure out the best technologies over time to respond to the carbon tax and the cost of carbon. What concerns me right now is that that is not what government policy is about today on carbon. We have a whole plethora of very costly regulations and subsidies that have effective carbon tax rates that are much higher than $30 or $20 or whatever the number is. And that causes a competitiveness disadvantage as well. In Ontario, the feed-in tariffs created huge costs on electricity, which will still be borne and are a significant issue in Ontario affecting their competitiveness.

In Alberta, we have adopted the renewable standards of 30 per cent for renewable electricity, phased out coal and things like that. That is the equivalent in carbon tax of over $100. It will have a bigger impact on competitiveness than what we are talking about in terms of carbon taxation today. I would like to see governments be honest and start measuring all these effective carbon taxes associated with electric car vehicle subsidies, et cetera. If we are to raise the carbon tax, it is not just a matter of what would you do with the revenue. At the same time, we should be reducing of these regulations which create a higher cost to the Canadian economy instead. Instead, we have a completely befuddled approach to carbon policy right now in my view, and it doesn’t make sense to me what the philosophy is anymore.

The Chair: Dean Macklem or Mr. Mercury, anything to add to that?

Mr. Macklem: On supply management, I absorbed that lecture better than some of the other ones, Jack, so we are totally aligned.

On the carbon tax, as some of you may know, I have been chairing an expert panel on sustainable finance appointed by Minister McKenna and Minister Morneau. We have been consulting widely with the financial services industry, but also businesses more broadly across the country.

One of the messages we heard clearly from the business community is the need for more policy clarity. Once businesses understand the rules of the game, they can engage on the issues and figure out what the risks are. They can figure out what the opportunity is, and they can figure out how to make money solving the issues.

We have heard from the business community that there is broad recognition of the need to transition to lower carbon growth. There is general recognition that a carbon tax is an efficient way to do that, but until the carbon tax is implemented and demonstrated across the country, there is some hesitation for businesses to engage.

The other element, as Professor Mintz indicated, is that there are a number of other pieces: building codes, vehicle emissions standards. Again, those have yet to be fully articulated. Once those are more fully articulated and agreed upon, then the innovation community can see where the opportunities are, and they can move in and solve those problems. The financial community can see the opportunity and the risks more clearly, and they can move in and finance the kinds of investments that need to happen.

The more quickly we can move to policy clarity across the country, that will help move us forward.

Mr. Mercury: I would like to add that I completely agree with that line of thinking. Thinking about this in a different manner, this is an important question, but discussions about carbon tax need to go hand in glove with a more holistic discussion about our entire energy policy in this country. When decision makers are being asked about capital expenditures, evaluating costs, understanding carbon taxes, it goes hand in glove and in real time with their evaluation of their business, capital expenditures and projects.

This may be a mildly different topic, but it is a first cousin to what was asked. We’ve had the recent Federal Court of Appeal decision on Trans Mountain and Bill C-69 in the last couple of weeks. When you look through all of those at what the message is to the broader communities, these are directions to the community that are creating a lot of uncertainty and confusion. We can get into detail if you would like, but having an endless period of time for consultations, and a duty to consult that is completely undefined and subjective, is damaging to the long-term interests of this country.

One thing we need to keep in mind as we evolve and create new policies and laws is signalling to the world that we have clear and objective criteria. That is an indispensable quality for an investor to understand. Absent that, we will see fewer and fewer people lining up to propose an investment or a project in this country.

The Chair: Thank you, Mr. Mercury.

Senator Wallin: Thank you very much. You have been wonderfully clear on all of this. Mr. Mercury, thank you for your last comments because we are just beginning to look at those issues through Bill C-69.

I want to suggest to my colleagues that we put your chart, Professor Mintz, on the cover — the chart on private investments as a share of GDP — because that should scare the hell out of everyone, and that would perhaps be a good thing to do.

As the chair has said, we are in the midst of writing this report, and now we are down to the wire. We want clear and crisp prescriptives. This is stuff that needs to be done. You have done a good job of doing that, but I will go to each of you. This will be one question with three answers.

If you could write one of those recommendations — we are talking about three lines — what would it be from each of you? We will start with Mr. Mintz.

Mr. Mintz: For brevity of time, I have already mentioned that if I were to do something on the tax side, I don’t think we should rush into accelerated depreciation for the reasons I gave. Instead, we should be thinking more of a major tax reform. I think it is probably time to do that. We haven’t done it since the business tax reform panel that I chaired 20 years ago for Paul Martin when he was Minister of Finance.

