Proceedings of the Standing Senate Committee on
National Finance
Issue 6 - Evidence, April 20, 2004
OTTAWA, Tuesday, April 20, 2004
The Standing Senate Committee on National Finance met this day at 9:30 a.m. to examine the Main Estimates for the fiscal year ending March 31, 2005.
Senator Lowell Murray (Chairman) in the Chair.
[English]
The Chairman: Honourable senators, in the context of the reference on the 2004-05 Main Estimates, we are continuing our renewed study on federal equalization policy and program. This morning, we will hear from two of the recipient provinces: first, Newfoundland and Labrador, and then Prince Edward Island.
Our principal witness from Newfoundland and Labrador this morning was to have been the Honourable Loyola Sullivan, the Minister of Finance of that province; however, as honourable senators will know, the government there is fully occupied with a public service strike. As such, Mr. Sullivan, who is both the Minister of Finance and the President of the Treasury Board, did not think it was prudent for him to be out of the province at this time. With regret, he has asked to be excused.
However, he has sent the Deputy Minister of Finance, Mr. Terry Paddon, who is not a stranger to this committee. The last time we considered equalization, Mr. Paddon was here with the Minister of Finance of the day, so we have some institutional memory and some continuity here. I presume there is not much change in the overall policy of Newfoundland and Labrador about equalization, but we shall see.
Please proceed, Mr. Paddon.
Mr. Terry Paddon, Deputy Minister of Finance, Government of Newfoundland and Labrador: Mr. Chairman, just to reiterate your comments, Minister Sullivan regrets that he cannot make it here today. Obviously, the issue of labour relations in the province has taken the priority of his time.
Minister Sullivan feels strongly about this issue — which is why he wishes he were here — and has asked me to pass on his comments. I wish to thank the committee for accommodating his request to have me appear.
We have provided a comprehensive brief on the issue. I shall speak to its highlights in my opening comments.
The 2004 equalization renewal is a missed opportunity to deal in a meaningful way with the concerns expressed by provinces, finance ministers and premiers since 1998. Furthermore, there is no indication that the federal government has any intention of addressing these concerns in the next renewal schedule for 2009, or at any other time in the foreseeable future.
The long-term deficit trend confronted by equalization-recipient provinces compared to that of the federal government is proof that the equalization payments are insufficient. It is the role of the federal government to ensure that provinces have the financial resources to deliver comparable levels of public services at comparable levels of taxation. This is what the Constitution mandates.
The inadequacy of the current equalization program is a reflection of the fiscal imbalance between the federal government and the provinces. Provinces have greater expenditure responsibilities and lesser revenue-raising capacity while the opposite is true for the federal government. Filling the gap that exists between what a province can reasonably raise from its own tax revenue and the amount of revenue necessary to fund public services to comparable levels is the role of the transfer system, particularly equalization.
This gap has been widening, particularly since the mid-1990s, driven in large part by the dramatic escalation in health care costs. While provincial revenues have been growing in line with the economy, the rising costs of public services have been outpacing this revenue growth.
The federal government cut cash social transfers by one third after 1994-95, and they were restored only slowly; it was not until 2002-03 that they returned to the levels of 1994-95. During this period, provincial health costs rose by over 60 per cent. Equalization entitlements rose, but by 2002-03 fell back to roughly the same level they were in 1994- 95. For 2003-04, they were 2 per cent higher than in 1994-95.
In 2003-04, cash transfers from equalization and CHST were $3.3 billion higher than in 1994-95. Health care costs are $29.6 billion higher. Provinces have had to fund the remaining $26.3 billion annually from their own resources.
The federal government will see revenue growth exceed its expenditure requirements well into the foreseeable future, resulting in burgeoning surpluses that see no end in sight. A study released in February by the Conference Board of Canada, entitled "Fiscal Prospects for the Federal and Provincial/Territorial Governments," projected the surplus and deficit positions of the two orders of government out to 2019-20. The study concludes that "while the federal government is set to eliminate its interest-bearing debt through even-greater surpluses, reaching $78 billion by 2019-20, the provinces and territories will remain in a deficit position throughout the forecast period." The study went on to say that with current fiscal regimes in place, only the federal government will have the financial capacity to pay down its debt and implement new initiatives; in contrast, the provinces and territories will not have the capacity to implement new policy initiatives over the next 17 years.
This outlines the fiscal prospects faced by provinces collectively. If the numbers were disaggregated, the situation for the fiscally weaker provinces, the equalization recipients, would be that much more strained. Those with the weakest financial positions, like Newfoundland and Labrador, face the most uncertain fiscal futures.
The study shows that the federal government is well positioned financially to alleviate, in large part, the fiscal pressures faced by provinces. Of the two mechanisms presently in place to do this, the cash social transfers can contribute to the solution, but they cannot be the only solution since they distribute federal cash transfers on an equal per capita basis. For example, $1 billion put into social transfers by the federal government amounts to only $16 million for Newfoundland and Labrador. As long as funds are distributed on an equal per capita basis, the federal government will never be able to put enough money into the social transfers to be able to alleviate the fiscal imbalance pressures faced by this province or others with relatively small populations.
The other mechanism available is the equalization program. Since the mid-1990s, the federal government has been ignoring the need for strengthening the equalization program. Equalization has been declining as a percentage of federal revenues and gross domestic product.
The facts do not support any rationale to ignore the need to strengthen the equalization program on an ongoing basis. The federal government has been deficit-free for seven consecutive years, beginning in 1997-98, the year before cash transfers to provinces bottomed out. In 2003-04, federal revenues were almost $60 billion higher than in 1994-95, a 50 per cent increase. Equalization entitlements, at $8.8 billion, represent about 6 per cent of federal program spending in 2003-04 versus 7.5 per cent in 1994-95. This suggests that strengthening the equalization has been overlooked for too long, and that the federal government has the fiscal flexibility to redress the inadequacy of the program.
Newfoundland and Labrador does not accept any argument that equalization declines nationally reflect a narrowing of the fiscal capacity gap between the have and have-not provinces. The measurement of the gap is artificially low because the five-province standard that recipient provinces are equalized up to is artificially low and all provincial revenues are not included in the measurement of fiscal capacity.
The issue of adequacy goes beyond the standard and revenue coverage. If any equalization recipient province is successful in growing its economy, the revenues that accrue to the provincial government are for the most part offset by declines in equalization. This leaves a province unable to capitalize on economic growth because the province is left so little better off in terms of financial resources to reinvest in the province. The only way to narrow the social and economic gap that exists between provinces on a permanent basis is to increase the level of financial support the federal government provides to have-not provinces. Equalization may not be the only vehicle that needs to be utilized for the delivery of these financial services, but it is capable of making a more significant contribution than it is at present.
Newfoundland and Labrador suspects that one of the great sources of inadequacy in the present equalization system is that it assumes that if provinces have comparable per capita revenues they should be able to deliver comparable services with comparable taxation. This focus on revenue equalization completely ignores the expenditure side of the budgetary equation and the fact that there may be real differences in the costs of delivering services between provinces. Other countries include these cost differentials in determining the amount of equalization paid to their sub-national units. This issue of expenditure need deserves closer examination to determine its potential applicability in the Canadian context. Newfoundland and Labrador would welcome such an examination.
While consideration of expenditure need is a longer-term exercise, there are practical ways to address the adequacy shortcomings of equalization now. The two that have been advocated consistently by provincial premiers and finance ministers are a return to the 10-province national average standard and a return to comprehensive revenue coverage, notably for user fees. The 10-province standard was replaced by a five-province standard in 1982. The five-province standard removes Alberta and the Atlantic provinces from the computation of the standard. The fiscal capacity of Alberta has always exceeded in relative terms the deficiency in fiscal capacity of the Atlantic provinces. This means that the 10-province national average standard has always been higher than the five-province standard imposed by federal government. The effect of this has been to lower entitlements for recipient provinces from what they otherwise would be by an average of $1.7 billion annually since 1982-83.
The five-province standard also distorts the weighting of the standard by significantly under-representing one of the most important sectors of the Canadian economy, the petroleum sector. This makes the standard less reflective of the Canadian economy and over-weights the influence of the industrial economies of Central Canada.
Currently, Ontario accounts for approximately 50 per cent of the five-province standard, with Quebec adding another 25 per cent. This shows how susceptible the five-province standard is to the economic performance of just two provinces, particularly Ontario. Under a 10-province standard, Alberta would account for more than 15 per cent of the standard and the Atlantic provinces just under 5 per cent. The impact of Ontario would fall from 50 per cent to 40. Quebec would fall from 25 per cent to 20 per cent. Combined, these two provinces drop from 75 per cent to closer to 60 per cent, more in line with their share of GDP and population.
