George Anderson Canadian Fiscal Federalismpti.regione.sicilia.it/portal/page/portal/PIR_PORTALE/PIR... · Canadian Fiscal Federalism 1 Presentation for the Conference: Federalizing

George AndersonCanadian Fiscal Federalism

1

Presentation for the Conference:

Federalizing Processes in Italy –International Perspectives

Rome, February 19-20,2010

With thanks to David Peloquin

A quick overview of Canada

� Long history of uninterrupted self-rule from colonial times (1840s) through to the present:

� provinces are Canada’s original political units and still command significant (sometimes dominant) allegiance of residents

� provinces have very substantial policy and administrative capacity

� long-established habits of managing high provincial autonomy:

� inter-governmental compromise / accommodation / cooperation

� accountability to informed and engaged electorates and media

� provincial spending (and borrowing) closely tied to provincial taxation

Canada’s constitution

Canada’s provinces have “critical political mass”that makes them particularly autonomous

3

The high degree of fiscal decentralization in Canada

Recession in context Canada’s constitution Managing autonomy Fiscal & budgetary discipline Recession in context Canada’s constitution Managing autonomy Fiscal & budgetary discipline

The particularly high degree of autonomy exercised by Canadian provinces reflects:

4

Federal share of direct spending

0%

25%

50%

75%

Switzerland Canada Germany Australia USA

Expenditures

Federal share of own-sourcerevenues

0%

25%

50%

75%


Revenues

4545%%

4545%%

65%65%60%60%

66%66%

37%

61%53

%41%

37%

� Design of founding Constitution Act, 1867 had envisaged:� “watertight” federal and provincial powers (with few exceptions)

� dominant federal government (both fiscally and legislatively)

� In practice, Canada has evolved toward:� typically overlapping (or “entangled”) legislation/regulation and (especially) spending

powers

� joint occupancy of all major direct and indirect tax fields

� relatively “equal partnership” of federal and provincial governments (or “vertical competition between equally-matched competitors”?)

Recession in context Canada’s constitution Managing autonomy Fiscal & budgetary discipline

Result: Centralization historically in principle, but not in current practice

5

6


The long history of fiscal decentralization in Canada


Source: Statistics Canada

0%

10%

20%

30%

40%

50%

2004

2001

1998

1995

1992

1989

1986

1983

1980

1977

1974

1971

1968

1965

1962

1959

1956

1953

1950

1947

1943

1933

Revenues (% of GDP)

0%

10%

20%

30%

40%

50%

2004

2001

1998

1995

1992

1989

1986

1983

1980

1977

1974

1971

1968

1965

1962

1959

1956

1953

1950

1947

1943

1933

Expenditures (% of GDP)

Provincial-local

Federal

Provincial-local

Federal

Transfers


7


Jointly occupied tax fields

0 50 100 150 200 250 300 350 400 450CAD billions

Source: Statistics Canada (2009)

Provincial-local

Federal

… as well as joint occupancy of major tax fields

Property Property taxestaxes

FederalFederaltransferstransfers

User User feesfees

Investment Investment incomeincome

OtherOtherPersonalPersonalincome taxincome tax

Sales and consumption taxes

Payroll taxes

CorporateCorporatetaxestaxes

Their low dependenceon federal transfers…

…and significant control overtheir own-source revenues



8

Federal share of direct spending

0%

25%

50%

75%


Expenditures

Federal share of own-source revenues

0%

25%

50%

75%


Revenues

45%45% 45%45%

65%65%60%60%

66%66%

37%

61%53%

41%37%

� Desirability of / need for coordination and harmonization in relation to:

� the power to tax – where state power to compel citizens is strongest (and need to minimize compliance costs is greatest)

… hence a commitment to tax harmonization / joint tax collection in Canada

� the power to spend – where power to compel is largely absent (though still a need toavoid confusion on the part of citizens and ensure effective spending)

� the power to borrow – where a government’s credit-worthiness affects those of others


9

Managing these entanglements is an ongoing challenge for Canadian fiscal federalism

� In most policy areas, federal and provincial ministers and officials meet regularly:

� many standing federal-provincial committees to discuss areas of common interest (sometimes meeting several times a year)

� Meetings on fiscal/budgetary and related matters (e.g. health care) are frequently high-profile and raise significant controversy:

� both federal-provincial and inter-provincial tensions often surface

� fiscal issues have on occasion been settled at the level of “First Ministers”(federal Prime Minister and provincial Premiers)


10

Entanglements are typically managed through elaborate structures of “executive federalism”

