Strengthening the economy and services for people in NL: 2016 AND BEYOND

THE GOVERNMENT OF NEWFOUNDLAND AND LABRADOR faces a significant current fiscal deficit. While not the largest deficit in Canada, it is the largest compared to GDP. There is no question that the government will take action to reduce the deficit. The real question is what kind of action, how much, and when.

Will the government bring in an austerity budget, one that slashes spending and lays off large numbers of employees? Key to this question is the fact that government decisions not only affect government accounts; they affect the broader economy.

“[E]very country that introduced significant austerity has seen its economy suffer…all of the economic research that allegedly supported the austerity push has been discredited…

It is rare, in the history of economic thought, for debates to get resolved this decisively.”

— Nobel Laureate economist Paul Krugman

Figure 1 shows the correlation between austerity-type budgets (those with major spending cuts) and lower economic growth.

It is a reminder that running a government budget is not like running a household budget. In a household budget, if you cut spending, you simply save money. In a government, if you cut spending, you save money, but you also have a negative impact on the overall economy, and you put people out of work.

Actions of government are important to economic outcomes, and this needs to be kept in mind while considering budget actions.

Source: Paul Krugman, 2015, “The Austerity Delusion” (The Guardian, April 29, 2015), www.theguardian.com/business/ng-interactive/2015/apr/29/the-austerity-delusion

CONTEXT AND OUTLOOK

THE CONTEXT for the Newfoundland and Labrador provincial deficit is an economic downturn, which is partly caused by low global prices for oil and other commodities. It is unclear how long these prices will remain low. Currently an inventory glut is applying downward pressure on oil prices.
In the medium and longer-term, the global fundamentals are mixed. New oil extraction technologies are adding to the supply of oil. Moreover, if prices rise significantly, additional production will come on-stream; currently, the low prices are restraining that additional available supply, as high-cost production is unprofitable at current price levels. The technology may place a ceiling on oil prices.
On the demand side, China’s growth has moderated, though not crashed. China is experiencing 6 percent growth, and India’s growth rate exceeds that of China. The Organization for Economic Cooperation and Development (OECD) forecasts global growth at 3 per cent in 2016 and 3.3 percent in 2017.

The OECD forecasts global growth at 3 per cent in 2016 and 3.3 per cent in 2017.

Locally, resource projects such as Hebron and Muskrat Falls are transitioning from construction to production in the next few years, resulting in reduced employment in those projects.
The Newfoundland and Labrador recession is forecast to be tapering, with employment picking up in 2019 due to new construction and growth in other sectors.
In terms of the provincial budget, the shift from project construction to production will bring increases in provincial revenues. And while the deficit-to-GDP ratio is higher than other jurisdictions in Canada, other indicators, such as net debt, expenditures, and revenue as a percentage of GDP, are more in the middle of the pack.

The Newfoundland and Labrador recession is forecast to be tapering, with employment picking up in 2019 due to new construction and growth in other sectors.

SPENDING AND POTENTIAL CUTS

NEWFOUNDLAND AND LABRADOR’S provincial government spending is higher than that of other provinces on a per capita basis. Unfortunately, some commentators take this valid observation a step further, and suggest that Newfoundland and Labrador’s spending should be reduced to the same level as that of other provinces. This fails to take into account the fact that the province’s average age is greater than the Canadian average, and an older populace requires greater health care spending.
Moreover, the province is very rural — more than twice as rural as Alberta — and has some very remote communities. It costs more to deliver programs in a rural province. Holding that provincial spending should be the same as other provinces on a per-capita basis would mean accepting that programs and services outcomes should be substandard for citizens of Newfoundland and Labrador.
A very typical reaction to deficits was to cut spending, regardless of the consequences. However, the financial crisis of 2008 and 2009 resulted in governments seeking the advice of economists, instead of ideologues. Economists pointed out that spending cuts are a bad idea in a recession, and that economies need stimulus spending instead. Government took that advice, and an overall economic collapse was held o .

The province is very rural — more than twice as rural as Alberta — and has some very remote communities. It costs more to deliver programs in a rural province.

Should the government of Newfoundland and Labrador engage in big cuts now? It needs to consider the impacts on:

  • Children and their education;
  • Health care outcomes;
  • The most vulnerable, who depend on social services;
  • Employment, and unemployment both in the public sector and the private sector;
  • Tax revenues, if people are put out of work; and
  • Population, youth retention and the aging demographic.