Provinces are not insensitive to the cost to the federal government of moving to a 10-province standard and recognize that the cost at the present time is at historic highs. This province would consider measures to mitigate the short-term cost increases through a phase-in or similar mechanism.
The federal government also points to increased volatility brought on by including more petroleum revenues as a reason not to return to the 10-province standard. The new stability and predictability measures proposed for the program by the federal government as part of the 2004 renewal would, to a large extent, mitigate this concern. As a result, Newfoundland and Labrador does not believe volatility is a real impediment to the 10-province standard at this time.
Another measure that offers a practical option to improve the adequacy of the equalization program is a return to comprehensive revenue coverage. Comprehensive revenue coverage is one of the principles underlying the equalization program, holding that all sources of provincial revenue should be included in the measurement of fiscal capacity. This principle was compromised in the 1999 renewal when the federal government questioned whether provincial fees and licences, referred to as user fees, gave rise to fiscal disparities. The federal view in 1999 was that user fees were not akin to taxes but were more akin to commercial transactions where provinces were attempting to recoup the costs of providing certain services from users by way of charging fees. The federal view is that the only portion of any fee that should be subject to equalization is any profit element when the fee charge exceeds the cost of providing the service.
The equalization-recipient provinces disagree strongly with that view. Provinces hold that user fees are just another tax source, the same from a revenue-generation standpoint as income, consumption or any other form of taxation. In 1999, the provinces asked that the removal of user fees be deferred until more analysis could be done. The federal government persisted and removed 50 per cent of user fees from the formula at that time. Most of the remaining 50 per cent was expected to be removed in the 2004 renewal; however, contrary to expectations, this did not happen. Recipient provinces are pleased this did not happen but at the same time are concerned about what this holds for the future. It is the view of Newfoundland and Labrador that the remaining user fees should not be removed from the formula and that, consistent with the principle of comprehensive revenue coverage, all users fees should be reinstated.
Of the issues examined during the 2004 renewal, there were several changes proposed in the renewal package that Newfoundland and Labrador supports, some that it does not and some that it reserves judgement on. We support the proposed changes to the personal income tax base, the hospital and medical insurance premiums and the commercial motor vehicle licences base. Perhaps the single most important change proposed is to the property tax base, the second largest base in the equalization formula, which generates $2.5 billion in entitlements for recipient provinces. The need for changes to that base has been widely recognized for some time. The focus is on moving from a proxy base to a base that better reflects the actual taxing practices of provinces. Most of the analysis centred around two options. The option that seemed to have the most provincial support was a simple market value approach. The federal government favoured a stratified market value approach.
However, in the renewal package, the federal government proposed a market price deflator option that, for the most part, was new to provinces and was not analyzed in any detail during the renewal discussions. Because it represents such a significant change to such a major base, the renewal proposes to split the base 50/50 between the new and old base until the next renewal. Newfoundland and Labrador would have preferred the simple market value approach. However, we have to reserve judgement on the federal proposal until some analysis is completed on this option.
The base change that Newfoundland and Labrador shares considerable concern over, along with other provinces, is the mineral resources tax base. Major changes were made in this base in the 1999 renewal when the federal government adopted an economic rent approach to measuring fiscal capacity. Provinces at that time advised against this for a number of reasons and were quite sceptical about the practicality of the federal proposal. Events since the 1999 renewal have shown that the skepticism was justified. The 2004 renewal tinkers with the new base in an attempt to overcome some of the more obvious shortcomings.
Newfoundland and Labrador, along with other provinces, believe the new base is fatally flawed. We have no confidence that the economic rent approach can correctly measure fiscal capacity. Hence, Newfoundland and Labrador does not support the renewal proposal to continue to use the new base even in a modified form. Our preferred option would be to return to the former bases, as we believe they have a greater measurement of fiscal capacity.
Professor Thomas Courshene, who I understand is addressing this committee later on, addresses the new mineral resource base in his recent paper, entitled "Confiscatory Equalization: The Intriguing Case of Saskatchewan's Vanishing Energy Revenues." In referring to the new economic rent approach, he states: "It is anything but obvious that this is an appropriate tax base for total revenue minerals. The tax base must be rethought." The federal government has expressed a desire to apply the same economic rent concept to other natural resource bases, notably petroleum. It has indicated that these bases are a priority for review during the 2009 renewal. Newfoundland and Labrador supports an examination of natural resource bases but would prefer to see the economic rent approach abandoned.
Something new being added by the federal government to the equalization program in the 2004 renewal is a measure to make equalization payments more stable and predictable. This is to be accomplished by using a three-year, moving average of entitlements to compute annual payments, together with an adjustment factor of 10 percent added on to account for using old data to calculate equalization entitlements.
Newfoundland and Labrador believes the objective of improving stability and predictability is laudable and that the federal government deserves credit for tackling this complex issue. The province does have reservations, however, about how the new system will work in practice. The new system is adding a degree of complexity to the already complicated calculation of annual payments. There is also concern about the lag in responsiveness to entitlements to changing provincial fiscal circumstances. The plan has been modified to try to account for volatility in natural resource revenues by allowing provinces to adjust their payments to respond to in-year resource revenue changes. However, more analysis is needed on this proposal.
Overall, as a result of the 2004 renewal, four provinces with the lowest fiscal capacity to generate their own revenues, the Atlantic provinces, see no net gains as a region from the renewal base changes. The new stability and predictability package measures designed by the federal government to smooth the volatility in annual entitlements may have a modest positive impact on the region, although this is difficult to determine at this point in time. For Newfoundland and Labrador, the base changes are projected to be neutral on annual entitlements. Measures to strengthen the program, as requested by provincial premiers and finance ministers, are conspicuous by their absence.
An ad hoc feature to the renewal is the provision of a one-time payment to receiving provinces in years one and two of the renewal — $150 million in year one and $25 million in year two. This is to be distributed on an equal per capita basis. While any incremental funding is appreciated, this was done without any prior consultation with the provinces. Newfoundland and Labrador would have preferred to have an opportunity to make a case for a different allocation method. These monies could have been distributed on the basis of the share of current entitlements paid to each of the receiving provinces. This would have been more consistent with the rationale for making the payment, while recognizing that the phase-in of the renewal package, particularly the predictability and stability measures, would not commence until 2005-06. Equal per capita distribution cut the share of the $175 million allocated to Newfoundland and Labrador from about $14 million to $5.5 million.
Coincident with the renewal process, provinces and territories have experienced a series of transfer shocks that have reduced entitlements for both equalization and CHST. These shocks have resulted in provinces having huge liabilities for transfer overpayments that must be repaid to the federal government. A Statistics Canada methodological change in the way residential capital stock is measured in the property tax base resulted in a negative impact on Quebec of about $650 million. This was converted into a loan repayable over five years. This was followed by the release of 2001 census data in the fall of 2003 that led to significant redistribution of transfer entitlements. Provinces and territories have to repay about $950 million in related overpayments over a five-year period commencing in 2005-06.
Updates to income tax collection data for 2002 reveal that revenues previously forecast were too high and had to be revised downward. This resulted in negative adjustments to equalization and CHST totalling $1.8 billion. Again, this was converted into loans repayable over a five-year period.
Finally, an issue arose over the $1.7 billion fall in equalization entitlements some provinces will experience in 2004- 05 compared to recent years. Provinces will have the ability to convert this shortfall in their current entitlements into another interest-free loan payable over five years. The reason for detailing this is to point out that provinces and territories have to repay about $5 billion over the next five years or so to the federal government for transfer overpayments. When the federal government says that the 2004 renewal package will increase entitlements to provinces by $1.5 billion in total over a five-year period, this in reality simply reduces the amount of money provinces have to find elsewhere to make loan repayments from $5 billion down to $3.5 billion. Having to make these repayments also severely reduces the net amount of new funding provinces will actually realize from any increase in the Canada Health Transfer for health care.
Given that nine of the 10 provinces look like they will record a cumulative deficit in 2003-04 before withdrawals from stabilization funds in the range of $9 billion and that the Conference Board report projects large aggregate provincial deficits well into the foreseeable future, it is obvious that provinces are not well positioned to repay billions of dollars in transfers to the federal government. While loans are a welcome alternative to immediate recovery of outstanding balances, given the relative state of federal versus provincial finances, some measure of forgiveness would seem more reasonable in the circumstances.
It would be difficult to appear before the Senate committee without talking about the Atlantic accord and offshore resources in Newfoundland. Newfoundland is pleased to see that the renewal includes a change the province requested to the election mechanism related to its offshore revenue base. Previously, this election had to be made before the data was available to make an informed choice. Now the election can be made after more complete information is available.