� As noted above, both federal and provincial governments have effectively unrestrained access to all major tax bases

� In most major tax bases, joint occupancy is the rule, but:

� NO revenue sharing (i.e. unlike Brazil, there is virtually no formula-based sharing of revenues levied by one level of government – typically the federal – with governments at the provincial or local level)

� instead: federal and provincial governments independently levy own taxes…

… though they do not necessarily collect them (i.e. in several key tax fields, most governments participate in joint “tax collection agreements”)

11

Recession in context Canada’s constitution Managing autonomy Fiscal & budgetary discipline Fiscal & budgetary discipline

11

Revenue-raising discipline is achieved largelythrough voluntary tax harmonization

Revenue sharing(virtually unused in Canada)

Tax collection agreements(frequently used in Canada)

• Inter-provincial tax competition on rates and rate structure (but not base)

• Fixed rates prevent inter-provincial tax competition of any kind

• “Joint decision trap” and less transparent taxation

• Greater autonomy and clear(er) government accountability

• Compliance / collection costs minimized by joint collection

• Compliance / collection costs minimized by federal collection

• Harmonization of tax bases • Uniform tax bases applied nationally

Fiscal & budgetary discipline

12

Revenue-raising discipline is achieved largelythrough voluntary tax harmonization

Budgetary discipline has improved in recent years

� Unconstrained spending power at both levels of government translates (on occasion) into vertical intergovernmental competition

� i.e. in principle (and at times in practice), there is strong temptation to overspend

� Also, very limited federal leverage over provincial spending:

� little/no scope for conditionality of federal transfers: they are too small, there is fierce resistance to “intrusion”, and electorates often side with provinces

� Result: (formerly) high federal and provincial debt/GDP burdens – among the highest in OECD as recently as the mid-1990s

� However, debt burdens declined significantly in wake of mostly balanced budgets (federally and in most provinces) from the late 1990s until the recent recession…

… though Canadian provinces still remain among the world’s largest sub-sovereign borrowers

13


13

Where does that discipline come from, then?


14

A better explanation lies in provinces’ revenue-raising autonomy:

Higher provincial debt

That is, provinces that take on too much debt can expect to have to raise taxes on their electors well in advance of any plausible case being made for a federal “bail-out”

…tends to translate intohigher provincial taxes

Provincial debt-GDP ratios

30.7%34.5%

38.4%

31.0%

46.2%

29.9%

23.8%

6.3%

-6.8%

14.7%

NL PE NS NB QC ON MB SK AB BCSource: Statistics Canada

Relationship between provincial debt and tax effort

60

80

100

120

140

-10% 0% 10% 20% 30% 40% 50%T

ax e

ffort

(na

tiona

l ave

rage

= 1

00)

Provincial debt-GDP ratios

� As noted, the budgetary discipline in evidence among Canadian provinces:

� is NOT due to formal budgetary / borrowing coordination

� is NOT due to “hard” budget constraint imposed “from above”

� is NOT due to self-imposed “balanced budget” laws

� MAY be due in part to informal information exchanges and moral suasion (though with provinces as or more likely to exercise leadership)


15

Where does that discipline come from, then?


16

Constraints imposed by credit markets themselves

…since it is not clear provinces face a truly “hard” budget constraint(with an implicit federal guarantee seemingly priced into provinces’ cost of funds)

… but such discipline is not really attributable to:

% spread over US Treasuries, 10-year bonds, Canadian federal and provincial governments June 1999 to June 2009

-1

0

1

2

Jun

-99

Dec

-99 Jun

-00

Dec

-00 Jun

-01

Dec

-01 Jun

-02

Dec

-02 Jun

-03

Dec

-03

Jun

-04

Dec

-04

Jun

-05

Dec

-05

Jun

-06

Dec

-06

Jun

-07

Dec

-07

Jun

-08

Dec

-08

Jun

-09

Standard & Poor’s Credit Ratings(as of June 2009)

AAABC

AAAAB

AA+SK

AAMB

AAON

A+QC

AA-NB

A+NS

APE

ANL

AAACanada

Source: Finance Canada



17

Self-imposed “balanced budget” legislation

Most provinces have balanced budget laws…

…but they generally have “escape clauses”

…and can be easily suspended

AB �

SK �

MB �

ON �

QC �

NB �

NS �

PEI

BC �

NL

Public emergency or disaster

“Disasters”, war

“Disasters”, war, unusual weather, actions of other level of governmentOnly need to present “recovery plan” showing return to balanced budget“Disasters”, bad economic situation, cuts in federal transfersBudget balance only required over four-year cycle

