The March 23, 2004, federal budget can lay claim to be the formal launching pad for what might be termed ”œhourglass federalism,” namely the growing range of federal government initiatives that bypass the provinces and deal directly with citizens and cities, leaving the provinces as the squeezed middle of the division-of-powers hourglass, as it were. To be sure, this did not begin with the 2004 budget. Indeed, in the wake of the new fiscal relationships arising from Paul Martin’s 1995 budget, federal incursions into the various (inherently provincial) areas such as education/human capital and welfare have become budgetary commonplace. However, what is remarkable about the 2004 budget is that it extends this provincial end run to embrace the cities which, constitutionally, are creatures of the provinces. Among other things, the budget details the composition of municipal revenues, expenditures and debt structures by province as part of the section The Importance of Communities, one of the five priority areas highlighted in the budget. Finance Minister Ralph Goodale is surely correct when he notes that the many provisions in the budget relat- ing to cities constitute ”œa historic com- mitment to forge a New Deal for Canada’s communities.”

This is enough of a preview of the ensuing storyline to frame the issue at hand, namely the de facto evolution of the division of powers in ways that privi- lege Ottawa and citizens/cities at the expense of the provinces. The associated issue is that the force driving this evolu- tion is Ottawa’s superior fiscal position and its creative exercise of the federal spending power, on the one hand, and the (related) inability of the provinces to find revenues to finance anything other than medicare, on the other.

The analysis begins by addressing how and why the federal govern- ment might want to enlarge its sphere of policy influence. The answer has to do with the policy and electoral implica- tions arising from the new global order, both the globalization component and the knowledge/human-capital compo- nent. Attention will then focus on the ways in which Ottawa has levered off its favourable fiscal balance vis-à-vis the provinces to make inroads in key areas that were traditionally viewed as falling under provincial jurisdiction. This will be followed by an elaboration of some of these policies as they affect citizens and cities as well as the range of options open to the provinces to counter these incur- sions. The essay ends with a few reflec- tions about where this process is likely to lead Canadian federalism.

Canadians are masters at the art and practice of reworking the struc- tures and processes of federalism to address external and internal chal- lenges. In terms of altering the formal structures, several constitutional amendments were pivotal, most notably the Constitution Act 1982 replete with patriation and the Charter but, as well, the earlier amendments that transferred UI/EI and a role in pen- sions to the federal government. However, it is on the process front that Canadian federalism has been most any, change in the written constitution- al word. Essentially, it was driven by shifts in expenditure responsibilities " from the provinces to Ottawa in the Depression and WWII and back to the provinces over the last 50 years " which were accommodated by corre- sponding shifts in tax shares. Beyond this, variations in the mag- nitude and the nature of intergovernmental transfers have been tantamount to changes in the effective divi- sion of powers, with a shift in the direction of uncondi- tional transfers facilitating enhanced decentralization, and vice versa. More recently, the policy spillovers arising from the increased north-south trade integration have led to a series of new instrumen- talities that have embraced federal- provincial co-determination, the best example of which is the Social Union Framework Agreement (SUFA). The core message in all of this is that where there is a Canadian need and will to alter the division of powers, there clearly is a Canadian way.

The issue then becomes whether globalization and the knowledge/infor- mation revolution are indeed creating a need for a rearrangement of federal and provincial powers. The case that one might make for an enhanced federal role and reach would have at least three sepa- rate prongs. The first relates to the shift from a resource-based society and econo- my to a human-capital or knowledge- based society and economy. Among other things, this means that societal investments in knowledge and human capital formation progressively hold the keys to wealth creation, to competitive- ness and to ameliorating the income-dis- tribution implications arising from globalization. It should not come as a surprise that as long as issues relating to Canada’s competitiveness and citizens’ standards of living are at stake, Ottawa will become a key policy player irrespec- tive of what the Constitution might say.

The second has to do with the emer- gence of global city regions (GCRs) as the dynamic motors of the new economy. This also relates to competi- tiveness in the dual sense that these GCRs are leading their respective regions’ inroads into NAFTA economic space and that GCRs are the key nodes in the knowledge/human-capital net- works. Indeed, I endorse the view of Simon Fraser’s Richard Harris that Canadians’ standard of living will come down to how successful our global city regions are relative to American GCRs.