The renewal also reset the clock on the Nova Scotia accord, which had expired, allowing that province to start their accord equalization offset provisions again from year one at a later date than when it was originally triggered. The rationale given by the federal government is that this change recognized that Nova Scotia did not receive the expected benefits as the flow of offshore revenues turned out to be lower than originally expected. Newfoundland and Labrador is in a similar situation in regard to its expected offshore benefits being lower than originally expected.
The equalization offset provisions in the Atlantic accord were designed based on assumptions that offshore projects would be developed in fairly rapid succession after one another and that oil prices would continue to rise from levels that were already quite high at the time. At the time the accord was signed, the province expected to be off equalization in a few years. Neither of these assumptions has turned out to be correct.
Because of this, the benefits from the offshore that were expected to flow to Newfoundland and Labrador and form the backdrop for the Atlantic accord will not materialize during the term of the accord. This requires a re-examination of the accord to ensure that the net benefits the province will receive are consistent with the original expectation.
Finally, the Province of Newfoundland and Labrador wishes to express its appreciation to the Standing Senate Committee on National Finance for the invitation to present our views on equalization transfers in this national forum. The province would also like to acknowledge the significant contribution to the national debate on transfers made by the committee with the March 2002 release of the committee report on the effectiveness and possible improvements to the present equalization policy. The province is generally supportive of the recommendations made in that report and was pleased that the federal government acted on several of them, including removing the ceiling and not adopting the macro approach in maintaining the program floor. We await federal action on several others, including restoring the 10-province standard to change the generic solution to include the protection for provincial non-renewal resource revenues and to undertake an evaluation of the equalization provisions of the offshore accords to ensure they meet their intent. These recommendations are just as timely in 2004 as they were in 2002.
Senator Comeau: Mr. Paddon, I wanted to zero in on the question of the equalization formula — I would love to — but it is so darn complicated that I get lost in the numbers sometimes. That brings me to my question. Because of the complication, Professor Lazar proposed to us that one possible way we should approach equalization transfers to provinces and so on is that we should be meeting the objectives or the intent of what equalization was all about, that is, to provide a reasonable level of services to all the provinces. The formula is only a means to get there. I may be paraphrasing here, but his intent was to look at whether the objectives are being met, that the formula is strictly a means to get there. An example is to put performance evaluators on whether we are meeting the objective of equal services. He has been proposing what has been tried in other jurisdictions — Australia, South Africa and I believe India. They have independent commissions that look at the performance of the equalization program. Their recommendations become part of the mechanism.
What would be your take on this? Should we look at the concept of an independent commission to look at the performance of equalization rather than the mechanics of equalization?
Mr. Paddon: I think it would be fair to say that we would support any process that would look at an evaluation of the results of the program, whether through an independent commission or through the continuation of the same process we have right now, which is a dialogue between both levels of government.
I am not sure we have a view on which would be preferable. I guess the independent commission would have that element of independence and may be a better way to go, but we have had some reasonably good relationships between the federal government and ourselves.
The real point that I would pick up on is the notion of the need to evaluate whether the program is achieving the objectives as set out in the Constitution. If you look at the standards that are talked about, which is reasonably comparable levels of services and taxation, if you were to ask anybody in the province to Newfoundland whether we have reasonably comparable levels of taxation the answer would be a resounding no, particularly on the income tax side. If you were to ask anybody in our province whether we have reasonably comparative levels of services, they would probably say no, but it is more difficult to objectively measure service levels between different jurisdictions. However, on the tax side, it is easier to be objective — it is possible to look at tax rates and determine whether you are better or worse off.
Certainly, we would welcome some process that would go from the back end, looking at the objectives and saying have the objectives been met.
Senator Comeau: This is one of the areas that this committee may want to pursue further. I believe we will have some witnesses who will provide us with more information on this subject.
On the question of the renewal, you mentioned the 2004 renewal, which is now, as I understand it, part of the budget paper submitted a couple of weeks ago. My impression was that the renewal was not set to go, that the talks were still ongoing with the provinces on the new equalization mechanics. Suddenly, this disappeared in the budget paper, and there had been no real agreement between the province and the feds. It is there in the budget papers now until 2009.
Am I reading it that somehow there was an agreement on the renewal?
Mr. Paddon: It is fair to say that the equalization program is a federal program, so it does not necessarily come down to whether there is an agreement or not. There is a process of consultation that has occurred over the past five years, and a number of the technical issues have been discussed with both levels of government.
There had been a meeting of finance ministers in January or February, in which some of the issues that were outstanding were reviewed. At that point, there were still a number of outstanding issues. Ministers were still concerned that the federal government had not adequately addressed the issue of the 10-province standard and the revenue coverage, and they hoped to see some movement on that issue.
A number of technical issues were revealed to the provinces shortly before budget day, which we have not had a chance to properly or appropriately analyze or discuss with the federal government. That process was a little frustrating — in other words, hearing about it at the last moment.
My minister is more concerned about a commitment to take a fairly substantial look at the issue of the standard in this round of renewal. From our perspective, we have not had the level of debate and discussion we thought we would get.
Senator Comeau: One thing that bothers me with the way the equalization formula seems to work is that we now have the 2004-09 mechanics in place, but yet I have been reading in the newspapers that the Prime Minister intends to discuss the health issue, the question of health funding, over the summer months. We still do not have this 10-province standard accommodated, and there is the question of even meeting the constitutional objectives, and yet we are talking about having over the coming months what should be probably a part of the equalization formula. It seems to be going ad hoc, tackling one issue at a time rather than tackling what should be the constitutional objective.
Mr. Paddon: In Newfoundland and Labrador, we view equalization as the program that is predominantly providing the lion's share of funding for health care in our province. We would like to see both transfer programs, or three transfer programs now, looked at in lock step. Health care in our province costs about $1.6 billion. The CHST — the combined CHT and CST — basically give just over $400 million. Therefore, only a small percentage of our health care funding comes from that source.
Equalization is the prime funding mechanism from the federal government that we see for health care. Clearly, we would have liked to see the adequacy issue of the equalization program dealt with more fundamentally in this renewal to allow us to more appropriately use that to fund health care in the province. We have lost the window of opportunity now, and we have to wait until 2009 to see any substantive change in that program.
Senator Comeau: Is the health care discussion this summer, even though it is an equalization issue, done outside of equalization?
Mr. Paddon: From our perspective, equalization funds the lion's share of health care. Clearly, the Canada Health Transfer is the dedicated transfer now that is provided for health care. One would presume that the discussions that will take place over the summer, in terms of whatever discussions might occur on funding, would be related to that transfer.
Senator Comeau: Rather than equalization.
Regarding the Atlantic accord, I believe there was the Nova Scotia accord and then there was the Newfoundland one. I am going from memory. I believe the Nova Scotia one was done prior to the Newfoundland. You can correct me if I'm wrong.
Mr. Paddon: It was the other way around.
Senator Comeau: Okay. My understanding is that Nova Scotia agreed to the accord and agreed to drop the 25 per cent crown share in exchange for some certain benefits on the equalization. If memory serves me, it would get added benefits under equalization — that it would not be taxed as quickly.
Mr. Paddon: I would not want to speak on behalf of Nova Scotia.
Senator Comeau: I am trying to get to the point of whether Newfoundland had a similar provision that basically was disregarded later on.
Mr. Paddon: Newfoundland did not have the same crown share adjustment provision that Nova Scotia ended up with in its accord. The equalization offset mechanisms in the Newfoundland and Nova Scotia accords are different. It is difficult to compare both accords.
Both accords did recognize that equalization was going to be a problem. I suppose our expectation back in the mid- 1980s when the accords were signed was that revenues were going to spike dramatically from our offshore resources and that we would be off equalization quickly. We wanted a mechanism in place to phase out the dramatic fall-off in equalization. That is really the way the offset provisions were put in place to reflect that.
Senator Ringuette: We have heard much about the 10-province standard in the last few months. Have you done a model of the outcome of using the 10-province standard — because Alberta would be in this scenario — also removing the special agreement with Newfoundland and Nova Scotia in regards to offshore revenues? Have you looked at that scenario?
Mr. Paddon: If we went to a 10-province standard, what would be the impact on Newfoundland and Labrador; is that your question?
Senator Ringuette: If you include the oil revenue from Alberta in establishing the standards, then you would also have to include all the revenues from offshore for Newfoundland, in order to have everyone in the standard. There would be no special agreement in regard to Newfoundland and Nova Scotia. Have you run that scenario?
Mr. Paddon: I am not sure it is true that you would not have a special agreement with Newfoundland and Labrador and Nova Scotia. You could still have a 10-province standard and special agreement with the two provinces.