I personally think we should look at some new ideas, such as the dual income tax that I mentioned earlier.

Mr. Macklem: I will go back to my theme of trade diversification. I want to underline — and Mr. Mercury did a better job than I did — that there actually are a lot of positive elements. We are deliberately focusing on the issues that need to be addressed.

On the trade side, the new Trans-Pacific Partnership has been agreed to. That is a big step forward. Even bigger is the CETA agreement with the EU. The EU is the world’s largest market, and this gives Canada very good access to the largest market in the world. We need to leverage these trade agreements.

We need to engage the business community in the opportunities those create, and then we need to look to new trade agreements, particularly with large, rapidly growing emerging market economies. China and India would be the two biggest and obvious places to start. They are huge markets.

Again, I would emphasize that trade agreements are one thing, but we need to engage the business community as part of developing those trade agreements. The business community has to be very much part of that journey because they are the ones that will generate the trade relationships.

Then I think there is a whole series of supportive policies we need in Canada to get that to work. I won’t go through them in detail, but quickly, we need more infrastructure and gateway transportation to get our goods to markets, particularly to Asia. We have created the new Canada Infrastructure Bank. Let’s leverage that to accelerate those projects. We have created a new Invest in Canada Hub. It has an opportunity, again, to focus more on the FDI relationship with emerging markets. We have the Innovation Superclusters Initiative, which will help build scale. Again, as part of that, build scale to export beyond North America.

I would certainly underline, as Professor Mintz did, that we have a fabulous education system, world-class universities. We are open to immigration. Talent is our biggest asset in this country. We need to continue to build on that. That is important to our competitiveness. Thank you.

Senator Wallin: Thank you. Mr. Mercury?

Mr. Mercury: I might be at risk of a little duplication here, but I would go back to the point I was making earlier, which is that we need to double down on providing the world with clear, crisp, objective criteria and guidance on regulatory approvals. It is unambiguous in my mind that this is one of the leading problems in this country today. We covered many topics here. I am more bullish about the future of this country than many because there are a lot of reasons to be, and I think they were summarized nicely.

But it is such a problem that we cannot provide guidance to clients and people ready to deploy capital. As you know, these projects and proponents are multi-party and these are multi-stakeholder negotiations. Unless they are all on board, no one is on board.

That is within reason. We understand there needs to be a duty to consult and a duty to accommodate to a degree where practicable. But the message we are sending in Bill C-69, if you parse through it, the definition of “sustainability” that needs to be met, needs to contribute to the social and economic well-being of Canada. That is great. We all agree with that. Growing our economy and tax base will do all that, but providing such subjectivity and the minister with such discretion I fear will kill projects before they even get off the ground.

I will stop with that, but that would be my number one recommendation.

Senator Wallin: Thank you all very much.

Senator Wetston: Thank you all for all of your useful information today. There is a lot here to take in, and it is difficult to explore in a question or two. I think you all appreciate that.

The whole issue of productivity has been discussed for years. We all know that. Trade agreements we have been discussing for years. We all understand that. You have all touched on issues that the country faces.

Do you think we are organized as a country? I will not go down the constitutional path here, so don’t fuss about that too much. Are we organized as a country to be able to address the complex issues you are talking about today?

I can raise just a comment about cooperative federalism. Is it working? That is part of the regulatory approval process that Mr. Mercury has been talking about. I will not get into whether the courts are too interventionist. That is a whole other issue. But many of the issues you touched upon today involve the nature of how we are organized as a country and how we deal with these issues. Frankly, I get a little more concerned about the excessive fragmentation, and I get very concerned about the fact that changing governments feel they have better answers and solutions to the problems we are facing. I am not quite sure whether that is also a challenge we face.

That is a general question. I have a second part, but perhaps we won’t have time to get to it. Can any of you respond to that question? If you can, please do.

Mr. Mintz: I actually wrote an article saying basically that we are facing, I think, very significant federal tensions in this country. It is partly because of a lack of agreement about resource development. It is also related to carbon taxation — again, a lack of unanimity on that. Even in NAFTA, the potential for a federal-provincial fight is there, when you look at supply management versus the auto industry.