ECONOMIC AND EMPLOYMENT IMPACTS OF SPENDING CUTS

GOVERNMENT SPENDING CUTS have impacts on employment that go well beyond the size of the public service. Government spending cuts adversely affect private businesses, potentially causing some to fail. They put private sector workers out of a job.

Government spending cuts adversely affect private businesses, potentially causing some to fail.

Just as spending has a multiplier effect, creating jobs and GDP growth elsewhere in the economy, cuts have impacts elsewhere in the economy. The “indirect” impacts of spending or cuts affect sectors that supply government. The employees in those in- directly affected sectors, and government employees, spend their money in other.

Induced multipliers are not published by the government. However, based on other multipliers, it is possible to come up with order-of-magnitude estimates.

Depending on where cuts made, for every 10 public service jobs cut, the province would lose roughly 5 jobs in the private sector.

As illustrated in Figure 4, oil and gas extraction creates very few jobs per dollar invested. Educational services, health care, and social assistance create far more. At the same time, cuts to education, health care, social assistance, and other government functions result in significant job losses — both in the public and private sectors.

How many jobs would be lost if the government cuts spending significantly? The following are estimates of the combined direct and indirect job losses in the public and private sectors from cuts to public spending:

  • 3% of spending: around 3,500 jobs
  • 10% of spending: around 11,600 jobs
  • 30% of spending: around 35,000 jobs

Note that this does not include the induced job losses, so there would be additional jobs lost in local businesses due to lower individual spending.

PRIVATIZATION A.K.A. MAGIC FREE MONEY

ADVOCATES OF PRIVATIZATION like to suggest or imply that it will help balance the government’s books at no cost. Is it true? Is there is free money, magically? The reality, of course, is that there is no free lunch.

Privatization proposals come in many favours, among them public-private partnerships, contracting out, and selling public assets.

Public-private partnerships

Public-private partnerships (PPPs, P3s) are a way of increasing private participation in the construction of infrastructure. After several Auditors General across Canada released reports showing problems with P3s, there has been growing public awareness that P3s have higher borrowing costs, in addition to other costs, such as executive pay, advertising, lobbying, litigation, and transaction costs.

Furthermore, P3 financing hides debt from government books, often in agreements that are deemed to require secrecy due to a commercial need for confidentiality — thereby reducing transparency and accountability to taxpayers and voters.

And despite their much-vaunted capacity to transfer risk to the private sector, companies involved can simply refuse to pay overruns, and instead can litigate. Government cannot collect the full debts owed by a company that declares bankruptcy—meaning that the public is on the hook.

In the end, the payments for P3s still come from the public, via user fees (higher out-of-pocket spending) or via deferred taxation as bills come due in later years. There is no magic free money.

Contracting out

Another privatization favour is contracting out, or paying a corporation to do things that the public service used to do. The problem here, as in other areas of privatization, is that involving corporations means putting share value (i.e., profit) maximization ahead of service quality. This usually means lower wages, or layoffs, or both. And of course the impacts of these will be felt in the private sector through indirect and induced job losses. Also, it often means higher out of pocket costs for individuals in the form of fees and service charges.

Selling public assets

Another privatization favour is selling off assets in order to temporarily balance the books. This is a fairly desperate short-term measure that is nothing more than selling the family silver. In the case of assets that generate revenue it is more like selling the goose that lays the golden egg.

Involving corporations means putting share value (i.e., profit) maximization ahead of service quality. This usually means lower wages, or layoffs, or both. And of course the impacts of these will be felt in the private sector through indirect and induced job losses.

REVENUE OPTIONS

THE PROVINCE OF Newfoundland and Labrador has a revenue problem. Rash tax cuts created by the previous government created a major hole in the treasury. Those cuts cost $4 billion as of 2014 and closer to $5 billion today, adding roughly $700 million per year to the debt. That government, even with oil at $100 per barrel, ran significant deficits, and created no long-term savings account.

Tax cuts like those are no longer as popular as they once were. There is a growing realization among the public in the last several years that programs, services and infrastructure do not grow on trees. In order to have the things that voters want, government needs to spend money.

The anti-tax, anti government campaigns of previous decades are now past their peak — governments conduct public opinion polls, and understand what the public thinks. They have turned away from the anti-tax movement, and raised taxes across Canada — across the political spectrum, provincially and federally.