The third, and perhaps overarching, argument for an increased federal pres- ence relates to the fact that the essence of nation-building and electoral salience have also shifted away from resource- based mega-projects and toward citizen- driven infrastructure and policies in areas like health, education and income distri- bution. And whereas these former mega- projects tended to be rural, citizen nation-building is predominantly urban. Unfortunately, from Ottawa’s stand- point, most of these areas fall under provincial jurisdiction. But since electoral success is the sine qua non of politics, it is only a matter of time before competition among federal parties and between feder- al and provincial politicians will ensure that Ottawa will become involved in more direct ways with citizens and cities.

Intriguingly, except for the intro- duction of the Canada Child Tax Benefit (CCTB) in the 1997 federal budget, the earlier-noted and time-honoured ways to accommodate a need/desire to alter the de facto division of powers have not proved to be of much use in this con- text. This is so because the provinces do not share the federal desire to alter juris- dictional responsibilities and, therefore, do not see the need to alter either the structures or processes of Canadian fed- eralism. Hence something else was needed to propel the division of powers in Ottawa’s direction, and as already noted this turned out to be the federal government’s superior fiscal position and the accompanying federal spending power. To be sure, the underlying moti- vation here was to put the federal fiscal house in order, with the implications for the division of powers more a matter of result than intent. The relevant point, however, is that not only were the driv- ing forces fiscal in nature, but they were embodied in successive federal budgets.

As part of his watershed 1995 budget, Finance Minister Paul Martin folded the Canada Assistance Plan (CAP) and Established Programs Financing (EPF) into the new Canada Social Transfer (CST) and proceeded to pare the Canada Health and Social Transfer (CHST) cash transfers from $18 billion to $11 billion. This deficit shifting to the provinces was an essential com- ponent of Martin’s ”œcome hell or high water” commitment to taming the federal deficit. Received wisdom in the federal corridors of power was that former finance minister Michael Wilson’s earlier attempt to slay the deficit dragon came up short, in part because the Mulroney Tories did not want to cut transfers to the provinces, at least not during the delicate 1987-90 ratification period for the Meech Lake Accord. The Chrétien Liberals did not make the same mistake, with the result that Canada’s fiscal turnaround (with Ralph Goodale delivering the seventh consecutive federal surplus and forecasting two more) was and is so successful that Business Week has labelled this feat ”œThe Maple Leaf Miracle.”

Some analysts have claimed that these 1995 cuts in CHST cash transfers to the provinces have destroyed Canada’s health care system. Actually, the opposite seems to me to be closer to the truth, namely that the CHST cuts compromised every provincial program except medicare, since gutting medicare would spell certain electoral defeat. In this context, it is important to recall that by 1995 the health share of federal cash transfers had already fallen from roughly 26 percent to 16 percent (see attached table). Indeed, one of the more popular indoor sports in that time frame for the fiscal federalism crowd was to predict when federal cash transfers to the provinces would fall to zero. This would occur because the pre-determined overall tax-plus- cash transfer was growing slower than the tax transfer sub-component, with the result that the cash transfer (as the residual component) would eventually fall to zero. While the 1995 CHST cuts may have hurried this process along, the pre-existing status quo was itself not sustainable. Those wishing to make a case that Ottawa destroyed medicare are better to focus on the era of federal surpluses (1997-98 and beyond) when the federal government did have ample revenues to put medicare on a stable longer-term funding path, but chose not to do so.

This caveat aside, the ongoing reality is that provincial governments have no choice, electorally, but to trim proposed spending increases from here, there and everywhere to sustain medicare. And as health budgets inex- orably approach 50 percent of provin- cial program spending, provinces will have to dip deeper and deeper into the existing spending levels of other policy areas in order to keep medicare afloat. Alternatively, they can choose to pri- vatize or otherwise pass on the costs of these other policy areas to users, as is the case with rising tuition fees for post-secondary education (PSE).

Janice MacKinnon, who has a special insight into all of this as both a politician (minister of finance in Saskatchewan responsible for major cuts to the province’s health budget including the closing of 52 hospitals) and a policy ana- lyst (author of Minding the Public Purse, among other contributions) applies the label ”œunsustainable” to medicare. One aspect of this label relates to the continu- ous upward trajectory of health costs. Intriguingly, however, MacKinnon is more concerned about another definition of unsustainability, namely the fact that provincial finance minis- ters cannot long sustain a situa- tion where health begins to occupy near 50 percent of pro- gram spending with continuing deleterious effects on all other policy areas.

