CONTENTS
Monday 11 January 1993
Pre-budget consultations
Toronto Dominion Bank
Peter L. Drake, director, economic research
Teresa M. Chandler, managing economist
Infometrica Ltd.
Michael C. McCracken, president
Canadian Imperial Bank of Commerce
Tim Whitehead, general manager and regional economist
DRI/McGraw-Hill
George Vasic, principal
Robert Fairholm, managing economist
Conference Board of Canada
Dr James G. Frank, vice-president and chief economist
Dr Brian Hollohan, associate director, forecasting and analysis
STANDING COMMITTEE ON FINANCE AND ECONOMIC AFFAIRS
*Chair / Président: Hansen, Ron (Lincoln ND)
*Acting-Chair / Président suppléant: Johnson, Paul R. (Prince Edward-Lennox-South Hastings/Prince Edward-Lennox-Hastings-Sud ND)
Vice-Chair / Vice-Président: Sutherland, Kimble (Oxford ND)
Caplan, Elinor (Oriole L)
*Carr, Gary (Oakville South/-Sud PC)
Christopherson, David (Hamilton Centre ND)
Jamison, Norm (Norfolk ND)
*Kwinter, Monte (Wilson Heights L)
*Phillips, Gerry (Scarborough-Agincourt L)
*Sterling, Norman W. (Carleton PC)
*Ward, Brad (Brantford ND)
Ward, Margery (Don Mills ND)
Wiseman, Jim (Durham West/-Ouest ND)
*In attendance / présents
Substitutions present / Membres remplaçants présents:
Conway, Sean G. (Renfrew North/-Nord L) Mrs Caplan
Coppen, Shirley (Niagara South/-Sud ND) for Mr Sutherland
Harrington, Margaret H. (Niagara Falls ND) for Mr Wiseman
Johnson, Paul R. (Prince Edward-Lennox-South Hastings/Prince Edward-Lennox-Hastings-Sud ND) for Mr Christopherson
Mammoliti, George (Yorkview ND) for Mr Jamison
Swarbrick, Anne (Scarborough West/-Ouest ND) for Ms Ward
Also taking part / Autres participants et participantes: Harris, Michael D. (Nipissing PC)
Clerk / Greffier: Grannum, Tonia
Staff / Personnel: Campbell, Elaine, research officer, Legislative Research Service
The committee met at 1405 in committee room 1.
PRE-BUDGET CONSULTATIONS
The Chair (Mr Ron Hansen): I call the standing committee on finance and economic affairs to order. The first order of business we have is the report of the subcommittee:
"Your subcommittee met on Tuesday 15 December 1992 and recommends the following with respect to pre-budget consultations for 1993.
"1. The Treasurer and officials from the Ministry of Treasury and Economics shall be invited to brief the committee on the Ontario economy and finances. Forecasters from the private sector who have previously assisted the committee in this role shall be invited to brief the committee on prospects and forecasts for the Ontario economy. Principal transfer recipients from the municipalities, universities/colleges, schools and hospital sectors (MUSH) who appeared last year shall also be invited to appear before the committee.
"2. The clerk pro tem of the committee shall send a letter of invitation to all individuals, groups and organizations who appeared last year.
"3. The Treasurer and officials from the Ministry of Treasury and Economics shall be allotted 1/2 day for their briefing. Forecasters and MUSH sector groups shall be allotted 45 and 30 minutes respectively per presentation.
"4. The clerk pro tem of the committee shall place an advertisement in all daily newspapers in Ontario in early January 1993 inviting the public to participate in the pre-budget hearings.
"5. The subcommittee agreed to meet again after the deadline for requests to appear for an oral presentation to review the list of those who requested to appear and to select those groups and individuals who would be invited to make oral presentations."
Can I have someone to move it? Mr Carr?
Mr Gary Carr (Oakville South): Yes, I move the adoption of that.
The Chair: Any discussion? All in favour? All opposed? Carried.
Also what we have is the budget for the committee. Last year our budget was $217,000. This year I have the budget -- has everybody got the budget in front of him? -- and it comes to $150,652. The details are on the following pages. This takes in Bill 164 for travelling also, so if you see the travelling expenses, that's for travelling for Bill 164. Can I have someone move the budget for the committee? Mr Carr?
