Canadians have long been told it is our duty as compassionate citizens to transfer money from the so-called have provinces to the have-nots. So they might be surprised to discover the ostensibly worse-off provinces in fact receive more lavish public services. Have- nots can staff their hospitals better, give students cut-rate tuition and fund more daycare, among other disparities, compared with ”œhave” provinces. Before we detail some of those inequities, here is a brief review of the program.

Canada’s equalization program was introduced in 1957 and is intended to ensure that residents of all 10 provinces enjoy comparable access to important public services such as education, health and social assistance. The theory behind equalization is that it is easier for governments of more-prosperous provinces to raise tax revenue to finance programs than it is for governments of poorer provinces. The equalization program thus transfers money to poorer provinces (through federal taxes), so the latter can provide comparable government services, which they might not be able to pay for with the funds raised through provincial taxes alone.

In 1982, this particular program was embedded within the Constitution and is described in subsection 36(2) of the Constitution Act, 1982: ”œParliament and the govern- ment of Canada are committed to the principle of making equalization payments to ensure that provincial govern- ments have sufficient revenues to provide reasonably com- parable levels of public services at reasonably comparable levels of taxation.”

For the record, this section of the Constitution has often led to the claim that ”œequalization is constitutional,” with the concurrent assumption is the program is thus unchangeable. However, the Constitution does not man- date any particular level of support nor a specific design. Had it done so, it would have been impossible for the Liberal government to cut equalization payments, as they did in the mid-1990s.

In addition, and also worth noting, as Burton Kellock and Sylvia LeRoy pointed out in a 2006 Fraser Institute study, ”œthis debate over the specific requirements of the Constitution’s equalization commitment ignores a more fundamental issue: equalization uses federal revenues to fund spending in areas of provincial jurisdiction. As a result, its legality can- not be resolved without considering the larger question of the federal gov- ernment’s spending power.”

Constitutional quibbling about it aside, equalization functions by tak- ing federal tax dollars and distribut- ing them to provinces that are determined to have a low per capita fiscal capacity, which is the ability to generate government revenue from the tax base. The formula used to measure fiscal capacity is extremely complicated and takes account of 33 different revenue sources. If the fiscal capacity of a particular province is found to be lower than the average of five chosen provinces (British Columbia, Saskatchewan, Manitoba, Ontario and Quebec), that province will receive equalization payments. Provinces with fiscal capacity above the five-province average do not receive payments, and provinces where fiscal capacity falls below the average receive per capita payments that are determined by the size of the gap between themselves and the five- province average.

The intention underlying the equalization program " to ensure Canadians in poor provinces have access to high-quality government services " is a good one. However, economists and political scientists have identified several ways in which this program has adverse, unintended consequences that stifle productivity and undermine democratic accounta- bility in recipient provinces.

One undesirable effect of the equalization program is that it provides a disincentive for poorer provinces to increase their productivity and to pro- mote economic growth. As a province’s economy develops and its capacity to raise taxes increases, Ottawa withdraws the equalization payments.

In some situations, lost equaliza- tion payments can offset increased local tax generation dollar for dollar. This means that provinces that receive large equalization payments can find themselves in a situation where even successful efforts to pro- mote economic growth bring no addi- tional revenue into the provincial treasury. In short, increased tax dollars simply take the place of with- drawn equalization dollars. Clearly, this has the potential to breed com- placency about the necessity of pro- moting growth in poorer provinces.

A second major problem created by large equalization payments is that they undermine democratic account- ability by making it impossible for voters to know which politicians to hold accountable for perceived prob- lems with service delivery. Federal transfers, which include equalization, represent a large portion of the over- all revenue of several have-not provinces. In Quebec and Manitoba, approximately one-quarter of the provincial government revenue comes from major federal transfers. In the recipient Maritime provinces, Prince Edward Island, New Brunswick and Nova Scotia, major federal trans- fers constitute approximately one- third of total provincial government revenue.