The provinces were truly trapped. The small and unpredictable dollops of new federal cash transfers were not sufficient to meet citizen demands on the health care front, so that the only recourse was to starve other provincial spending areas. It was only a matter of time before citizens welcomed possible federal intrusions in these non-health policy areas, to which the analysis now turns.

The 1997 budget provision creating the CCTB represents at one and the same time the apex of cooperative and collaborative federalism, and the begin- ning of the federal end run around the provinces. In terms of the former, the proposal originated in the 1996 Report to Premiers as a way to develop a nation- al, yet flexible, approach to child pover- ty. Ottawa would deliver the refundable and income-tested child tax benefit and the provinces, for their part, could real- locate the equivalent amount of fund- ing from welfare to other policy areas dealing with low income families with children. This exercise in co-determina- tion was carried over to the creation of the SUFA, a most innovative federal- provincial instrument, but one that unfortunately now seems mostly hon- oured in its breach, largely, I suspect, because Ottawa’s superior fiscal posi- tion no longer requires it to be atten- tive, let alone accommodative, to the provinces’ budgetary needs.

In terms of new economy priori- ties, the CCTB can be viewed as a replacement for some or all of the for- mer Canada Assistance Plan. Whereas CAP funding went to the provinces, the CCTB is a direct transfer to low and middle-income Canadian families. This is the appropriate juncture to emphasize that Ottawa’s end run around the provinces may well involve creative and efficient policy measures, as is clearly the case with the CCTB.

On the learning or human capital front, the federal government has been very active " Millennium Scholarships, Canada Research Chairs, measures to support early childhood development, and various measures relat- ing to education and tuition tax credits. The Goodale budget included, among other initiatives, a Canada Learning Bond for children of low-income families ($500 at birth and $100 per year up to age 15), provisions for enhancing generosity of the Canada Education Savings Grant, and a $3,000 grant for first year post-secondary students from low-income families. With these and many related measures Ottawa has clearly signalled that skills and human-capital enhancement (and ensur- ing equality of access thereto), are and will continue to be major federal priorities, as befits a knowledge/information era.

In terms of the cities agenda, beyond the GST tax relief ($7 billion over 10 years) and accelerating the spending of the existing $1 billion infrastructure fund, the 2004 budget has promised to revisit in later budgets the Speech from the Throne provision for sharing a proportion of the federal gas tax with the municipalities.

On the process front, Ottawa has prom- ised to provide a stronger voice to munic- ipalities on the full range of federal policies and programs that are important to them. Prime Minister Martin has appointed a parliamentary secretary to lead the efforts in providing a ”œNew Deal” for communities and has created an External Advisory Committee on Cities and Communities while Finance Minister Ralph Goodale has, for his part, commit- ted the minister of finance to annual, pre- budget consultations with the Federation of Canadian Municipalities. All in all, a rather comprehensive package, eagerly awaiting a goodly share of future surplus- es for its implementation. And all in an area that was traditionally thought to be off limits to Ottawa.

Not surprisingly, perhaps, the cities fully welcome these initiatives. They clearly prefer to have two patrons than one, they want direct access to federal infrastructure funding to put them on a level playing field with their US counterparts, and they welcome being brought more fully into the fed- eral decisions relating to them. And most of all they welcome an enhanced federal presence in their lives because, returning to the theme of this essay, the provinces are effectively broke.

Finally, the provinces are even being boxed in on the Medicare front. The controversial Health Council is up and run- ning. Goodale allocated nearly a half-bil- lion dollars to a new Canada Public Health Agency and a public health officer, both of which will report to the federal minister of health. Arguably these institu- tions should have been federal-provincial in nature, if not under the umbrella of the new Council of the Federation. Matters are not much better in terms of likely impacts of federal actions on provincial health expendi- tures. The various health agreements/accords appear to be moving in the direction of linking additional funding infusions to new health spending such as home care and catastrophic drug coverage. Moreover, with the CHST now split between a Canada Health Transfer (CHT) and the new Canada Social Transfer (CST), Ottawa will be tempted (and per- haps egged on by Canadians) to place conditions on any increases in the CHT or CST.

In all of this the provinces find themselves sandwiched from both above and below, as it were " caught between Ottawa’s spending desires/pri- orities in the information era and the citizens/cities genuine funding needs. The fact that the Constitution is (large- ly) on the provinces’ side is cold com- fort, given that creative processes and cities/citizens’ support will likely lead to a de facto political trump over any de jure provincial constitutional aces.