Mr Carr: Yes, I move that the budget in the amount of $150,652 be approved and that the Chair be authorized to present the budget to the Board of Internal Economy.
The Chair: Thank you. Any discussion? All in favour? All opposed? It's carried.
We'll start our hearings with the first group. I'd like to welcome all the committee members back here. Maybe just for the presenters who are here now, I could start off with Mr Johnson, your name and your position in the government. You're on my right, but on the left to the people down there.
Mr Paul R. Johnson (Prince Edward-Lennox-South Hastings): Thank you. Paul Johnson. I'm the parliamentary assistant to Floyd Laughren, the Treasurer of Ontario, and MPP for Prince Edward-Lennox-South Hastings.
Mr Brad Ward (Brantford): Brad Ward, MPP for Brantford, parliamentary assistant for Industry, Trade and Technology.
Ms Anne Swarbrick (Scarborough West): Anne Swarbrick, MPP for Scarborough West.
Ms Margaret H. Harrington (Niagara Falls): I'm Margaret Harrington. I represent the city of Niagara Falls and I'm the parliamentary assistant to the Minister of Housing.
Hon Shirley Coppen (Minister without Portfolio): Shirley Coppen, MPP, Niagara South, chief government whip.
Mr George Mammoliti (Yorkview): George Mammoliti, MPP for Yorkview, parliamentary assistant to the Minister of Correctional Services.
Mr Monte Kwinter (Wilson Heights): Monte Kwinter, member for Wilson Heights and the Liberal critic for Industry, Trade and Technology.
Mr Gerry Phillips (Scarborough-Agincourt): Gerry Phillips, Scarborough-Agincourt.
Mr Sean G. Conway (Renfrew North): Sean Conway, Renfrew North.
Mr Norman W. Sterling (Carleton): Norm Sterling, Carleton.
Mr Carr: Gary Carr from Oakville South.
Mr Michael D. Harris (Nipissing): Mike Harris from Nipissing.
Mr Sterling: Before we begin, Mr Chairman, I was wondering if you could request that tomorrow when we have the Treasurer in front of us, because of the interest by the media in this, we seek to meet in the Amethyst Room rather than this room and perhaps switch with the public accounts committee. Perhaps if you could make that request this afternoon, then we could do it. I think the public might be interested in some of the presenters tomorrow morning as well and they would have the opportunity to view and hear the presenters.
Mr Conway: Shameless pander to the fourth estate.
The Chair: Is everybody in favour of that? Nobody is opposed? Okay. We'll see about transferring tomorrow to the Amethyst Room.
TORONTO DOMINION BANK
The Chair: The first presenter will be the Toronto Dominion Bank, Mr Peter Drake and Teresa Chandler. Would you come forward. Welcome to the standing committee on finance and economic affairs. You have 45 minutes for your presentation, and at the end you could leave some time for questions of the committee. You may proceed.
Mr Peter Drake: I intend to speak for just a few moments on the framework, if you will, for the outlook for Ontario, Canada, some of the international issues, and then my colleague Teresa Chandler will speak specifically to economic outlook issues concerning the economy of Ontario.
Taking this in no particular order, one of the first things we're looking at in 1993 is expecting gradually falling interest rates throughout the year. To be a little more specific, we expect that three-month treasury bills may fall about 120 basis points from the first quarter of 1993 to the first quarter of 1994. Rates may stabilize or even rise a little in 1994 as the Bank of Canada reacts to the slight increase expected in inflation. Throughout all of this period, if the Canadian dollar suddenly weakens in foreign exchange markets, then short-term rates will rise just as they did in the fall of 1992.
A second thing that we are expecting is a more stable Canadian dollar, trading between 77 and 78 cents US. The Canadian dollar seems to have reached a realistic level, but more turmoil in world foreign exchange markets or political uncertainty in Canada could result in more volatility.
We expect slightly higher but still low inflation. The consumer price index for Canada is forecast to rise by 2.5% in 1993. This is higher than the 1.5% recorded in 1992, but it is still a very low rate of inflation.