To give you an interesting perspective on the regulatory side — I haven’t talked much about it, but I totally agree with my colleagues — it is a major blockage right now. I have a Master of Public Policy student who finished her paper to graduate. It has interesting information in it comparing Canada’s regulatory system even under 2012 and Bill C-69 with what goes on in Australia, Europe and the United States. Interestingly enough, the United States is a bit dysfunctional, as you would expect, being a federal country like us. But if you compare us to, especially, Australia, we do not have best-in-class regulatory systems. In fact, out of the four jurisdictions she compared, Canada probably does worse in all of the criteria than any other jurisdiction.

Interestingly, one of the areas we do particularly poorly on, compared to, for example, Europe and Australia, and even the United States to a certain extent, is the federal-provincial side. We have very few joint evaluation and regulatory processes that simplify the system, because we have all these different bodies that are doing their own regulations and follow course as a result. That increases timelines, costs and all sorts of other things like that.

This is a good example of the problem you are raising.

How is cooperative federalism doing? Not very well, I would argue. Is cooperative federalism the right model anyway? We know there is another approach to federalism, which is keeping governments separate in duties so that they do not overlap. You might argue that would be a better approach in Canada. We do have a fragmented society here in Canada, as I pointed out, based on a lot of reading I did this summer on social identity. It is something that does get in the way, but we have to live with it; I don’t think we have a choice.

Can we do better? Yes, but it needs a lot of political will to move in that direction.

The Chair: The questions are just getting easier, aren’t they?

Mr. Macklem: They seem to be getting bigger and bigger. I share your concerns, Senator Wetston. There are so many examples where we could work together more effectively. I made a few notes.

We still have far too many interprovincial trade barriers. If we could get a rational national electricity grid, we could reduce our costs of electricity, reduce our carbon footprint and make ourselves more competitive. We have real issues creating gateway transportation across the country to get goods to foreign markets. One very close to your heart, we still don’t have a national securities regulator. As was mentioned, the carbon pricing framework is fragmented.

We need to spend less time competing against each other and more time competing against the world. In a more globalized world, we’re a small market, and fragmenting it only makes it smaller. We need to look for ways to build scale so that we can compete and simplify our regulatory structures, speed them up so that we can actually compete effectively in the global marketplace.

Mr. Mercury: I completely agree with that. We need to remember that if you’re on the outside looking in, whether you’re in the United States, China, Japan or Europe, looking to make a capital investment in this country, you’re thinking Canada, not which province you’re going to end up in. Overlaying all of the incremental cost and time that we have for legacy reasons that have already been mentioned, it needs to be priced at the end of the day. At the end of the day this is a game of risk and reward and capital expenditure. People discount when there is incremental risk and costs, and we need to keep that in mind.

By the way, it’s an excellent question, and it goes right at the top of the list with regulatory. It all goes hand in glove in my mind. What’s missing in this discussion to date has been acting with dispatch and acting with resolve and giving us some type of timeline and framework by which we need to achieve certain objectives. These are all theoretically interesting concepts and discussions, but without drawing conclusions and pushing ourselves to self-evaluate or reform or do whatever we need to do, it ends up being purely academic. I do think we’re reaching a moment in the evolution of this country, which we should be very proud of, by the way, where we need to reboot on some of these things. It’s long overdue. And I think a lot of the problems we’re facing today across the country are the result of these historical legacy issues.

The Chair: Senator Wetston, you mentioned you had a second part.

Senator Wetston: If I could get the panel’s thoughts on an area that I’ve been thinking about. I think it has a direct impact on export and import, as well as trade, as well as productivity. I’m not sure whether any of you have done a study on this. And I’m very pleased, Dean Macklem, that you raised the issue of a national securities commission, because we’re the only country in IOSCO, the International Organization of Securities Commissions, globally that does not have a national securities commission — the only country. I just mention that. I’m happy to have had an opportunity to put it on the record.

Moving forward, however, as we talk about the structure of our economy, do you have any views on competition policy or lack thereof, increase in corporate concentration, and the nature of the type of acquisitions that we have seen from global companies acquiring businesses in Canada and changing the nature of those Canadian businesses? I’m not suggesting they’re branch plants, but a lot of things have happened, and innovation is moving to other places around the world, et cetera. I believe one of you mentioned the world is getting smaller.

To Dean Macklem, we think from Canada’s perspective the world is getting larger and slower, rather than smaller and faster, the way we are addressing some of these issues. And Mr. Mercury, the resolve that we need to address them. Do you have any thoughts about those issues of corporate concentration and competition policy with respect to how we are doing from a productivity perspective?

