The team of IMF economists that keeps an eye on Canada just completed its annual field trip to the True North. The visitors’ takeaway: We’re edgy, but not in the cool way.
“Economic anxiety is high,” they observe in the concluding statement on their 2018 mission, which ended in Ottawa on June 4 and included a couple of extended trips in May with stops in Vancouver, Montreal, Quebec City, and Toronto.
The International Monetary Fund is used to dealing with states on the brink of collapse, so it’s important to keep things in perspective: angst over our inability to build a pipeline is different than the stress induced by hyperinflation or mass layoffs when a country can’t pay its bills. Canada’s gross domestic product grew three per cent last year, which the IMF called “robust.” It predicts growth of about two per cent this year and next, which is faster than the country’s non-inflationary speed limit.
Still, Canada is coping with its share of First World problems at the moment.
The Bank of Canada reminds us regularly that one of the reasons it’s had to keep interest rates so low is because of our “competitiveness challenges.” We’ve been fretting for nearly a year about the future of the North American Free Trade Agreement. U.S. President Donald Trump’s tax cuts may or may not have induced capital flight. And just last week, we watched Prime Minister Justin Trudeau get in the gutter with Trump, threatening retaliatory tariffs after Canada lost its exemption from U.S. duties on aluminum and steel.
Oh, and there’s housing market. How could I forget the housing market?
The IMF will have more to say at a later date; the statements its staff produce at the end of their exploratory trips are mostly first impressions. Still, there are interesting observations in the four-page statement. There’s a little good news: the IMF’s observers made a point of saying they are less worried about the housing market, as tighter borrowing rules “finally” appear to be restraining real-estate prices and credit growth.
That could bolster confidence in the short term. But the near future isn’t Canada’s problem. That anxiety is about the longer term, and the IMF says there is reason to worry. “Over the medium-term, weak external competitiveness, sluggish labor productivity growth, and population aging are expected to limit potential growth to about (1.75 per cent), significantly lower than its historical average,” the statement said.
The Prime Minister’s Office will dislike yet another voice pointing out that Trudeau’s Canada is struggling to keep pace in a fast-changing global economy. An uncommon number of corporate leaders have lamented the country’s longer-term prospects in recent months, as have many economists, in particular those who see tax rates as the primary determinant of wealth creation.
“Canada, and Canadians, are competitive,” Finance Minister Bill Morneau protested, perhaps a little too much, in an op-ed piece in the Financial Post last month before his government bought the Trans Mountain pipeline because no one else was willing to accept the political risk posed by British Columbia’s minority government, dozens of legal challenges and an emboldened environmental protest movement.
Policy changes could alter the trajectory of Canada’s potential growth rate. The IMF offers plenty of simple suggestions, including “rapid ratification” of the 11-country Trans Pacific Partnership to help diversify export markets. But the most important recommendation might be the one on taxes.
The IMF agrees with those who say that Canada risks losing investment to the U.S. because it has lost its corporate tax advantage. It called for a “careful rethink” of the way it taxes companies. “The U.S. tax reform increases the urgency of moving ahead with the review,” the statement said. “Its impact remains highly uncertain, but the potential effects, through both real activity and profit shifting, could be substantial.”
Morneau and Trudeau would solve a lot of their problems with the business community if they took the IMF’s advice.
Last month, I asked Michael Sabia, the chief executive of Caisse de dépôt et placement du Québéc, about competitiveness. He agreed Canada has a problem, but he wasn’t convinced the answer was as simple as matching Trump’s tax cuts.
“The last time the Canadian tax system was looked at in a comprehensive way was before the invention of the internet; a lot has changed about how value gets created since then,” Sabia said to me and a couple of other reporters on the sidelines of the C2 Montreal business conference. “It’s not just the Canadian government, it’s across the board, we need to make sure we have a tax system that is consistent with and supportive of knowledge-based industries.”
And yet you don’t get the impression that the federal government is interested in tax reform. Morneau says his department is studying the effects of the U.S. tax cuts, but he’s given no indication that he’s up for a top-to-bottom review. Trudeau said at an event hosted by Bloomberg News in Toronto last week that he was uninterested taking part in a “race to the bottom” on taxes.
But no serious person is advocating such a thing. The IMF said a review could weigh the benefits of incremental changes, such as simply rewarding investment, to more “radical options,” such as punishing legacy companies that take advantage of their near-monopolies to profit without contributing much to the economy.
That sort of review of the tax policy would make some of Trudeau’s critics nervous, which is exactly why he should do it.
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