This state of affairs has serious consequences for democratic account- ability. When citizens are unhappy with the quality of provincial services, it is often difficult to determine whether federal or provincial authori- ties are responsible for perceived problems. Furthermore, as Brian Lee Crowley, the founder of the Atlantic Institute for Market Studies, points out, the equalization process creates an incentive for have-not provincial governments to spend freely, since they recognize that taxpayers in other provinces will be forced to cover a sig- nificant portion of any new spending programs.

Although these objections to the equalization program are strong ones and are supported by empirical research, this policy study will exam- ine a third criticism of equalization. It is closely linked to the two already described: equalization overshot its target by trans- ferring huge sums of money to recipient provinces and thus made access to government services more difficult in wealthy provinces compared with recipient provinces.

To put it another way, in some cases the ostensibly wealthier provinces are subsidizing services in the have-nots that are better (or more available) than those their own citizens can access " a problem that has been raised by various commentators but has not yet (to our knowledge) been examined.

To examine this claim, we compare 10 indicators of government services in the 10 provinces " in policy areas under provincial control. These indicators are tightly linked to the availability of financial resources and are therefore useful for examining the claim that equaliza- tion has created an unfair situation in which donor governments face tighter fiscal constraints than do recipient governments.

In 2009/10, six provinces received equalization payments: PEI, New Brunswick, Manitoba, Nova Scotia, Quebec and Ontario. As figure 1 shows, however, Ontario’s per capita equalization payments were minuscule when compared to those of the other five provinces in the past year. Furthermore, whereas the other recipi- ent provinces have received equaliza- tion payments throughout recent years, 2009/10 was the first time in its history that Ontario received any equalization payments.

Due to the extremely small size of Ontario’s equalization receipts, the real- ity is that these payments were a histor- ical anomaly, and the fact is that when other federal transfers are taken into account, Ontario is by far the largest net contributor to Confederation. Thus, for the sake of analysis in this paper, Ontario will be considered a paying province rather than a recipient province. Also, we assume Ontario’s sit- uation to be temporary.

Among scholars of economic fed- eralism in Canada, the decision to clas- sify Ontario as a paying province would be noncontroversial. According to one estimate, Ontario’s net contri- bution to the federation (all programs including equalization) was $26 bil- lion in 2007/08. Alberta, with a population of just over 3.3 million people, was estimated to have a net contribu- tion of $15 billion during the same fis- cal year.

These two provinces clearly con- stitute a distinct category, and they are the two major subsidizers of gov- ernment activity in the have-not provinces. When all federal transfers are lumped together and net federal fiscal contributions are calculated per family, the severe imbalance for Canadian families in different provinces becomes even more appar- ent. A three-decade overview pro- duced in 2005 by the University of Calgary’s Institute for Sustainable Energy, Environment and the Economy shows the average Ontario family of four paid $3,032 annually to other provinces between 1961 and 2002, while the British Columbia family gave $1,712 each year. An Alberta family paid out over $10,000 every year.

That Ontario should be classified as a paying province rather than a recipient province is further demon- strated by a consideration of the size of federal transfers to each province as a percentage of total government revenue. Figure 2 demonstrates there is a clear division between major equalization recipient provinces and the paying provinces in terms of the share of provincial government rev- enue that comes from major federal transfers. In the have-not provinces, federal transfers constitute between 25 percent and 35 percent of provin- cial revenue. In the have provinces, the importance of major federal transfers is much smaller, between 7 percent and 16 percent. Ontario clearly belongs to the latter category for this measure of fiscal independ- ence, which provides further evi- dence that Canada’s most populous province should be classified as a paying province for an analysis of the impact of equalization and other federal transfers on government activity.

As figure 2 shows, PEI, New Brunswick, Manitoba, Nova Scotia and Quebec are the major equalization recipient provinces. In what follows we will compare provincial government services in these provinces with those in Alberta, Ontario, British Columbia, Newfoundland and Saskatchewan, in order to analyze where there is a systematic relationship between the receipt of equalization pay- ments and government services.