Mr. Mintz: I always thought the panel chaired by Red Wilson had a very important message, and that is that competition is very important in improving the dynamism of an economy. In fact, I think we have too much protection in Canada. I haven’t tried to put the numbers exactly on this, but when you start thinking of ownership limits and banking and telecommunications, it’s a way of giving protection to certain firms. They get a very comfortable market to work in, and they don’t need to worry about export markets as much when you have that.

We also have provincial ownership of energy, largely, except for Alberta. Again, that’s another form of lack of competition in a market. We have things like supply management and other regulations that have led to mini monopolies. We have that, as Tim mentioned, in internal barriers of trade. Everyone loves to bring up the beer industry, but that’s certainly another example of it. When you start going sector by sector, you start seeing that governments have set up all sorts of different barriers to entry and have limited competition.

One of the great values of being exposed more to the international world and international trade, as well as foreign direct investment, of course, is that you can put some pressure on your business community here in Canada to do better. In fact, that is probably one of the best things that happened with NAFTA, and other trade agreements are good too, even though we still try to protect certain industries in every one of these negotiations.

In my view, if we really want to get serious about productivity, I think competition is probably one of the things that we still need to push more on to try to get a more vibrant business community that is going to be more competitive. Then, of course, with that, as we did with the Canada Free Trade Agreement, you undertake other things like moving towards the GST from the manufacturing sales tax and other policy changes in order to make sure that your businesses can be competitive internationally and not hamstrung to compete with others.

The one concern I’ve had is with state-owned enterprises. I don’t believe that state-owned enterprises are the type of foreign direct investment that’s actually good for an economy. I think we’ve had a lot of success with privatization that happened over the years when you look at Air Canada and Canadian National Railway. I can go through the list of the private corporations that have been created and the studies that have shown we’ve received huge benefits out of a more productive and dynamic economy as a result.

Now that we’ve had success with that, I don’t think we should re-nationalize the Canadian economy with foreign, state-owned enterprises. That’s one area of foreign direct investment I do worry about coming into the country.

Mr. Macklem: I will add a couple of points. First, I would like to underline Professor Mintz’s points on competition and the link between competition, productivity and trade. StatsCan, led by John Baldwin, more than a decade ago did a whole series of studies that exhibited very clearly that our export-oriented industries are much more productive. They invest more in new technology, more in people with advanced degrees and more in talent. As a result, their output per worker is considerably higher.

It’s very clear in the data that if you expose companies to international competition, the pressures of the marketplace induce more creativity and more investment. When we talk about trade agreements, we talk very much about securing access to international markets. There’s a lot of evidence by people like Dan Trefler here at Rotman that the biggest benefit of trade is actually in the innovation it spurs and the investment and productivity that come out of that. I couldn’t underline that more.

Second — and this really relates to Mr. Mercury’s comments — I think the other thing you’re seeing globally is that the speed at which businesses are growing and scaling is much faster now. There are a number of reasons for that. You can build a billion-dollar business now with a dozen people. You don’t even have to buy computer servers; you can rent space in the cloud. The ability to scale and grow a global business now is much faster. The consequence of that in the global marketplace is that it’s winner take most of the market. That’s why you’re seeing the rapid growth of very large global players.

One of Canada’s really big issues is that we do not have very many big global champions. We’re great at start-ups; we’re not good at scaling. We have to be able to scale much more quickly than we have in the past because whoever gets there first and secures that spot in the global marketplace will have a big scale advantage, and once that opportunity’s been taken, it’s very hard to knock them off. That really speaks to a number of the points that have been made.

We need to be moving more quickly, not more slowly. If we don’t do that, we’re putting our companies at a competitive disadvantage, and they’re not going to be able to achieve that global footprint.

Mr. Mercury: I completely agree with the two main take-aways, and I have always believed that a freer, more open economy leads to national prosperity and that over time we need to phase out protectionism of any sector. I think all of that needs to be on the table.

With respect to the rapid digitization of our economy, I confess to you that I had to look up what that meant because a lot of this tends to be over my head the first time I hear about it. Understanding data and understanding how to create value in businesses is where the world is going rapidly. To the point that was just made, the big are getting bigger in a hurry. The Amazon effect is impacting all kinds of businesses and creating dislocation all over the world.

To the extent that we can be embracing these technologies, keeping the people, importing the technologies, creating value as quickly as we can, if a Canadian entity at some point migrates and does a third-round IPO in Palo Alto, it’s not the end of the world. It’s not a bad outcome. Or on the inverse, our capital markets are also attractive for global investors. Those are basically my views on that.