Senator Ringuette: In other words, having your cake and eating it too, as they say.
Mr. Paddon: There are two separate issues, as we see it. From an equalization perspective, you have to look at the constitutional commitment — that is, to ensure that we have adequate revenues to provide adequate services. We see the 10-province standard as the only way of achieving that objective. If you went to a 10-province standard, it would result for Newfoundland and Labrador this year in about another $150 million in equalization revenue.
Senator Ringuette: If you removed the special agreement related to offshore, what would be the result?
Mr. Paddon: If memory serves me, with respect to the Atlantic accord, we will probably receive in the range of $120 million to $150 million this year.
Senator Ringuette: There would be a difference of maybe $25 million to $30 million; correct?
Mr. Paddon: That is if the special Atlantic accord were negated; but it is a separate agreement.
Senator Ringuette: You cannot on the one hand include the revenue from oil and gas from Alberta in the standards and not have the same thing apply to the rest of the provinces.
Mr. Paddon: The 10-province standard would still include the resource revenues from Newfoundland and Labrador and Nova Scotia. The Atlantic accord provision is a mechanism that operates outside the equalization program. It is determined with reference to some of the equalization impacts, but the actual payment of the Atlantic accord is separate from equalization and is paid not by the Department of Finance but by the Department of Natural Resources.
I should also make the point that, in terms of our forecast for resource revenues, 2004-05 may likely be one of the last years that we would see any benefits from the Atlantic accord.
Senator Ringuette: With regard to the additional funding for health care that was reached in the federal 2003 budget — an amount of $34.8 billion — how much has Newfoundland acquired from that money? How much are you getting and how much have you used?
Mr. Paddon: Our share of the CHST is about 1.6 per cent of the total. It is allocated on a population share, and our share of the national population is 1.6 per cent.
In terms of the new money being put into the CHST, the special funds, exclusive of the additional $2 billion that was agreed to the other month, that money was taken into our revenues last year, in 2003-04, and it was all spent, in 2003- 04.
Senator Ringuette: The additional cash transfers — the $2.5 billion that had been identified to relieve existing pressures and the $16 billion over five years that was to see primary health care, home care, catastrophic coverage — you have already used that money for those programs; is that correct?
Mr. Paddon: There are two components. Some of the money is being flowed over the next five years. Hence, if we did not get the money or we do not have the ability to take the money, we have not used it. We had the ability to take some of the money up front. If we had the ability to take it up front, we took it and used it for health care. Any money that will flow over the next two, three or five years that we cannot take now, we will spend it in over that period of time. If we had the flexibility to take it early, we took it early, because of the funding pressures we had in health care.
Senator Ringuette: In terms of the $16 billion that is targeted over five years, you are saying that on a yearly basis you took what was available. Hence, I imagine that you have put in place a primary health care, home care and catastrophic drug coverage system; am I correct?
Mr. Paddon: In terms of primary health care, our Department of Health and Community Services is currently putting forward recommendations to achieve primary health care reform. In terms of catastrophic drugs, that program is in the process of being developed; with respect to home care, we have had a home care program for quite some time.
Senator Ringuette: We have also heard from Professor Lazar that there is an additional cost to provide services for rural communities or populations that are greatly disparate in comparison to large urban centres where the population density would reduce the cost per capita. Has that element been discussed during the federal-provincial talks?
Mr. Paddon: This speaks to the issue of expenditure need that I spoke to briefly in my remarks.
Newfoundland and Labrador believes that this issue needs to be looked at more closely. It is a complicated issue when you start to measure the relative needs of one province over the others. We would argue that population density is an issue that should be looked at. We have a large province, but the population is spread over a wide geographic area. That is only one element; there are other issues that get to need as well that need to be addressed.
It is my understanding that part of moving forward to the next renewal that is one of the issues that is on the table for substantial review between the federal government and the provinces, and we are looking forward to making some headway in that area.
Senator Doody: On the 10-province standard, the federal government has always taken the stand that the wild fluctuations in the Alberta oil revenues are such that they cause too much uncertainty in the program. Does that not bother you?
Mr. Paddon: We have been relatively sensitive to that issue. We would have been happy to include measures that would limit or smooth out the volatility. One of the proposals in the 2004 renewal package is a three-year moving average that, by design, is intended to smooth equalization entitlements and reduce some of the volatility. There is now an automatic, built-in mechanism in the program that would help mitigate some of the volatility issues. If there was something else that needed to be looked at to smooth or take away some of that volatility, we would be happy to look at it, because we do recognize that it is an issue.
Senator Doody: You still prefer the 10-province standard.
Mr. Paddon: Absolutely.
Senator Doody: I thought you would. How badly did the economic downturn in Ontario hurt the Province of Newfoundland in terms of fiscal transfers?
Mr. Paddon: If you look at the equalization entitlements in 2001-02, in total they were almost $11 billion. In 2003- 04, they are down to $8.7 billion. The reduction in transfers over that two-year period had about a $300 million impact on Newfoundland and Labrador.
Senator Doody: Is there no way you can cushion that? Is there no floor?
Mr. Paddon: There is a floor. There is no doubt that we have some redress through the Atlantic accord payments. It has mitigated some of that downturn. Again, with the Atlantic accord, the way our modelling looks, the impact will be almost negated by the time next year rolls around.
Senator Doody: I get nervous when you start talking about the Atlantic accord and equalization in the same breath. The equalization is a constitutional commitment, and the Atlantic accord is a negotiated agreement between the provinces and the federal government. Admittedly, the federal government won the accord case, and they had a lot of heavy cards when you were trying to negotiate. There is nothing new about that.
How many fields are actively in production on the offshore? You have Hibernia.
Mr. Paddon: Hibernia and Terra Nova are actively producing right now. The White Rose field is currently being developed and is expected to come on stream in early 2006. The construction of the production vessel and development of the wells themselves is actively being done now.
Senator Doody: How long will production last? How long can the province expect economic results from the offshore?
Mr. Paddon: We are probably looking at a 20-year time horizon based on the existing fields.
Senator Doody: Are there any immediate prospects of anything new?
Mr. Paddon: The Hebron field is the other field yet to be developed, but there has been no sanction for that field to go ahead by the companies that would operate the field.
Senator Doody: Despite the commitment of the Government of Canada in its agreement with the province, namely, that the majority of the economic benefits of the offshore oil would flow to Newfoundland, nevertheless, for the next 20 years, 80 per cent of the fiscal benefits under the current agreement will still go to Ottawa.
Mr. Paddon: That is right.
Senator Doody: That is unconscionable. You say that you have to live with the current arrangements until 2009 for the equalization, for the agreement?
Mr. Paddon: It is a five-year renewal.
Senator Doody: Can the Government of Canada not change that any time it wants to? It is not an agreement but a program.
Mr. Paddon: It is a legislated program, so one would presume that if change were warranted or needed one could go to the legislature.
Senator Doody: I assume you will be pressing your case for a more equitable deal.
Mr. Paddon: That would be a fair assumption.
[Translation]
Senator Ferretti Barth: The equalization program, which I find very complicated, has been keeping me awake nights for a long time. I am trying to comprehend the standards that define it. However, year after year, we come back with the same questions over and over, due to the fact that the provincial ministers are displeased because the payments are inadequate.
In 2003, the provincial finance ministers asked the federal government to come back to the ten-province standard. What advantage would there be for Newfoundland and Labrador if the equalization program were to be calculated on a ten-year basis, rather than five years, as is the case at the moment?
[English]
Mr. Paddon: If we went to a 10-province standard, we would get about $150 million in additional equalization payments, per year.
[Translation]
Senator Ferretti Barth: What do you think of the vertical system? If the federal government offers the equalization program to the provinces, it will end up with a horizontal system. Would you like to see that? Does this amendment meet the needs of all the provinces?
[English]
Mr. Paddon: If you look at both the horizontal and vertical fiscal imbalances, you have to look at them separately. On the horizontal imbalance, clearly we see an inadequate program currently, so it is not addressing the fiscal disparity needs among all the provinces. We would see three things needed to get to a more adequate program. The first would be the 10-province standard; the second would be to ensure that the comprehensive revenue coverage principle is adhered to; and third, we would like to see an examination of this expenditure need component talked about earlier, rather than just focusing on revenue, to look at need or cost of delivering services to see if there is something that should be done there. If those three things were done, we would think that the horizontal issues would be reasonably taken care of.