Across Canada, on average, there are 20.3 regulated child care spaces for every 100 children of preschool age. All four of the provinces that have levels of daycare access that exceed the Canadian average are have-not provinces that receive equalization payments. Furthermore, the five provinces that provide the fewest regulated daycare spaces per capita are the five paying provinces that do not receive substantial equal- ization payments.

The operation of public schools falls under the jurisdiction of the provincial governments. Although there is a complex debate about the importance of class size to successful elementary school education, at the very least, class size is a useful indica- tor of the funds available. The elemen- tary school student-educator ratio is therefore a useful indicator of the gov- ernment resources that are available for public schools. This measurement is broader than class size, as it includes personnel outside the class, like princi- pals and counsellors.

A low student-educator ratio is a strong indicator that a province has substantial resources available for pub- lic school funding. Conversely, a par- ticularly high student-educator ratio suggests funds may be in short supply, as it means that a province has not staffed its schools at the same levels as other provinces.

The recipient provinces tend to have significantly lower student-edu- cator ratios than do the donor provinces. In other words, schools in less wealthy provinces tend to hire more educators than schools in the provinces that pay into the equaliza- tion program. Of the five provinces with the fewest students per educator, four are have-not provinces.

Although have-not provinces generally have smaller student-edu- cator ratios, there are two exceptions to this. First, Newfoundland, an equalization-paying province (albeit through federal taxes and not direct- ly), has the smallest ratio in the country. Second, New Brunswick, a recipient province, has a student- educator ratio that is slightly higher than the national average. Despite these exceptions, ratios in recipient provinces tend to be significantly smaller than those in donor provinces. The provincial average for this indicator across the five recipi- ent provinces is 14.3 students per educator. In the five donor provinces, the average is 15.1 stu- dents per educator.

Throughout Canada, undergradu- ate university education is heavily subsidized. In each province, students and their families bear only a fraction of the total financial costs of a univer- sity education, with much of the remainder being borne by the province.

The relationship to equalization receipts is not as strong for this indica- tor as it is for the two other education indicators. Nonetheless, four donor provinces " Saskatchewan, British Columbia, Alberta and Ontario " have average tuition levels well in excess of the provincial average (figure 3). For this indicator, comparing Alberta and Ontario to Quebec clearly illustrates the effects of the equaliza- tion program. Quebec is the biggest recipient of equalization dollars. The billions in equalization money the province receives enables Quebec to offer undergraduate tuition that is sub- stantially cheaper than what is avail- able to the taxpayers in the have provinces who pay those bills.

One of the major expenses associ- ated with the provision of health care is the compensation of physicians. The number of physicians per 100,000 population is a useful measure of the availability of health care services and hospital capacity, and it is an indicator of the availability of health care resources in a province.

The three major donor provinces, British Columbia, Alberta and Ontario, once again fare between poor and average on this indicator. British Columbia has 198 doctors per 100,000 people, Alberta has 197 and Ontario has just 176 doc- tors per 100,000, which is well below the national average and ahead of only two provinces.

Once again, for this indicator, a comparison between Quebec and the major paying provinces " Alberta and Ontario " is revealing. Quebec has 217 doctors per 100,000 population, which brings the province to the sec- ond rank in Confederation behind another have-not province, Nova Scotia, which has 228 physicians for every 100,000 people (figure 4).

The number of registered nurses per 100,000 population is also a useful measure of the availability of health care services and hospital capacity, and it is an indicator of the availability of health care resources in the provinces.

There are substantially more nurs- es as a share of the population in the equalization recipient provinces than in the paying provinces. The three provinces with the fewest nurses as a share of the population are all paying provinces.

The three major paying provinces, British Columbia, Ontario and Alberta, have the lowest, second-lowest and third-lowest number of registered nurses as a proportion of their popula- tion in the country. The major excep- tion to the general pattern for this indicator is Newfoundland, which has the largest number of nurses per 100,000 population in Canada.