Senator Tkachuk: Mr. Macklem, I’d like to follow up on your question on trade and the fact that we haven’t done a good job at emerging markets. Yet, about 40 countries have been included in free-trade agreements over the past decade, of which the European Union is one. There were also a number of countries in South America and the Trans-Pacific Partnership. I don’t think it has been completed yet here in Canada. I don’t quite understand why, but nonetheless it has not, and it is the emerging markets.

That leaves China and India as sort of the big players outside the system. Which should be our priority? Should it be India or should it be China? Well, the United States is a done deal. I mean, that is our market. Without the United States we’re dead, but as far as the emerging markets are concerned, India or China?

Mr. Macklem: I agree entirely. Our first priority is the U.S., and hopefully we can secure a deal in a matter of days or weeks.

Beyond that, China and India are both huge markets with tremendous potential. I’d probably start with China, but they both have huge potential and some different advantages.

India probably will become the world’s largest economy if you look at the age structure of its population. It’s a much younger population. India is a democracy like Canada. Our institutions actually have a fair amount in common, both former British colonies, but it is a complex society.

China is the biggest world economy. It has increasingly taken a more global view, and I think if we can define a trade territory and not overload it with too many other objectives, China would be ready to engage.

Mr. Mercury: I’d like to just pick up on that because I’m of the view that when you look at the strategic relationship between China and the United States and global tensions that likely will not go away in our lifetimes, I think that presents a very real opportunity for Canada.

There’s an article written just yesterday about our LNG West Coast opportunity picking up steam given certain items that have come up in the U.S.-China relationship on that topic in recent months. I believe there’s a good opportunity for us to be a leading player, if you will, in that part of the world, and that’s where I would be if I were casting my vote. I would prefer both. We have to walk and chew gum at the same time, frankly. But that’s where I would cast my vote.

Mr. Mintz: I’m going to add two things. Number one, I don’t think it is a matter of choice. I think it’s what the opportunities are and go for them.

I think as I mentioned earlier, I do agree that trade diversification is a good thing for the country as a whole, partly because it improves our position when it comes to negotiation with the United States if we have more alternatives. I’ve looked at this as a bigger-picture thing than simply trade diversification and taking advantage of other opportunities.

I want to put a little bit of realism on trade diversification. The two most important types of products we sell abroad are energy, which is about a third of our exports, and motor vehicles and parts, including light-duty trucks and things like that, which is roughly another third. It’s a little bit less than that; it’s 30 per cent. We’re talking about almost 60 per cent of our trade being in those two categories. Who’s our customer? It’s the United States. Almost all our energy currently goes to the United States; it doesn’t go anywhere else. When it comes to the Auto Pact originally and now NAFTA, there is trade going on with other countries in motor vehicles. But let’s face it, we’re really tied to the United States for that sector in terms of all the supply chains that have been created.

Now, in terms of the energy market, yes, we could produce LNG. Australia has built five LNG plants, but we’ve done zero, and the United States has built six. In fact, we’re selling cheap natural gas down to United States, which in a sense gets re-exported in LNG. I do think LNG is one potential area, but I can tell you that right now I don’t think there more than one LNG plant will get built in Canada. It’s not entirely clear that the economics are there anymore. We may have missed the boat to a large extent.

In the case of oil and gas, the question is where would Trans Mountain’s oil go to? Well, probably a significant portion of Trans Mountain would go down to California where they need heavy oil. It’s cheapest in terms of transportation costs, and the prices are best. In fact, even though we would get more opportunities in terms of having other options, it’s not entirely clear that we get that much more diversification in the case of Trans Mountain.

In the case of Energy East, what most people in the industry would say is a significant amount of that oil would end up down at the Gulf Coast where you have these huge refineries and large economies of scale.

In other words, even with more pipelines, if we can get them built, a significant part of that oil it would probably end up in the United States anyway. That’s because the transportation costs are cheapest and we have these economies of scale that are associated with heavy oil, for example, so that’s quite significant.

Now, that’s not to say that down the road there won’t be a real interest in Canadian oil by India in particular and China; there may be because they are large importers, and that may happen. So we do get more options if we did have these pipelines built and if we did have LNG built. I did want to say that overcoming this dominance of the United States and energy is not going to be that easy.

Same thing with auto. If the new NAFTA 2.0, or as some people call it 0.8, gets agreed upon, then it’s just going to tie us to the U.S. even more when it comes to auto policy and auto supply chains. I don’t think we’re going to be making demonstrably big changes even with more diversified trade.