“Disasters”, losses due to restructuring, debt charges higher than budgeted

Suspended for 2 years by March 2009 Budget

Suspended for 2 years by February 2009 Budget


� NO formal budgetary / borrowing coordination mechanisms…

… with at most regular information sharing between federal and provincial finance officials and informal “moral suasion”

� NO federal government-imposed constraints on the issuing of debt by provinces:

� on either domestic or international markets

� in either domestic or foreign currencies


18

Intergovernmental coordination

Budgetary discipline has improved in recent years

19


19

Federal and provincial budget balances (% of GDP)

-6%

-4%

-2%

0%

2%

4%

6%

8%

10%

1990

-91

1992

-93

1994

-95

1996

-97

1998

-99

2000

-01

2002

-03

2004

-05

2006

-07

2008

-09

NL

NS

NBPE

-6%

-4%

-2%

0%

2%

4%

6%

8%

10%19

90-9

1

1992

-93

1994

-95

1996

-97

1998

-99

2000

-01

2002

-03

2004

-05

2006

-07

2008

-09

Provinces

Federal

-6%

-4%

-2%

0%

2%

4%

6%

8%

10%

-6%

-4%

-2%

0%

2%

4%

6%

8%

10%

SK

BC

AB

ON

MB

QC

Source: Finance Canada

The Canadian Constitution allows for a high degree of decentralization

20

The Constitution Act gives provinces

• primary responsibility for (what have turned out to be) some of the most important expenditure areas: social welfare, health care, education, etc.

• access to, and full discretion over, most major revenue sources: personal and corporate income taxes, sales taxes, estate taxes, natural resource taxes and royalties, property taxes, etc.

A defining feature of the evolution of the Canadian federation in the postwar period is a gradual but

persistent decentralization of fiscal responsibilit ies

21

Federal and Provincial-Local Shares of Government Expenditure, Excluding Inter-Governmental Transfers

20%

30%

40%

50%

60%

70%

80%

1933

1936

1939

1942

1945

1948

1951

1954

1957

1960

1963

1966

1969

1972

1975

1978

1981

1984

1987

1990

1993

1996

1999

2002

2005

Sha

re o

f Tot

al

Provincial-Local

Federal

2222

Economic and fiscal disparities in Canada are (by OECD standards) relatively large

A few words on fiscal equalization

Fiscal disparities (in $ per capita)

-3,000

-2,000

-1,000

0

1,000

2,000

3,000

4,000

5,000

NL PE NS NB QC ON MB SK AB BC

GDP disparities (in $ per capita)

-15,000

-10,000

-5,000

0

5,000

10,000

15,000

20,000

25,000

30,000


From its beginnings in 1957, the Equalization program has helped to make tax -decentralization

acceptable to revenue -poor provinces

23

Program was launched in 1957 in conjunction with a major tax decentralization for personal and corporate income taxes and inheritance taxes. Program made the devolution of tax shares to provinces acceptable to revenue-poor provinces.

Program “equalizes up”, not down.

Program has looked at fiscal capacity, not need.

The Equalization Program� This graph shows the basic mechanics of the program as it has

operated throughout most of its history

24

Equalization: Illustrative Example of Basic Mechan ics

0

2,000

4,000

6,000

8,000

10,000

12,000

14,000

PE NB MB NS NL QC SK ON BC AB

Dol

lars

Per

Cap

ita

Standard

Equalization

Own-Source Fiscal Capacity

Increasing decentralization has led to a lowering of the standard

� The Equalization standard has changed several times throughout the history of the program: top-2 province standard (1957), 10-province standard (1962), 5-province standard (1981).

� With increasing decentralization, the trend towards a lowering of the standard.

� Recently, Ontario has become equalization receiving—small amount, but adds greatly to risk

� New approach is the sharing of a defined pool for equalization

25

Natural resource revenues have played a key role in the history of Equalization

26

Relative Per Capita Fiscal Capacity, 1972-73 to 200 7-08

50

100

150

200

250

1972-73 1977-78 1982-83 1987-88 1992-93 1997-98 2002-03 2007-08

Alberta

Resource-rich provinces

Quebec

Ontario

Resource-poor provinces

2727

As well, provincial fiscal disparities significantly reflect the unequal distribution of natural resources…

A few words on fiscal equalization

…disparities which federal Equalization transfers only partially fill

0

2,000

4,000

6,000

8,000

10,000

12,000

14,000


Fiscal capacities (in $ per capita)