We expect rising employment but little decline in the Canadian unemployment rate until late in 1993. Employment will rise only slowly as employers strive to maintain hard-won reductions in their cost structures. The unemployment rate will remain high because people who dropped out of the labour force during the recession will come back in. Because the national rate won't begin to decline until later in the year, the average unemployment rate for Canada will actually rise from 11.3% in 1992 to 11.5% this year.
We expect expansion in the United States economy. Growth has strengthened in the United States economy and economic output is now above its pre-recession level. Real growth in US gross domestic product in 1993 is forecast at 3%. We also expect continued weakness in the Japanese economy and only modest improvement in Europe.
We are looking for rising Canadian exports to the United States. During the recession, Canadian firms lowered their cost structures and increased their competitiveness vis-à-vis firms in the United States. The more than 10% decline in the value of the Canadian dollar since late 1991 provides an added bonus in making Canadian exports competitive in US markets. Exports to non-US markets may be weak and imports to Canada will rise more rapidly as the Canadian economy improves, but Canada's merchandise trade surplus will widen.
We are looking for increased consumer spending. Consumer confidence will improve and consumers will be more willing to spend. Growth in consumer spending won't be nearly as strong as in the 1980s but at a forecast rate of 1.9% this year, it will be twice as rapid as in 1992.
We expect continued spending restraint by governments. The recession reduced tax revenues to most governments, which made their already large deficits even larger. Some provincial governments may raise taxes in 1993, but for most governments tax increases are not a viable way to cut deficits in the current economic environment. The only course left is for governments to cut or at least restrain their spending.
We expect some increase in business inventories. Businesses now keep smaller inventories than they used to, and they keep much tighter control over the inventories they do keep. The result is that the Canadian economy no longer experiences large swings in business inventories. Nevertheless, inventories declined significantly in 1992 and inventory-to-sales ratios are very low. Therefore, there should be some inventory rebuilding in 1993, which will contribute to economic growth.
We expect some increase in business investment in machinery and equipment. Even though corporation profits are still only half of their pre-recession peak, businesses will invest heavily in new machinery and equipment in 1993 because these investments will improve their competitiveness.
Investment in non-residential construction will continue to be very weak because this market is oversupplied. We expect an increase in housing starts and residential construction activity. Housing starts in Canada will increase from just under 170,000 units in 1992 to about 180,000 units in 1993. Lower mortgage rates and improved housing affordability will help spur housing activity.
We expect increased economic growth in Canada. Real gross domestic product, the widest measure of economic output, will grow by about 3% in 1993. That is much lower than the growth rates of past recoveries but well ahead of the estimated 1.2% growth in 1992.
Finally, we expect ratification of the North American free trade agreement. The United States has insisted on some changes in the rules governing environmental and labour standards, but it appears to us that NAFTA will be ratified by the US, Mexico and Canada. If it is ratified, it will be implemented at the beginning of 1994.
Those are my remarks, Mr Chairman, and now I will turn to my colleague Teresa Chandler.
Ms Teresa Chandler: As you all know, the 1990s have not been kind to Ontario so far. Real GDP in Ontario contracted in both 1990 and 1991 and grew by only 1.2% in 1992. If we look at the year as a whole, it's pretty hard to see the good news; it looks pretty bleak, with employment lower in 1991 than in 1990. But if we compare where we are now to where we were a year ago, things look a little brighter.
In Ontario, there was a net increase in jobs in December 1992 of 3,000 workers, compared to December 1991, and employment, as usual, was one of the last indicators to move into the black. The evidence is growing that a sustainable recovery is under way in Ontario. There is at least some good news in retail trade, housing and manufacturing.
We could characterize the first few years of the 1990s as a restructuring phase in Ontario, and now, although restructuring will still go on, it appears that the most painful part is over. In the next few years, Ontario will begin to get some of the benefits of this difficult restructuring and the economy will strengthen.