In terms of the vertical fiscal imbalance, the imbalance that exists between the provinces and the federal government, clearly, when you look at the Conference Board of Canada report and project out into the future, the federal government will be in a far better position fiscally to be able to address needs, particularly as it concerns health care, into the foreseeable future. The provinces at this point, given the pressures we have, will not be in a position to be able to substantively fund rising costs, particularly in health care, which over the last five to seven years have risen dramatically. Whether they will rise at the same level over the next number of years, I do not know. If you look at the demographics, particularly in Newfoundland and Labrador, we have a rapidly aging population. We will see that health care costs will continue to be a large consumer of program spending dollars, and without some more substantive assistance from the federal government, it will be more and more difficult to address those needs.
The Chairman: Thank you very much, Mr. Paddon, for attending today, and thank you for a very comprehensive statement of your province's position on this important matter. We hope that you will have an early solution to the public service strike in Newfoundland and Labrador, one way or the other.
Mr. Paddon: Let us hope so. Thank you.
The Chairman: We invite the Mr. Mitchell Murphy to the table. He has come unaccompanied by advisors or aides.
Mr. Mitchell Murphy, Provincial Treasurer, Government of Prince Edward Island: It is a reflection of the fiscal situation we find ourselves in in Prince Edward Island.
The Chairman: It probably befits a minister who has served in as many portfolios as you have in the past eight years or so, since you entered the legislature. I see from your biography that you have been Minister of Community Affairs, Attorney General, Minister responsible for Acadian and Francophone Affairs, Government House Leader, Minister of Technology and the Environment and Minister of Agriculture and Forestry. Now you are Provincial Treasurer and also, importantly for anybody who knows anything about Prince Edward Island, Minister responsible for the P.E.I. Harness Racing Commission.
Anyone who has been in Charlottetown during old home week or in Summerside at any time will know how important and how enjoyable those activities are. I actually made some money at the track there, a small amount one time, I am happy to report.
Thank you very much for taking time from the important duties that preoccupy you in Prince Edward Island to come here and help us in our study of equalization. As you know, we undertook this study — actually, it is a renewal of a study we did a while ago — before the new bill came down with the budget documents. Therefore, there is an opportunity for you here to discuss equalization in general, but in the context of the new formula, the renewed formula that will be before Parliament shortly. You have an opening statement, minister, and I invite you to proceed.
Mr. Murphy: Mr. Chairman, I shall try and confine my remarks to 10 minutes. The dialogue with the last presenter was interesting and helpful.
I am certainly pleased to have this opportunity to present the views of Prince Edward Island with respect to the equalization program and equalization renewal.
As has been stated, the inclusion of this program in the Canadian Constitution signifies its extreme importance to all Canadians. My comments this morning will address equalization in the context of federal-provincial fiscal arrangements and what I believe is a growing fiscal imbalance favouring the federal government.
Equalization payments are not, as we so often read in the media, payments from the wealthier provinces to the less wealthy. They come from tax revenues paid for by all Canadians, including those living in Prince Edward Island. Equalization accounts for about 25 per cent of the revenues of our government and is critical to our ability to provide quality health, education and other important public services.
In our most recent discussions with the federal Minister of Finance, the provinces asked for three significant changes to the program: a return to the 10-province standard; a lifting of the cap on the revenue coverage; and removal of the volatility of program payments. While there has been some effort to reduce the volatility of payments, we received a flat rejection of the return to a 10-province standard and a restoration of full revenue coverage. The federal reasoning is simply that they cannot afford to honour our request.
In my view, federal affordability is a relative concept that has changed over time. No one is advocating a return to high federal deficits and a ballooning debt load. This was the situation when the five-province standard was introduced in 1982, when oil price shocks of the 1970s created an environment where unduly rapid growth and unanticipated increases in program costs were genuine risks. Equalization was seriously restricted from that time on with the introduction of a five-province standard and the imposition of an annual ceiling. Equalization payments were further hampered with the cap on revenue coverage imposed by the federal government during the 1999 renewal.
Bringing deficits and debt under control dictated tough measures by all governments concerned. We all know it was a balance on how much we could borrow and how high we could raise our taxes to pay the bills. However, the fiscal situation in the country has changed. Certainly, we have been repeatedly told of the federal government success in tackling the national deficit. However, provinces deliver the key social programs in the country, and we were left to deal with the pent-up demand caused by fiscal constraint in health, education and other public services in 1990s.
The improving economy of our province has allowed some of these pressures to be dealt with, but health care funding and others remain. We argue that the federal government has not kept up its share of funding social programs, and given our ability to generate own-source revenues and remain tax competitive, we struggle with the challenge of providing reasonably comparable public services at reasonably comparable levels of taxation.
Given the present state of the federal treasury, I do not accept that a move toward an equalization program that fully meets its constitutional objective is one that depends on the fiscal capacity of Ottawa. Rather, it is one of priority.
Let me focus on reasonable levels of taxation. Some provinces have been criticized by the federal government for taking transfer payments and then lowering taxes. This is not the case in my province, although I wish we were in a position to do so.
The deficit-fighting days of the 1980s and early 1990s led to an increase in tax rates across the country. Today, the federal government and some provinces are lowering taxes for legitimate reasons. Trade agreements such as NAFTA, rulings from the WTO, the proposed FTAA and, domestically, the agreement on internal trade have all been catalysts for jurisdictions at both levels to become more tax competitive. This heightened tax competition has had a negative impact on equalization-recipient provinces.
A province like Prince Edward Island is forced to try to hold the line on taxes to remain competitive in trying to attract new business investment. However, we are less able to meet the threat of tax competition because lower equalization payments driven by lower taxes in provinces with greater fiscal capacity erode our fiscal resources. The result is that we are further disadvantaged in competing for business investment. This, if allowed to continue, over time further widens the gap in fiscal capacity between provinces, not to mention what it does to migration and immigration patterns.
I referred earlier to the rising cost of health care in Prince Edward Island and, indeed, across the country. Much has been said about the increases to the CHST in recent years. While the investment is welcome, it is a long way from establishing the fiscal partnership between the federal government and the provinces that is necessary to address rising health and post-secondary education costs.
We will agree that accountability is important. I would caution, however, that the focus needs to be on improving health care and its fiscal sustainability. There has been much discussion on the federal fiscal role in health care funding. The premiers and territorial leaders believe this to be in the range of 16 to 17 per cent of costs.
We often hear the federal arguments on tax points along with cash transfers being part of the federal transfer. I submit that the tax point position only confuses the debate on the federal government's contribution, and it holds no merit. No reasonable argument can be made that tax points transferred 27 years ago constitute an ongoing federal transfer to the provinces, especially when they form part of provincial own-source revenues. After all, it is the provinces that have levied the relevant taxes over the last 27 years.
On the other hand, it would be just as invalid for the provinces to argue that the tax room given to the federal government under the wartime tax agreements constitute an ongoing provincial transfer to the federal government. By the same token, provinces have not asked that the federal contribution to health care funding be at pre-1977 levels, which were roughly 50/50, because of the increased capacity afforded them through the tax point transfer under established program financing in 1977.
Prince Edward Island is encouraged by the recent acknowledgement that Ottawa must increase its investment in health care funding. However, it must not be solely an exercise in new cost-shared program spending with unilateral federal decisions on what needs to be done. In Prince Edward Island's case, we need to see health care renewal take place in the context of equalization renewal.
In my opinion, equalization is not meeting the test of the Constitution. Federal payments under equalization are about $4.7 billion below budget in 2003-04, following an underexpenditure of $2.4 billion in 2002-03. This is a result of several factors, including the reduced revenue coverage that was put in place in 1999, the impact of revised population estimates, problems with the personal income tax base and economic conditions.
For Prince Edward Island, equalization has dropped from $282.3 million in 2001-02 to $222.4 million and in 2002- 03. We are predicted to receive about $245.7 million this year.
As our largest revenue source, this is a major factor that has caused our deficit to soar. The federal government has chosen to divert equalization dollars into other purposes rather than to address the inadequacy. The recent federal budget included $3.6 billion of additional spending in 2003-04. Essentially, this money was available from the approximate $4.7 billion of underspent equalization dollars.
Of the $3.6 billion, $2.4 billion was paid back to all the provinces under the Canada Health Social Transfer supplement and health services. Effectively, equalization-receiving provinces have given up $4.7 billion that could have been invested in strengthening the equalization program for the return of $2.4 billion to be shared equally among all the provinces. For the recipient provinces, this is a bad trade-off.
In my opinion, the equalization renewal package is seriously deficient and only stabilizes the inadequate. It retains the 5-province standard despite the fact that all the provinces support a 10-province standard, as did this committee in 2001. As is apparent from the 2003-04 payout, the federal concern over the cost of equalization is misplaced. Their concerns over volatility that might be associated with the 10-province standard should be alleviated by their steps to average entitlements.