Natural resources

Other tax bases

0

2,000

4,000

6,000

8,000

10,000

12,000

14,000


Pre-Equalization capacities

Pre- and post-Equalization capacities

Equalization

Equalization payments for 2008 -09 total $13.6 billion dollars

28

Equalization Payments ($ millions)

2004-05 2005-06 2006-07 2007-08 2008-09

Newfoundland and Labrador (NL) 762 861 687 477 158

Prince Edward Island (PEI) 277 277 291 294 322

Nova Scotia (NS) 1,313 1,344 1,386 1,465 1,465

New Brunswick (NB) 1,326 1,348 1,451 1,477 1,584

Quebec (QC) 4,155 4,798 5,539 7,160 8,028

Ontario (ON)

Manitoba (MB) 1,607 1,601 1,709 1,826 2,063

Saskatchewan (SK) 772 89 13 226

Alberta (AB)

British Columbia (BC) 682 590 459

Total 10,894 10,907 11,535 12,925 13,620

Other major transfers to provinces and territories also have important equalizing effects

29

Canada Health Transfer

Equalization

Wait Times Reduction Transfer

Canada Social Transfer

Territorial Formula Financing

$12.9 billion

$21.3 billion $9.5 billion

$1.2 billion$2.2 billion

Major Transfers, 2007-08

Provinces choose own levels of taxation and expendi ture

� The Equalization system is meant to provide provinces with the capacity to provide reasonably comparable levels of services at reasonably comparable tax rates.

� But provinces are free to choose any actual level of taxation and any actual level of expenditure they want.

� Given their high degree of tax and expenditure autonomy, provinces in fact make significantly different choices.

30

Transfers go to all provinces and are largely unconditional

• Total transfers of $47B, of which $13B for equalization

• Other transfers started as highly conditional programs in health, social assistance and post-secondary education, but are now largely subject to only a few basic principles, especially for health

• Historically, there has been a debate over the federal spending power

Provinces choose to impose substantially different tax rates …

32

Provincial -Local Fiscal Capacity, Own -Source Revenue, and Tax Effort, 2006-07

Fiscal Capacity Per

Capita

Own-Source Revenue Per

Capita Tax Effort

NL $6,250 $6,728 107.6% PE $4,864 $5,162 106.1% NS $5,637 $5,800 102.9%

NB $5,152 $5,282 102.5% QC $6,117 $7,079 115.7% ON $7,273 $7,310 100.5%

MB $5,519 $5,982 108.4% SK $7,681 $8,863 115.4% AB $12,765 $9,833 77.0% BC $7,121 $7,073 99.3%

… and to provide significantly different levels of government services.

33

Total Expenditures of Provincial -Local Government Sector, 2006-07

Provincial-Local Government Expenditure

($ Per Capita)

Percent of Average

NL $11,051 103.7%

PE $10,002 93.8% NS $10,564 99.1% NB $10,045 94.2% QC $11,931 111.9% ON $10,107 94.8% MB $10,842 101.7%

SK $11,625 109.1% AB $10,751 100.9% BC $9,664 90.7%

Equalization and Tax -Autonomy: Measuring Tax Disparities

� The high degree of tax autonomy of Canadian provinces poses important measurement challenges for equalization.

� Because of the high degree of tax autonomy of provinces, the use of actual revenues is not possible in Canada.

� The approach that has been used in Canada since 1967 to measure the relative fiscal capacities of provinces is the representative tax system (RTS) approach.

34

Representative Tax System

� The RTS approach determines fiscal capacity by measuring the per capita revenue provinces could (potentially) raise if they implemented a typical (“representative”) provincial tax system.

� Fiscal capacity is measured separately for each provincial and local government revenue source.

� The fiscal capacity of each province for each revenue source is measured by applying the national average effective tax rate to the representative tax base for each provinces.

� A key challenge is to define a common “representative” base for each revenue source, given that the actual tax bases of the 10 provinces may differ greatly.

35

Conclusions

• Canada has a highly decentralized fiscal regime.• Provinces depend largely on their own source resources and

have proven fiscally responsible• The devolved regime has been possible because of the

existence of important transfers and equalization• Canada has achieved a reasonable degree of tax

harmonization and coordinated collection• Equalization is limited and does not equalize rich provinces

down• Some longer-term trends regarding resource disparities and

growth may put the system under new pressure

Documents

George Anderson Canadian Fiscal Federalismpti.regione.sicilia.it/portal/page/portal/PIR_PORTALE/PIR... · Canadian Fiscal Federalism 1 Presentation for the Conference: Federalizing