In 1993, as Mr Drake mentioned, the US and Canadian economies will strengthen, growing by about 3%. We expect Ontario to grow by 3.2% in 1993, helped by the pickup in the US economy. By 1994 growth is expected to pick up in Ontario to 4.3%. This is not a return of the glory days in Ontario of the late 1980s, but it is strong enough growth to accommodate a steady increase in jobs in the province. As we start out 1993, the main concerns that people have are about jobs, the retail sector and the construction and manufacturing sectors.
Before we get into the detailed outlook, I'd like to go into where we've been and where we are right now. Let's start with the job market. Obviously, Ontario has been hit much harder this time around during the recession than in 1981-82. Peak to trough in 1981-82 jobs lost in Canada amounted to 612,000, while in Ontario job losses were 205,000. That means that one third of the jobs lost last time around were in Ontario.
More recently, the peak-to-trough change in employment in Canada between April 1990 and April 1992 was 476,000 jobs; in Ontario, 285,000 jobs were lost. So a full 60% of the jobs lost this time around were in Ontario. Consumers have been afraid not only because of the sheer number of jobs lost but because job losses continued for so long, and people who had jobs began to worry that they would be next.
Looking closer at layoffs in Ontario last year -- and these are data from the Ministry of Labour -- conditions got worse overall. Layoffs rose by 6.1% compared to 1991, but they were still lower than levels in 1990. There was a sharp jump in the number of complete closures of operations last year. Overall, about 60% of the layoffs that occurred were the result of complete shutdowns of operations. This is very different than in the early 1980s, when reduced operations accounted for more than half of the layoffs in Ontario. The layoffs were concentrated in manufacturing and retail trade.
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But if we look at where we were at the end of 1992 compared to the end of 1991, the picture does not look quite as bleak. There's been a net gain of 42,000 jobs between April and December 1992 in Ontario. If we look at employment by industry between December 1991 and December 1992, the gains were in community, business, personal services, construction and agriculture. Although job losses continued in manufacturing and trade, they were at a slower pace than a year ago.
Let's turn to the retail sector. I mentioned that consumers were afraid of losing their jobs. Many have also been worried about the value of their house falling, and that's especially true in Toronto. Whatever the reason, when consumers are uncertain they don't spend as much. That's what happened last year. Retail sales grew slightly, by just over 1% in Ontario last year. In the second half of 1992 there have been some strong gains in retail sales, and year-over-year growth reached almost 3% in October 1992 in Ontario. The early indications are that Christmas sales were quite good, so the news overall is improving in the retail sector.
Now, if we turn to the construction sector, obviously the non-residential market was in severe trouble last year. Commercial and industrial building activity fell sharply in Ontario. In the downtown Toronto market, office vacancy rates, which were as low as 3.7% in 1987, climbed to 17% by the end of last year.
In the housing market there's some better news. There was quite a bit of improvement last year, but there's certainly much room for more strength in the coming months, as low mortgage rates and recent job gains boost consumer confidence. The December housing starts, which came out today, show that starts in December were at a rate of 178,000 units for Canada, which was good news and an improvement compared to October and November.
If we look at housing starts in Ontario, they rose from about 53,000 units in 1991 to 56,000 units last year. But on the downside, if we exclude socially assisted units from this number, housing starts in Ontario actually declined in 1992. That's based on January-to-October data.
In the resale market there were declines in house prices in most areas of Ontario. Toronto's prices fell for the third year in a row. Now Vancouver is the most expensive housing market in the country; it replaced Toronto last year.
There was an increase in home sales, even in the Toronto market. Home buyers were attracted by the RRSP and down payment incentives, low mortgage rates and, in some areas, declines in house prices. Sales were up by 9.3% in Toronto as the market rebounded at the end of the year. The fundamentals are there for a recovery in the housing market in 1993.
If we turn to manufacturing, if we look at only job losses, we get quite a bleak perspective on the manufacturing sector last year. The number of manufacturing jobs was down by close to 50,000, on average, in 1992, but the pace of job losses has slowed. It's also true that competitiveness is improving and that exports have risen.
