UBC Reports | Vol. 48 | No. 4 | Feb.
21, 2002

B.C.’s public spending cuts: fiscal necessity?

This week’s provincial budget is based on unduly pessimistic
economic forecasts, argues UBC expert

The B.C. government has launched the most sweeping cuts to spending
and public services in the province’s history. In their words, they
“had no choice.” Without major program cuts and restructuring, B.C.’s
budget was headed toward “unsustainable” deficits.

The government’s policy choices have been guided by the dire findings
of its Fiscal Review Panel in mid-2001. The panel forecast B.C.
deficits growing to $3.8 billion in 2003/04, before reflecting the
personal and business tax cuts. Adding those tax impacts raises
the forecast deficit above $6 billion, an unprecedented figure for
any province.

The panel’s forecasts relied on highly pessimistic assumptions.
They assumed that revenue would grow only 1.6 per cent per year,
far below the five-plus per cent rate during the NDP administration.
They assumed that public spending would grow at an annual rate of
5.6 per cent, more than double the 2.3 per cent rate in the previous
five years. And the panel provided a large $1.25 billion “forecast
allowance” against the risk that the figures would come in even
worse.

By being very conservative in its assumptions, the panel obtained
fiscal forecasts that support a conservative move toward smaller
government. (The panel asserted that “tax increases are clearly
not an option.”) Unfortunately, those who will pay most dearly for
the policies resulting from a massive deficit forecast are lower-income
groups most dependent on public programs and services.

If one takes more realistic assumptions about economic and revenue
growth, the fiscal outlook is far less daunting. Then, a combination
of moderate spending restraint and a new revenue source could resolve
the structural deficit within several years.

Spurring the economy’s growth rate is fundamentally more important
than rapidly eliminating the province’s deficit. Faster economic
growth also advances fiscal sustainability, both because it raises
the rate of revenue growth and reduces the relative burden of outstanding
debt. Just as faster-growing businesses can comfortably handle larger
debt, so can faster-growing economies.

There is a risk of confusing policies that augment economic growth
with those that address fiscal balance. In some cases they are similar,
while in others they may differ. For example, cutting certain taxes
— such as those on business investment and skilled workers — may
augment economic growth, but it will worsen the budgetary balance.

The B.C. Government has legislated a 2004/05 target for balancing
the budget. Given its severe cuts on the spending side, more rapid
revenue growth than forecast could put the province into surplus
in 2004/05. How then would the government justify to disadvantaged
groups their hardships from program cuts that had proven, in the
end, to be avoidable?

If the economy is even weaker than forecast, that is all the more
reason to maintain social benefits and protections for vulnerable
members of society. Moreover, if the B.C. economy cannot grow significantly
faster with new “business-friendly” policies than it did under the
NDP, that would be reason to rethink the very basis of those policies.

The policy challenge is to find revenue and spending measures
that augment both economic growth and fiscal sustainability while
also satisfying social criteria. We need to devise a feasible alternative
policy course that would better insulate low-income and vulnerable
groups from impacts of the fiscal adjustments.

Adding one or two years to the official target for budgetary balance
would relieve the current fiscal constraints. It would cause B.C.’s
ratio of public debt to GDP to rise to a higher peak before
stabilizing, but that should be bearable for public finances. B.C.
is now tied for second place among provinces for the lowest debt-GDP
ratio, and servicing the interest cost on public debt takes
less than eight cents out of each revenue dollar.

Revenue measures also need to be considered. If the funds can
be derived in a way that does not harm economic growth, or even
better in a way that promotes growth, that should be an uncontested
choice. Such tax increases would not undermine the growth-promoting
intent of the tax cuts already undertaken.

One major untapped revenue source in B.C. is a general payroll
tax, a type that is benign for economic growth. Payroll taxes are
used by four other provinces; Ontario instituted a two per cent
payroll-based “employer health tax” in 1990 to replace Medicare
premiums. Applying that rate to the largest 10 per cent of employers
in B.C. would generate $1.1 billion annually.

Alternatively, B.C.’s corporate income tax could be replaced with
a business transfer tax that included labour costs in its base.
It would allow full deductions for capital outlays and make B.C.
the most attractive province for investment. At a rate of just four
per cent — half the eight per cent corporate rate that Alberta
and Ontario are targeting and far below B.C.’s current 13.5 per
cent — this tax would generate an extra $1 billion.

With the proposed fiscal strategies, B.C. could pursue a less severely
restrained spending path than the current freeze on health care
and education spending and 25 per cent cuts in all other areas.
Public spending could rise at 2.5 per cent annually, approaching
inflation plus population growth. B.C. could avoid extreme cuts
such as those impacting society’s most vulnerable members — people
needing legal aid, low-income seniors, children at risk, and the
chronically ill.

B.C.’s current policy course ignores another important dimension.
Policies that increase inequality, heighten union militancy, rend
social cohesion, and raise the spectre of future policy reversals
serve to depress the attractions of B.C. for business investment.
Moderated fiscal policies could avoid this risk to the province’s
economic future.

Rather than pursuing the imperatives of its Fiscal Review Panel’s
overly cautious deficit forecasts, the B.C. Government would do
better to heed the panel’s further advice:

“Based on recent experience in other Canadian provinces, we are
concerned that cost cutting in government often comes at the expense
of those groups in our society that can least afford it or by lowering
standards designed to protect the environment and public health
and safety. We do not believe this should be or has to be the case
in British Columbia.”

Economics Prof. Jonathan Kesselman is director of the UBC Centre
for Research on Economic and Social Policy. He specializes in public
finance and taxation policies. The full study from which this article
draws is available at www.arts.ubc.ca/cresp.

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