User fees are held to 50 per cent coverage notwithstanding the provincial consensus that user fees are largely a substitute for taxes and should, if anything, have their coverage improved above the pre-1999 levels.
Technical base improvements are being phased in over far too lengthy a period. The program will continue to deliver inequitable entitlements over several years. Why wait? Some technical fixes are crucial because of serious problems occurring in bases such as the mining tax caused by inadequate analysis of changes introduced in 1999. The personal income tax base must be realigned now that all provinces have adopted a tax on income. The property tax base will be changed but is subject to several arbitrary factors to water down its appropriate measure of fiscal capacity.
The federal Minister of Finance insists on return-of-equalization overpayments resulting from the census impacts. Three issues need to be understood. First, the population estimates are made by a federal agency, Statistics Canada; second, the federal Department of Finance chooses to use these estimates; and third, provinces like Prince Edward Island are forced to bear the brunt of the impacts of corrections to these figures when they are in error.
I wish to focus on overriding concerns about the inadequate equalization program. The federal government must come to grips with the fiscal imbalance issue, and, for poorer provinces, this is principally an equalization concern. At present, it is evident that two provinces are surging ahead economically, and without federal action to rebalance the nation's wealth they will increasingly attract more of the nation's labour force, thus leaving the rest of us behind.
The population of many receiving provinces is moving toward decline in the coming years as our younger residents are drawn to Alberta and Ontario. Newfoundland is already declining. This is in part the product of the lack of attention to fiscal balance. Canadians require and expect a level of service, including health services and education, which is top-notch throughout the nation. If the fiscal imbalance remains, our taxes must increase and service levels must drop. As we become less competitive economically, our population is increasingly likely to move to places such as Ontario and Alberta.
Federal transfers that are a straight per capita transfer do not adequately compensate provinces such as Prince Edward Island for revenue deficiencies and population structures weighted toward the elderly. They do add to the ability of Ontario and Alberta with their high fiscal capacities and relatively younger population to further raise service levels and lower the taxes. Equalization is the key to ensuring that the imbalances are addressed, in order to permit all parts of Canada to develop efficiently and effectively.
Finally, I believe that Prince Edward Island and Atlantic Canada in general must continue our efforts to lessen the need for federal transfer payments. I believe that, as Canadians, we should enjoy the same level of public services as the rest of the country. In the short term, this means an adequate equalization program and proper federal contribution to CHST funding. However, in the long term, it means addressing issues such as Canada's immigration policy, our taxation regimes, both federally and provincially, to encourage business investments, targeted education and training strategy for our youth, greater interprovincial cooperation within the region and between Atlantic Canada and the federal government.
I would be pleased to further discuss my submission.
Senator Comeau: Mr. Murphy, has the province of Prince Edward Island made any attempt to measure the level of services — health, education, highways, and so on — relative to other provinces in Canada?
Mr. Murphy: There are always subjective measurements. People are quick to give you their anecdotal analysis of how you are doing vis-à-vis the rest of the country. As far as objective analysis or some long-term studies over time, we rely on institutes such as the Canadian Institute for Health Information, which compares jurisdictions with respect to waiting times in hospitals, the rate of certain diseases, et cetera. Our comparative data mainly comes from CIHI.
Senator Comeau: I assume a case could probably be made, as I discussed with the previous witness, that the creation of an independent commission to measure these kinds of services might be warranted and to make the case that you are making this morning that the level of services in some of the recipient provinces are not conducive to keeping our population. Possibly some efforts should be made to get the measurements that would be agreed upon by both the feds and the provinces.
Mr. Murphy: As Mr. Paddon mentioned in his remarks, the ongoing discussion between the provincial and federal levels of government is an extremely important one. Personally, I would have nothing but good things to say about my relationship with the federal Minister of Finance, who is always available and very cordial. We do not always agree on things, but we are able to talk through issues.
As for an independent analysis, my personal opinion is that I am a bit uncomfortable with that. I see that as the role of elected officials to work on cooperatively. I will not confine my remarks to elected officials. You people have a role as well.
Senator Comeau: If relations are so great and the minister is a great individual, why would you be appearing before us this morning and saying that your province has the need to improve the amount of dollars coming in from the feds? Obviously, the federal Minister of Finance in the last budget included the changes to the equalization that take us to 2009. That certainly cannot be that great for you.
Mr. Murphy: It is not, and it is the policy I am talking about, not the person.
Senator Comeau: It is one thing to get along with someone, to have a beer with someone, but it is another thing if the next morning the individual decides not to respond to concerns you related to him the night before over a beer.
Mr. Murphy: It is hard to get consensus amongst all the provinces of the country. We have worked very hard on the equalization file where we have achieved consensus on what we felt should have been some of the improvements in the renewal. There was agreement on a 10-province standard. There was a provincial agreement on moving forward on comprehensive revenue coverage. We had the premiers and territorial leaders in agreement as well.
I said in my presentation that my disagreement with the federal minister is one of fiscal capacity. I simply do not accept the argument that there is a lack of fiscal capacity at the federal level to fund this program adequately, which the federal government has a constitutional obligation to fund. That does not mean that I cannot get along with the minister on a personal level. We certainly are far apart on a policy level.
Senator Comeau: One of the things that has been driving the dialogue in the last couple of years — and I will give the example of Nova Scotia — is the question of tax competitiveness. There are people making the case that the taxes do not impact the economy. In other words, you can raise your taxes in order to cover your services, education, health and so on, without a resulting impact on the economy — that is, that businesses will not leave and so on. Some are saying that in order to keep your businesses and to attract business your taxes have to be comparable with other jurisdictions, not only within the region but also throughout Canada.
Is there such a dialogue in P.E.I. at the present time?
Mr. Murphy: Yes, there is. In fact, when I presented my budget, part of my presentation was that our view on taxation is that a taxation system must be more than simply a way to collect revenue from citizens.
If you look at what is happening and what has happened in the last 10 or 15 years with regard to things such as NAFTA, for example, and the agreement that goes there, we have seen the federal government has announced I believe somewhere in the vicinity of $100 billion in tax cuts over the next five years. Part of the rationale for doing that is that we are competing in the global environment. Our businesses have to be competitive.
At the provincial level, in the context of equalization, when the tax regime in Alberta, for example, is lowered and the tax regime in Ontario is lowered, part of the factors that make up the equalization formula are those tax bases. Hence, when the fiscal capacity of those provinces is lowered through the reduction of tax bases, we get a lower transfer payment through equalization.
We cannot lessen our need on federal transfers or lessen our need on equalization unless our economy grows and our own source revenues continue to grow. In order to do that, we feel we have to be competitive to attract business investment, to create the economic conditions under which we can grow.
Hence, yes, taxation, in my opinion, is very critical for our future, to move forward in terms of business investment and things that go with it.
Senator Comeau: I should like to come back to the question of the measurement of reasonable services as outlined in the Constitution, that all provinces will provide reasonable levels of services, and the question of measurements. Whose information are you depending on at the present time?
Mr. Murphy: The Canadian Institute for Health Information.
Senator Comeau: That is one aspect of a reasonable level of services, for health. What about education, highways, economy, et cetera? What kind of measurements are you using to monitor your level of services relevant to other jurisdictions?
Mr. Murphy: We do our own analysis — in areas such as graduation from high school, the number of university graduates and the field in which they are graduating, the amount of research investment the university and other post- secondary institutions are attracting, the provincial literacy rate, the average educational level of the workforce, how it is changing over time and what programs are making the difference, interventions, et cetera. We do measure all those things and we do compare our results with other jurisdictions in the country.
Within the primary and secondary school systems there are standardized assessments, if you will. As a former teacher, we can debate the standardized assessment, but it provides a snapshot in time of where you are, particularly in literacy skills and mathematical skills, with the rest of the country.
Senator Comeau: If I as a federal parliamentarian wanted to compare the level of services in P.E.I. to other provinces, would you have a synopsis of this measurement that you could make available to us? Would that be available?
Mr. Murphy: We have that, and I would be willing to make it available. In terms of context, when we are doing relative comparisons, we must be careful to compare apples with apples.
Senator Downe: You indicate that 25 per cent of your provincial budget comes from equalization. We have a briefing note that was prepared by the Library of Parliament that indicates that in this fiscal year total federal government transfers to Prince Edward Island will be in the area of $400 million. What percentage of your overall budget will be from federal transfers?
Mr. Murphy: The overall budget this year will be about $1.1 billion total. The total federal transfers I believe are $393 million.
Senator Downe: Is it a little less than 40 per cent then?
Mr. Murphy: That is correct.