The provinces appear to be putting most of their hopes in the fiscal imbalance basket, to be carried forward by the newly created Council of the Federation. My assessment of this issue is that the provinces do indeed suffer from a fiscal imbalance. The claim that the provinces have access to virtually all tax bases so that a provincial imbalance is not possible simply does not hold water because Ottawa already has the lion’s share of direct taxes and further increases here are likely to create competitiveness problems, so that provinces are effective- ly stymied. There is more room on the indirect tax front, but the obvious tax base, the GST, is constitutionally available only to Ottawa. Moreover, if Ottawa has funds sufficient to contemplate major transfers or tax-sharing to the cities, this is itself evidence of a fiscal imbalance. Nonetheless, unlike the case a few years ago, Ottawa can now argue that it, too, no longer has any fiscal room to manoeuvre; it can legitimately claim to also have a series of under-funded priorities (such as Canada’s armed forces). I fear that public opinion will be with the provinces only insofar as the fiscal imbalance issue relates to increased (and presumably conditional) health care infusions, but no further. This is puzzling since one would have thought there must be some point at which deteriorating provincial public services in areas such as education, infrastructure, safety and the environment, among others would begin to rival medicare for pride of place in provincial budgets. Yet it is precisely this puzzle that feeds the shift toward hour- glass federalism.

The new global order has re-ori- ented Ottawa’s policy priorities toward issues relating to to citizens and cities. Since these areas tend to fall under provincial jurisdiction, the traditional way of privileging them would be by working with and through the provinces. However, for a variety of arguably legitimate reasons, Ottawa’s preference was to deal directly with cities and citizens. To make this possi- ble, Ottawa had somehow to secure dominion over the provinces. More by happenstance than by design, this fell into place as a by-product of Ottawa’s approach to taming the deficit. Specifically, the deficit shifting to the provinces on the one hand and the status of medicare as a defining Canadian value on the other led the provinces to protect medicare at the expense of virtually all other policy areas. And the upward trajectory of medicare costs exacerbated the prob- lems for provincial finance ministers. The inevitable result was that Ottawa’s fiscal superiority and the exercise of its spending power allowed it to target its new economy priorities directly, rather than going through the provinces. And Ottawa even gained a key meas- ure of control over medicare itself since the provinces became fiscal peti- tioners for increased health care fund- ing. While none of this was part of a grand design, Machiavelli nonetheless would have been proud.

It is not clear where all this leads. At one level, these existing trends may serve to establish a new status quo " one that resonates well with the principle of sub- sidiarity, i.e., passing powers down to cities. Moreover, it is far from clear that Canadians have any problems at all with this shift toward hourglass federalism.

What does seem clear, however, is that the only way for the provinces to extricate themselves from hourglass federalism in to create addi- tional fiscal room. And it seems that the only options here are to download some of the costs of medicare to citi- zens, or to upload some of the costs to Ottawa, or a bit of both. From the provinces’ vantage point (and proba- bly from that of citizens as well), the clear preference would appear to be for Ottawa to increase its cash transfers from their roughly 16 percent current share to the original 25 percent share, as recommended by Tom Kent, among others. This would commit Ottawa to be a partner in sharing future health care costs which, in turn, might set the stage for meaningful health care reform since both levels of govern- ment would now be on the same fiscal side of the issue. While this would sat- isfy provincial needs in the sense of taking a huge chunk of medicare fund- ing off their books, it is unlikely to sit well with Ottawa since it would be a roughly 50 percent increase in cash transfers that would, in turn, serve to tie their fiscal hands for the better part of an electoral mandate. Nonetheless, Prime Minister Martin has promised to sit down with the premiers this sum- mer (electoral gods willing) to discus alternative stable funding arrange- ments for medicare. By virtue of this promise, Martin has raised expecta- tions that Ottawa will deliver some permanent increases in funding, but a move to 25 percent seems a bit opti- mistic given the current budget fore- casts of the available surpluses looking forward.

There are of course alternative ways to take parts of medicare funding off provincial books. For example, some of the poorer provinces, looking at the health-care-related salary settle- ments in Alberta, may just say to Ottawa: Here, you take medicare, we can no longer afford it. Other provinces may follow Alberta’s route of funding parts of health care with dedi- cated premiums. And Alberta itself (and possibly Quebec, for other rea- sons) is the most likely province to be contemplating a new version and vision for medicare, perhaps toward a thorough privatization of health care.

The enduring Canadian reality in all of this is the everything still revolves around medicare!