When one examines the five- province average for the have and have-not provinces, the gap in this indicator of health service availability becomes evident. The five have-not provinces have an average of 833 nurses per 100,000 population. The average for the five paying provinces is 746 nurses per 100,000 population. This means that the provincial aver- age for this indicator is 12 percent higher in the have-not provinces than in the haves.

For elderly Canadians who require care that cannot be provided in the home, long-term institutional care is often necessary. When there are insuf- ficient beds in long-term care homes for chronically ill seniors, patients who would be better off in residential care are diverted to hospitals.

Some caution is required in the interpretation of this indicator, as it may be driven in large part by demo- graphic factors. Nonetheless, as with doctors and nurses per capita, the number of long-term residential-care beds available is a useful comparison of government benefits available in each province, as is any disparity.

Once again, this indicator sug- gests there are greater financial resources in the health care systems of the have-not provinces " provided in large measure by the have provinces of British Columbia, Alberta, Saskatchewan, Newfoundland and Ontario (in most years). The three provinces with the fewest residential- care beds per capita are have provinces under equalization. The two provinces with the most residen- tial-care beds per capita are have-not provinces. Unfortunately, Quebec does not report data for this indicator to Statistics Canada. The three major contributing provinces to Confedera- tion, British Columbia, Alberta and Ontario, have the fewest, second- fewest and third-fewest long-term res- idential-care beds in Canada as a proportion of population.

The four-province average for the have-not provinces that do report data is 1,315 residential-care beds per 100,000 population, compared to the 966 aver- age in the five paying provinces.

The average in the four recipient provinces for which we have data is therefore 36 percent higher for the recipient provinces than the average in the five paying provinces. If PEI is excluded because of its small popula- tion and extremely large number of residential beds per capita, the three remaining have-not provinces still average 20 percent more residential- care beds per 100,000 population than the five have provinces.

Now we turn to an indicator that measures the percentage of households in each province that divert a significant share (1 percent) of their annual income to purchasing pre- scription drugs. Although this indicator is strongly influenced by other factors " such as demographic variables " it is still a useful measure of the extent to which residents of each province are insulated from heavy out-of-pock- et expenses for pharmaceuticals by government subsidies.

On this indicator, and counter to the trend that has emerged in the indicators examined so far, more residents of have-not provinces incur large out-of-pocket expenses for pre- scription medication than do resi- dents of the have provinces. The two large contributors to Confederation, Ontario and Alberta, have the small- est portion of their populations spending more than 1 percent of their annual income on pharmaceuti- cals in 2008. Of the three provinces that have the largest proportion of their population incurring substantial out-of-pocket expenses for pre- scription drugs, four are have-not provinces (figure 5).

Social services spending includes a wide range of government programs, most of which take the form of cash transfers to individuals. Some of the programs in this category of govern- ment activity are social assistance, income maintenance and family allowance.

There is not a strong relationship between equalization receipts and social service levels. Although the three provinces with the lowest social services spending per capita are have- not provinces, Quebec, another have- not, has the highest level of spending per capita. The five-province average for this indicator is similar for the have and have-not provinces: the average spending level for the five have provinces is about 3 percent higher than the average in the have-nots.

Perhaps the most important responsibility of government is law enforcement. One major expense associated with the provision of law enforcement is the compensation of police officers. They are primarily hired at the provincial and municipal levels. Since municipalities are con- stitutionally creatures of the province, and most hiring takes place at these two levels of government, the number of police officers as a pro- portion of the population is a useful indicator of the availability of fiscal resources for this important govern- ment function.

On this measurement, there is no clear relationship between equal- ization receipts and police officer employment across Canada. The five- province average for the paying provinces and the five-province average for the recipient provinces are nearly identical. Alberta has a below average number of police officers as a propor- tion of the population, and Ontario is very close to the national ratio.