Senator Downe: I should like to get your views on an argument that has been advanced by critics who are opposed to the current equalization program. What they are advancing is that since 1957 in excess of $200 billion has gone out from the Government of Canada and that the have-not provinces continue to lag behind and continue to argue that they need a little more money. One of the proposals they would make is that you give that money, the equalization portion, directly to individuals, to lower taxes, making the region, in effect, much more competitive, much more appealing to young people, so that they will stay and start businesses, and try to grow it that way. The criticism is that it would affect provincial governments because you cannot expand your government to the level you have now. What is your view on that?
Mr. Murphy: I am not struck on the idea of direct transfers to individuals for lowering tax regimes. I do believe we have to address a non-competitive tax regime on Prince Edward Island, in Atlantic Canada in general, and I think there are ways to do that — as I mentioned in the last paragraph of my remarks.
Our attitude should not be that we are content with the level of federal transfers making up the contribution to our budgets that they do now. Obviously, the goal should be to decline those payments over time — because our own economies will become stronger.
Some of the discussions that are happening now in the region are important. I have been reading a lot of what Frank McKenna has been talking and writing about. I think Mr. McKenna has some good ideas. I mention immigration policy in my last paragraph because we get almost no immigration to Atlantic Canada. The bulk of the immigration goes to Central Canada or the West Coast, yet our population as a region is declining. Last year, P.E.I. actually had growth of about 900 people, but overall as a region our population is declining.
The opportunities for young people — as you said, senator, traditionally our economy has focused on the resource sectors. On Prince Edward Island, agriculture is a big part of the economy, the fishery is a very important part of the economy, and the resource sectors in the region are important but they are not as important nor will they ever be as important as they once were. In the long run, our economies have to evolve from resource-based economies. I am not saying that we should stop farming or fishing; however, how can we take those products that are traditionally sold as commodities and add value to them, in terms of the bio-economy? Blueberries in Prince Edward Island are a good example. Blueberries that are being sold in bulk bring in only 40 or 50 cents a pound. On the other hand, if a biotech company were to take those berries and extract an enzyme to be used in the pharmaceutical industry, a vial of that enzyme is worth about $5,000. That is what I mean when I say our economies have to evolve.
My view of what needs to happen in the region includes a couple of things. There needs to be greater interprovincial cooperation between our provinces. Tourism is a good example. In my capacity as Minister of Francophone Affairs, four years ago, St. Pierre and Miquelon, Prince Edward Island, New Brunswick and Nova Scotia, the Acadian and francophone communities, worked on a joint tourism initiative, where all the areas were promoted — a circle tour type of thing. It was very successful.
Yet, P.E.I., Nova Scotia, New Brunswick and Newfoundland, for that matter, all have separate tourism budgets and tourism departments, all of which are promoting tourism and competing against each other. Someone asked me how we would work jointly. My opinion is that Atlantic Canada, with its attributes, has an opportunity to become one of the premier world destinations for an eco-tourism product. Think of the attributes that are there and, if it were promoted as a region, how we could go from there.
Agencies such as ACOA have a useful role to play in the region — not the present role it is playing. In terms of providing infrastructure and other necessary things to allow investment and stuff to take place, it is important. However, in terms of a tax regime, for example, would it be possible to allow things for a business investment credit that is unique to Atlantic Canada? An example is double depreciation on capital investment. We need to talk about some of those things as we move forward.
Senator Downe: I want to get back to the criticism on the equalization advanced by some people. Critics argue that provincial governments use the money for other programs and have deficit problems. You indicated in your paper that a large part of your deficit was because of uncertain equalization. However, the deficit is also because of some decisions made by the provincial government that did not turn out, Polar Foods and others. The critics argue that we have tried this since 1957, that there has only been marginal improvement, so why not try the other route, that is, substantially reduced taxes and making the region highly effective — in effect, cutting out the middle-man?
Mr. Murphy: I am not arguing against that. There is a short-term issue for us here in terms of having fiscal capacities provide public services, in health care, in particular, but also in post-secondary education spending. There is an immediate issue that has to be addressed. It was not addressed in the 2004 equalization renewal. In my mind, the discussion is not over on the 2004 equalization renewal. I know it is supposed to be signed off. There is a bill in the house, and some people would like to put that on the back burner until 2009. It is too important an issue for us to let it sit until 2009. It must be revisited.
However, if you do some thinking out, in the long term, you are correct. Since 1957, the equalization program has existed in one form or another. With a move to a five-province standard in 1982, we have seen an erosion in terms of the formula that drives the program. We need to look at things such as what is the average income in Prince Edward Island or Atlantic Canada vis-à-vis the rest of the country? What is the average educational level of Atlantic Canadians, Prince Edward Islanders, vis-à-vis the rest of the country? To have truly measurable results, you have to have criteria that need to be evaluated.
I would agree for the most part that — take the 10-province standard, for example. It provides more money into the system. It allows us to pay for those services that we should be delivering to our citizens. However, if you think about it in the long term, where does it move us as a province or a region vis-à-vis the rest of the country and the fiscal capacity of the rest of the country?
This discussion on Prince Edward Island's fiscal future or the future in general of Atlantic Canada has to be more than just a discussion on federal transfers. We have to broaden the dialogue to include such things as immigration, tax regimes, training and so forth.
If I go back and look at where we were at the turn of the last century, we were part of the big economic engine of the country, with a vibrant shipbuilding industry, for example. We were making a significant contribution to the national economy. I am not suggesting reviving those, but I do think the region can play a bigger role in the national economy than it does now.
Senator Downe: Taxes are a problem. I earn my salary as a senator in Ottawa, but I pay my taxes in Prince Edward Island. My chartered accountant advises me that I pay thousands more because I live there. I do not begrudge paying it, because the quality of life and a host of other benefits more than make up for it; however, it is a disincentive to the region.
My question pertains to page 4 of your presentation. It is carefully worded, and concerns the federal contribution to health care. You indicate that the premiers and territorial leaders believe that the federal contribution to health care is in the range of 16 per cent to 17 per cent of the cost. I assume that it is much higher in Prince Edward Island because so much more of your money is transferred from the federal government. Am I correct?
Mr. Murphy: The way I look at it is this: The figures that are in our budget for this year are actual figures — $245 million for equalization. The only thing I know about that number is that it is wrong. It will change four, or five or six times throughout this year before we come up with a final number. Hopefully, some of the issues around addressing volatility and renewal will come up. There is about $105 million of what is the CHST transfer. It depends on how you interpret it.
Senator Downe: Would there not be an additional $7 million for the health reform cash transfer?
Mr. Murphy: That is right. I was talking about equalization, CHST. In total, we are talking about $350 million. There are other transfers — for example, young offenders and other cost-shared federal-provincial programs — which will take us to about $393 million. If we look at our two other budgets, health is around $428 million and education is in the range of $230 million to $240 million.
The argument can be made that as a percentage of overall provincial government spending in those two areas, if you take the $105 million, the CHST number, some of which is presumably dedicated to post-secondary education, and you look at the money that is spent, of that $230 million probably $50 million is post-secondary spending.
The Chairman: How do you separate that out from a block transfer?
Mr. Murphy: We do not. In P.E.I., it is simpler because our post-secondary institutions are three institutions — Holland College, University of P.E.I. and Collège de l'Acadie, which is a French-language post-secondary institution. About one sixth of our health care funding is CHST. If you extend that to total transfer payments, and if you want to include 100 per cent of equalization, or a portion of equalization, health care funding, then the number obviously goes up.
Senator Downe: Excluding health care and education, what is the remaining portion of your provincial budget?
Mr. Murphy: Health care and education make up slightly over 60 per cent of provincial program spending.
Senator Ringuette: I was pleased to see an APEC report earlier this year — you are very familiar with APEC — indicating that the federal government contributes two dollars for every provincial dollar from Atlantic provinces in economic development. We double the dollars from the provincial governments in Atlantic Canada for economic development, in comparison to all the other provinces where the scenario is reversed and the provinces put in two dollars for every federal dollar. We have an advantage there.
I was in Charlottetown last week as a member of the task force looking into the seasonal economy and how it affects the labour force and communities and so forth. I have a very important question for you today in the context of equalization and all the other economic issues in regard to transfers to either provinces or to individuals.
You are a political person. I can see that you know your finance portfolio very well. If you had X amount of dollars at your disposal for P.E.I., would you put it into Option A, additional equalization funds, or Option B, additional EI benefits?
Mr. Murphy: It is a difficult question to answer, not knowing what context it is asked in. I would say that the economy on Prince Edward Island has done quite well. We now have the highest number of people that have ever been employed in the province. No one wants to or should want to make a living by drawing an EI cheque. Obviously, longer-term work and more job opportunities are very important. However, the reality of living in a province where we are iced in six months of the year, and our major industries right now are agriculture, fishery and tourism, is that we are a seasonal economy. In the absence of job opportunities for 12 months of the year for people, then those supports need to be in place.
