Canadian economic performance has been plagued by weak growth in private investment, productivity and output for more than a decade. The tariffs implemented by the U.S. administration have magnified Canada’s economic malaise and reinforced the need for a more robust economic pathway with reduced reliance on the U.S. Broad tax reform should be part of a strategy to build resilience and fuel growth.
What would a new direction look like? My recent research report for the CSA Public Policy Centre, “Building Resilience: The Next Phase of Economic Development and Growth in Canada,” identifies promoting domestic economic growth as the top priority, one that is entirely within our control. Domestic action would be supported by accelerating global trade diversification, renewing and respecting the Canada-United States-Mexico Agreement (CUSMA) and speeding up adaptation to climate change and the low-carbon energy transition.
The report recommends promoting domestic economic growth primarily by eliminating internal barriers, pursuing a sustained increase in public and private investment and advancing broad tax reform to create better economic incentives and reduce tax administration. The federal government and various provincial governments are now focusing on strengthening investment and removing internal barriers. But broad tax reform has received little public attention even though it too can provide an important boost to the Canadian economy’s growth capacity. Let’s consider the benefits of tax review and reform.
Taxes have two core purposes: to generate revenues for governments and to provide desirable incentives or disincentives. The last comprehensive review of the Canadian tax system, the Carter Commission, was six decades ago which is a long time to go without a complete health checkup.
Six decades of piecemeal change
Since then, successive federal and provincial governments have pursued some worthwhile tax reforms, such as eliminating the ancient and distorting federal sales tax on domestic manufacturing and replacing it with the goods and services tax in 1991, plus harmonizing the GST in stages with some provincial sales tax systems.
But numerous other tax credits, tax expenditures and one-off modifications have also been introduced over the years, budget after budget, for both economic and political purposes. There’s been minimal consideration of the overall impact on the economy, the working of the tax system or the added administrative and compliance burden. To administer this complex and convoluted tax system, staffing levels at the Canada Revenue Agency have grown by nearly 22 per cent since 2015.
Non-partisan research organizations have signaled the need for broad tax review and reform. Fifteen years ago, as chief economist at the then-Conference Board of Canada, I led a research program on tax reform that focused on improving positive incentives for investment and work effort while easing administration.
A blueprint for growth and simpler taxes
More recently, research by the C.D. Howe Institute called for sweeping tax reform designed to simultaneously improve growth, reduce distortions and simplify compliance and administration. To improve incentives to work and invest and reduce compliance costs, it proposed lower marginal tax rates on both personal and corporate income, combined with significant simplification and elimination of tax exceptions to reduce complexity. To offset lower income tax rates, a shift toward fewer distortionary sources of revenue is proposed, including either an increase in the GST rate (from 5 to 7.8 per cent) with an enhanced low-income rebate or the introduction of a new employer-paid payroll tax dedicated to health care. The overall reform could be revenue-neutral in the short term.
Widespread public support would be critical to make such fundamental changes politically feasible. A depoliticized and arms-length process will likely be required to build public support for fundamental tax reform. Establishing a royal commission or federal expert panel would provide an independent forum where subject matter experts could review the current tax system and undertake analysis on the expected benefits of pro-growth tax reform and simplified tax administration.
As part of such an exercise, all current tax incentives and tax expenditures should be reviewed to assess whether they are effective and cost-efficient. Tax incentives are very expensive in aggregate (estimated at $117.9 billion in 2015, according to a 2017 Finance Department report on federal tax expenditures) and can be distorting. Yet there is often limited public evidence that they have achieved their intended objectives. It’s time for a comprehensive tax-system health checkup.
Tax reform can strengthen economic resilience
Smart pro-growth domestic economic policy would strengthen Canadian economic resilience, mitigate the ongoing U.S. tariff and other threats and optimize benefits to Canadians. Broad tax reform should be a key element of a pro-growth agenda, starting with an arms-length review of the current tax system. Some initial progress has been made in redefining economic priorities, primarily by the federal government, but there is much more work to do to complete and articulate the strategy, build consensus and convert policy into action.