There is also evidence that the government bureaucracy absorbs some of the additional funds that are transferred to the have-nots through equalization, sometimes in inefficient ways. If a clear relation- ship exists between equalization receipts and the size of the public service, this suggests that equaliza- tion transfers have the noticeable effect of subsidizing the employ- ment of additional civil servants in the have-not provinces. As it hap- pens, the have-not provinces employ significantly more provincial-level public servants than the have provinces do.

The three provinces that employ the most provincial public servants as a proportion of population " PEI, Manitoba and New Brunswick " are all have-not provinces. The three provinces with the fewest provincial public servants per capita " Ontario, British Columbia and Alberta " are all have provinces. They have, respectively, the fewest, the sec- ond-fewest and the third-fewest public ser- vants per capita in Canada.

We examined 10 indi- cators of govern- ment spending in order to analyze the relationship between equalization receipts and government services (table 1).

  • Three of these indicators were related to the area of education policy, four were related to health care and the remaining three were drawn from a range of dif- ferent areas of government activi- ty. Taken together, these ten indicators provide strong evi- dence of a relationship between the receipt of equalization pay- ments and heightened levels of government spending.

  • For 7 out of the 10 indicators, the have-not provinces displayed, on average, markedly higher levels of government spending than did the have provinces.

  • For two of the indicators, no rela- tionship was found. For just one indicator, prescription drug sub- sidization, the have provinces showed evidence of a higher level of government spending and/or higher levels of govern- ment services.

The provision of more government services in the have-not provinces is a predictable consequence of equalization transfers. The equalization program has the effect of subsidizing government spending in poorer provinces. When an activity is subsidized, more of it tends to occur. Whereas Albertans know they will pay for every dollar of provincial government services they receive, Manitoba voters face a situation in which voters in other provinces will pay a certain percentage of the cost of any proposed government action. This caus- es Manitoba voters to demand higher levels of government spending than they would support if they had to pay the full cost of that spending.

To summarize, the data point to two major, closely related conse- quences of the equalization program.

  • Because they know they will not pay the whole cost of government spending, voters in have-not provinces have an incentive to demand more government spend- ing than they would support if they were bearing the entire cost.

  • As a result of the financial strain on taxpayers from making equal- ization payments to the have-not provinces, as well as the phenom- enon described above, govern- ments in paying provinces often provide lower levels of govern- ment services than governments in have-nots. This means the tax- payers of paying provinces ulti- mately subsidize higher levels of government spending and services elsewhere than they themselves receive (table 2).

The data presented here show that in many important ways resi- dents of the have provinces of British Columbia, Alberta and Ontario receive lower levels of government services than do taxpayers in the have-not provinces whose govern- ment activities they subsidize. This is inequitable for taxpayers in the provinces that are the major financial contributors to Confederation. What makes the situation particular- ly troubling is that equalization pay- ments to many of the have-not provinces have grown quickly over the past few years. In fact, equaliza- tion payments to Quebec have increased by 74 percent since fiscal year 2005/06. Equalization payments to Manitoba have increased 29 percent during this period, and payments to New Brunswick have increased by 25 percent. Consider- ing that these provinces are already providing more extensive govern- ment services than British Columbia, Alberta and Ontario in several key areas, continued growth in equaliza- tion payments should not be permit- ted in coming years. This is particularly important because of the severe economic slump in which Ontario is mired.

The long-term objective of federal government policy should be to elim- inate the equalization program alto- gether. As a short-term measure, provincial equalization receipts should be immediately frozen in order to protect taxpayers in paying provinces. In the medium term, the government’s objective should be to reduce equalization payments to the provinces, and in the long term, it should be to eliminate such payments by negotiating away equivalent tax room to the provinces on the condi- tion that, in exchange, equalization payments end.

 

This article is adapted from a study pub- lished by the Frontier Centre for Public Policy (www.fcpp.org) in February 2010.