Equalization allow us to provide a level of public services that we hope is, first, comparable within the region, and ultimately comparable nationally. However, if one were to look at a tax regime in Atlantic Canada, one would say, "There is a region in the country that has a high tax regime" — personal income tax, corporate income tax, business tax and so forth. In many ways, equalization is key for us to be tax competitive. I would assert that the best way to address the EI situation is to try to create job opportunities that move us beyond being seasonal. We will always be partly seasonal; that is the nature of where we live geographically, and the nature of Canada's weather patterns.
It is difficult, and the EI changes have had a difficult impact on the people who have relied on them. If you ask people in our province or region if they would rather be working full time or rely on EI, they would take the full time work.
I did not directly answer your question because I do not know the answer to your question.
Senator Ringuette: There is certainly a certain angle. If there were additional individual revenue through EI transfers, then your level of income would definitely increase, not only for the individual, but also the mom and pop shop that provides services. It goes full circle. I know that you are a very capable gentleman in making tough financial decisions, and that is why I asked you if you would rather see additional funding through equalization or to individuals that would increase your income tax base.
Mr. Murphy: It is always good when people can have more money in their pocket, but part of the challenge that we face is one of economy of scale. I will answer it this way: We have about 140,000 people on Prince Edward Island, permanent, year-round residents. Our population increases during the summer months because of an influx of visitors. There is a certain cost of providing a public service that relates to the economy of scale that you are working on. Building a hospital to service a population of 50,000 or 60,000 people has a certain cost, probably the same cost for the infrastructure and things around that hospital as if you were serving three or four times as many people. Our tax base has to provide those services.
Prince Edward Island is not that big geographically, but services are spread out over 150 miles. If you took 140,000 people and put them in a small city in Ontario, the cost of providing health services would probably be less because of economies of scale and geography, et cetera.
Senator Ringuette: Another major question is about options. With regard to the equalization program, if you had the option of looking at a 10-province standard in a more modern system, and another option being a more modern system that would see the cost of servicing factored into a five-province standard, which one would you prefer?
Mr. Murphy: Here is what I would prefer: Prince Edward Island, and Atlantic Canada in general, needs to follow two tracks as we go forward here. We have pressures right now to address public service needs, as there are pressures in some other parts of the country. In our own case, our economy and our present levels of taxation do not allow us to extract more provincial-owned source revenues out of people's pockets unless we grow the economy. In order for us to lessen our dependence on federal transfers, we need to grow the economy.
As Senator Downe pointed out, for the last 50 plus years, the equalization program has been helpful in providing public services. Has it necessarily closed the gap between us and the rest of the country? I would agree with his synopsis that the gap has not closed a lot. We need to continue to provide comparable levels of services. We are obligated constitutionally to provide health and education services, but we also need a strategy, if I can use that word, for the region that includes a broadening of our thinking on things such as immigration, taxes, et cetera, to allow that gap to close for the rest of the country.
Senator Ringuette: In other words, you have not yet looked at the two options of going to a 10-province standard or maintaining a five-province standard and factoring in the cost of supplying the services because of population density — rural versus urban factors and so forth.
Mr. Murphy: Population density is not a big issue for us because of our size. We know what a 10-province standard would do for us in terms of equalization payments. It would be about $41 million more a year for P.E.I. We receive $12 million for every $1 billion paid in equalization versus CHST, where we receive $4.4 million for every $l billion in CHST.
One point I would make is that when the discussions were going around on CHST renewal, part of the discussion on the table and part of the reason why P.E.I. and other Atlantic provinces agreed to go to per capita funding on CHST was with the understanding that equalization renewal would be addressed within the context of a new agreement on CHST.
I will go back — not to berate this point, because goodness knows I get criticized enough in the provincial legislature at home for beating up on the federal government — but as a percentage of federal expenditures, here we have a program that I believe is the only federal program that is in the Constitution of Canada. We have a program in our Constitution to level out fiscal disparity within regions, which says to Canadians, we do not care where you live. Within reason, we will provide you with the same level of public services. Yet, as a percentage of the total federal program spending, it is declining and has been declining since 1982. I do not think that is right. I do not think Canadians would think that is right.
Senator Ringuette: There is another phenomenon that, as a politician, you are certainly aware of. Taxpayers in P.E.I., and New Brunswick, and Ontario and in the West want to see programs that have accountability and transparency factored in. In 1957, we had the sole equalization program, whereas now we have the equalization program, the health transfer program, a social transfer program, federal-provincial training programs, federal- provincial infrastructure programs, economic development agreements — we have a slate of design-specific programs in order to target those issues and be more transparent and accountable. We have to factor that in as well.
Mr. Murphy: We have no issue with accountability. Given the size of our health care budget, I can give you a breakdown off the top of my head of where the money is spent, how much federal money is in the system and where it goes. We agree totally. We said so publicly. What the Prime Minister has talked about — there needs to be an accountability framework — I could not agree more.
The Chairman: You keep mentioning this question of immigration, and I am intrigued. I have not heard this from a Prince Edward Island minister for a while. Immigration, as you know, is a shared jurisdiction under the Constitution. There is nothing to have prevented you, and still nothing to prevent you, from going out and promoting immigration to Prince Edward Island wherever you like.
It seems to me that if you went to the federal government, they would help you do that. I think the federal government would be open to negotiating an agreement with you on immigration.
You might not be able to get many immigrants from the British Isles and France, where historically your people mostly came from, but there are plenty of parts of the world where Prince Edward Island would be an inviting place to come if they knew about it.
Mr. Murphy: It is a good point. My departments and other departments in the province have been working with our federal counterparts for some time to develop an immigration strategy for the province. I am speaking beyond that. We need to extend that to the region. Other provinces in the region are doing the same as we are with regard to immigration; nevertheless — I forget the number — but I think it is slightly less than 1 per cent of the immigration for the country is coming into the region. It may not be even that high. Obviously, the status quo respecting immigration policy is not fulfilling the needs within the region.
The Chairman: What is the change you would make? As you well know, once an immigrant comes here, he or she is here. He or she cannot be forced to go to a particular part of the country, but what changes would you make to get a bigger share of immigration?
Mr. Murphy: Pick a particular sector of the economy — aerospace, for example, which has been a real success story on Prince Edward Island, employing upwards of 1,000 people. There is a demand in the aerospace sector for skilled people such as machinists and other people who work in that area. Holland College, a good educational institution, provides training. However, there are many skilled people in all parts of the world that could come, who have the skill sets now and could make a contribution to the economy right away.
Our discussions with the federal government would include whether it would be willing to look at, say, a foreign labour tax credit, which would allow us to be pretty competitive in trying to attract those people to come and work in that particular industry within our region. Is the federal government willing to do something with regard to personal income tax, or other incentives we might jointly put in place, to try to attract immigration to the region? That is the type of discussion we are talking about. We fully support that individuals coming into the country will ultimately make their own decisions, but are there things we could do that we are not doing now to help influence that decision?
Senator Downe: I have a final comment on attitudes of some people in Prince Edward Island. I read a letter in the Charlottetown Guardian in the last couple of weeks. Someone wrote in understanding that P.E.I. contributes much more to the federation than it receives, and this was outrageous.
I think it is important for the health of the federation that all parts of the country, all the regions, realize that different contributions are made by different parts. Even though Prince Edward Island has a tremendously high percentage — roughly 40 per cent of their budget is in federal transfers — we have the highest per capita individual payment from the federal government — I think it is $2,800 — than anywhere else. There are other ways of measuring contributions to the federation. If we do it on a strict monetary basis, then the whole country is in trouble.
We have to — and I speak here to my colleagues around the table. The federal government has to do a much better job of explaining the federation and all its component parts to the citizens. In P.E.I, part of my job is to talk about what the federal government is doing. For example, I talked about the National Research Council, the contribution of the university and so on, Veterans Affairs headquarters and the GST national centre, which the chair continues to remind me he had some involvement in at the time. I think it is important that we all play our part, which is to talk about that contribution individually, regionally and across the country.
That is more of a comment than a question.
The Chairman: Well said, and I think well received, Senator Downe. Thank you, minister, this has been very helpful. We are grappling with this issue again. Perhaps the 2004 formula is not cast in stone, and we hope to have some impact on the debate on that bill when it takes place.
Thank you for taking the time to share your thoughts with us.
Tomorrow night we will hear from Professors Thomas Courchene and Robin Boadway, both from Queen's. Although they are from the same university, I can assure you that they come at this subject from different points of view, so it should be quite interesting.
The committee adjourned.