Some examples include:

Nova Scotia in 2010

  • Added new personal income bracket at top.

New Brunswick 2015

  • Added two new personal income tax brackets at the top.

Quebec government 2012

  • Personal income tax rates.
  • Taxes on dividend income and capital gains.

Ontario Liberal government 2014

  • Raised top personal income tax rate and changed brackets to add another bracket.
  • Increased tax on aviation fuel (from 2.7¢/litre to 6.7¢)
  • Increased tobacco tax rate (12.35¢ to 13.975¢).

“Economic theory and historical experience gives a clear and unambiguous answer: it is economically preferable to raise taxes on those with high incomes than to cut state expenditures.” — Letter from 117 Economists to the Governor of New York 1

Alberta Conservative government 2015

  • Progressive income tax (moved away from at tax).
  • Tobacco taxes ($40 to $45 per carton).
  • Alcohol tax (by 22¢ per litre).
  • Fuel tax (from 4¢ to 13¢ per litre).

Alberta NDP government 2015

  • Additional higher personal income tax brackets and rates.
  • Raised corporate taxes from 10 to 12 per cent.
  • Increase to conservative government industrial
    carbon pricing.

BC Liberal government 2012

  • Introduced higher personal income tax bracket at the top.
  • Raised corporate taxes.
  • The government has maintained its carbon tax,
    winning two general elections since its adoption.

Federal Liberal government 2015

  • Raised the top personal income bracket from 29 to 33 per cent.

Economists Letter, 2008, Fiscal Policy Institute, December 13, 2008. http://www.fiscalpolicy.org/Letter_EconomistsOnFiscalPolicy_December2008.pdf

CONCLUSIONS

If the government were to adopt the personal income tax, corporate income tax, and sales tax (HST) systems of its neighbours, it could raise an additional $600 million in much-needed revenue.

The government has the political room to move to increase taxes. NL’s taxes are mainly lower than those in neighbouring provinces. It also has the fiscal room.

If the government were to adopt the personal income tax, corporate income tax, and sales tax (HST) systems of its neighbours, it could raise an additional $600 million in much-needed revenue.

Sales taxes are regressive, meaning that they have a disproportionate impact on low-income people. Providing exemptions for groceries and other essentials, providing refundable tax credits, can mitigate this and ensuring that revenues are available in the future to help support services and programs that lower income people depend upon.

Another source of revenue is carbon pricing. Newfoundland and Labrador needs to reduce its greenhouse gas emissions and raise revenues. After the B.C. carbon tax was adopted, fuel use in that province dropped while the rest of Canada’s rose, B.C.’s GDP outperformed the rest of Canada, and the Liberal government that adopted the tax won the next two elections.

Carbon pricing is also in place or being adopted by Alberta, Ontario, Quebec, and Manitoba, and will soon be in place in provinces representing over 80 percent of Canada’s population. If it adopted a carbon pricing system similar to those of B.C. and Alberta, the government of Newfoundland and Labrador could raise another $200 million per year.

The above-noted revenue options have not mentioned royalty adjustments, capital tax, sin taxes (tobacco, liquor, or soft drink), tourism taxes (hotel, airport departures), automobile registration, extraordinary profits tax, or others that could be considered.

This discussion document is not advocating that any particular one of these revenue options be adopted. They represent a suite of options for the government to choose from. Nor does the government need to raise as much in terms of revenue as these options would collectively suggest. The government could easily move to boost revenues and reduce the deficit by 10 to 30 percent this year, and consider further revenue increases in future years, depending on the state of the economy.

Again, the aim is not to eliminate the deficit in one year. As Cathy Bennett, Finance Minister for Newfoundland and Labrador, has pointed out, the deficit did not get created overnight and it is not going to get eliminated in one budget. Also, it would be unwise to reduce it by too much during a recession. Running deficits during a recession is good economic management. Balancing budgets during a recession is poor economic management.

While restoring its revenue system, the government should have a mind to the future shape of the province’s economy. The government should adopt a review lens for the proposed budget, regulatory, and other policy decisions to advance:

  • Economic diversification;
  • Value-added processing of resources;
  • Locally owned businesses and local employment; and
  • Triple bottom line sustainability — economic, social and environmental.

Running deficits during a recession is good economic management. Balancing budgets during a recession is poor economic management.