We have had some success such as with the forestry industry. At one time we hardly had any tree products going to Asia. I can tell you from some of the COs that tell me, in British Columbia, because of our log export restraint rules, which lead to effectively subsidized wood sold to forest products and pulp and paper mills in British Columbia because it forces the price of trees down, it’s more difficult to export trees to Asia. The companies aren’t able to get the economies of scale where they could take advantage of higher prices because they’re limited in how many exports they can sell to the rest of Asia. So we need to make a whole bunch of changes if we really want to take advantage of other markets. I think those changes would be helpful, but it’s a lot more complicated than what people actually think is how we achieve trade diversification. Treaties aren’t going to be the only solution.

Senator Tkachuk: Mr. Macklem, if you have any influence at all on the committee you said, things like the Infrastructure Bank and superclusters aren’t the way to go to build the Canadian economy to be competitive. We do need to get rid of interprovincial trade barriers. We need a national security regulator. We need to be able to move our product outside our country and not have it stopped in Alberta and Saskatchewan. Those are the kinds of things we need to do to improve our productivity.

The Canadian dollar is 75 or 76 cents. If we’re going to have increased productivity — I mean, we’re subsidizing our exporters. We need to have higher commodity prices to have a higher dollar. That’s what the bank told us the last time they were here. But how high do commodity prices have to go before the Canadian dollar is at, say, 80 or 85 cents, where it sits where I think it should be? But 74, 75, 76 cents? There’s no way we’re going to increase productivity with a dollar like that sitting next to a huge border with the United States of 5,000 miles.

Mr. Macklem: Well, I’ll let the Bank of Canada speak for itself, but on the issue of the link between productivity and the exchange rate, I think the causation is more in the other direction. The reason our dollar is around 75 cents is because we’re about 75 per cent as productive as the United States. If we want a stronger economy, we want a stronger Canadian dollar, we have to improve our competitiveness and productivity, and you’ll see that, you’ll see those things come closer into line.

Senator Tkachuk: It’s not commodity prices?

Mr. Macklem: We just can’t compete. If we’re at parity with the United States, we’re just so uncompetitive with them. That’s the problem.

Mr. Mintz: I agree with Tiff. To me the exchange rate is a price. Prices are determined by supply and demand. A low exchange rate is not a subsidy to exporters per se. I would say it is a sign of our competitiveness problems. We forget that when the exchange rate is low we are poorer as a country because our purchasing power for buying goods and services elsewhere is more expensive, and so our real incomes are actually lower. In fact, as a country, I’m much less worried about having a high dollar than a low dollar because a high dollar is a sign of strength and a low dollar is a sign of a lack of strength. It is due to a lack of productivity, which is the basic problem.

One other very quick point we have to remember is that when our dollar is low, it creates more pressure on brain drain to the United States, which we haven’t yet seen because the data is just starting, but when we have very high personal tax rates as we do in this country and a low dollar — that’s what we had in the 1990s. We had a number of areas where we had very important brain drain problems, whether it was doctors or entrepreneurs or others who decided it was much better to be in the U.S. because salaries and other things were better. We might be attracting some more Microsoft and Google jobs in Canada, but it’s the typical thing that happened years ago with manufacturing and other sectors. It’s investments in low wages in Canada that they’re taking advantage of. So in Vancouver they’re paying a salary of $50,000, when across the border in Seattle they might be paying twice that much. To me that’s a serious issue because it really is an indicator that our standard of living is hurt by this lack of productivity that we have.

The Chair: Mr. Mercury, anything you wish to add to that?

Mr. Mercury: Just a small point because I do believe this is very productivity-driven. To take a slightly different approach, I do think you’re seeing more young Canadians travelling and now working in the United States. I think there’s more of an effort on the part of U.S. players, be they corporations or firms or funds, to recruit in Canada. I think that’s a very real phenomenon that is not going to go away. That will pick up momentum, and they’re taking some of our best people, some of whom this country has already invested in through great universities and so forth. It’s a real issue and a foreseeable outcome and something that we need to address.

The Chair: It’s my privilege now to thank you, Dr. Mintz, Dean Macklem and Mr. Mercury. We had slated an hour and we’ve gone two because it’s been too valuable to the committee. Thank you all. We’re indebted to you all. We’re going to call on you again. Thank you.

(The committee adjourned.)