Let's look at competitiveness first. First of all, to get at the problem, manufacturing in Ontario has clearly undergone major restructuring. To see why, we have to glance back at the 1980s. During the second half of the 1980s, Canadian productivity growth was very poor, especially compared to productivity growth in the United States. By 1990 many Canadian manufacturing companies found themselves to be at a cost disadvantage. The steady rise in the Canadian dollar, combined with cuts in tariffs under the FTA, added to the pressure on Canadian manufacturers.
Let's look at what companies have done. Since the start of the recession, there has been a major change in the way companies are doing business. What companies have done is cut costs and employment in order to become more competitive. Restructuring has meant that many companies are doing the same job with fewer workers and resources.
What has this meant? In 1992 productivity grew by about 4% in manufacturing compared to the average productivity growth of under 1% per year between 1985 and 1990, and wage growth moderated substantially in 1992. At the same time, the Canadian dollar fell from a peak of close to 90 cents US in late 1991 and is now hovering around 78 cents. We've got stronger productivity growth, slower wage growth and a lower Canadian dollar. These three make Canadian exports more competitive.
We've already seen the benefits of that. In 1992 we had very strong export growth in Canada and Ontario. Canadian exports were up by 9.2% in the year to September, and Ontario's exports were up even more, by 14%. The areas that grew the strongest were transportation equipment, rubber and plastic products, electrical equipment, paper, iron and steel furniture. All these industries recorded gains of over 10% in the first nine months of 1992.
This restructuring process is a very difficult one, but by making these changes companies are becoming more competitive, which is necessary for survival in the 1990s.
To sum up the good news, employment's on its way back up, jobs in Ontario are up by 42,000 since April, retail sales are starting to grow, there's some good news from housing markets and exports continue to climb.
Let's turn to the outlook for Ontario. The recovery appears to be well under way. The year 1992 represented a year of change for the economy, change that's been very painful. The adjustments have not simply been companies laying off people; employees have to work harder and companies have to do more with fewer workers. Real GDP growth in Ontario is forecast to rise by 3.2% in 1993 and 4.3% in 1994, above the national average.
I'd like to go over a few signs that point to a strong recovery in the Ontario economy this year. The first, as Peter went into, was the stronger US economy. The other signs are that the dollar is lower and there's improved productivity and competitiveness. Since Ontario sends 88% of its exports to the United States, the impact of stronger spending in the US will be felt right away in Ontario.
There will be a boost to confidence and to spending in the next few months because of recent increases in jobs in Ontario. Housing starts are forecast to rise in Ontario to 65,500 units compared to 56,000 units in 1992. The recovery in non-residential construction activity will be more gradual; it will continue to lag behind the rest of the economy. High office vacancy rates will stay with us for some time.
As Ontario companies benefit from recent cost-cutting and gains in productivity, these gains are expected to be mirrored by an improvement in the job market, but this improvement will be gradual. In 1993 employment in Ontario was forecast to grow by 1%, but the picture will look brighter in 1994, with employment growth recovering to l.7%. High unemployment rates are expected to stay with us for a few years. Unemployment rates in Ontario are forecast to rise to 11% on average, from 10.8% in 1992, but they will start to decline slightly, to 10.7% on average in 1994.
Although a return of the rabid growth of 1987-88 is not likely in the short term, we expect a significant recovery in the Ontario economy over the next few years. Of course Ontario still has the advantage of its location, close to major US markets, as well as other advantages, such as the education and skills of its labour force. Ontario remains the financial and commercial centre of the country, and as prospects in both Canada and the US improve Ontario will prosper.
That concludes the formal part of our presentation. We'd be happy to answer your questions.
Mr Kwinter: I have a question for Mr Drake. I'd just like your comment. In your comments you suggest that the Canadian dollar is trading at about 77 to 78 cents and expected to remain there for the coming year. The exports we make are primarily in the primary section, with raw materials and some secondary manufacturing, and our imports are primarily consumer goods. With the change in the value of the dollar from nearly 90 cents at the beginning of this year to the point where it's 77 or 78 cents, how is that going to impact on the rate of inflation?
Mr Drake: We are inclined to think that it will have relatively little impact on the rate of inflation. That is a much different situation than would have been the case two or three years ago, when the economy was booming. I think the reason it will have relatively little impact is that there is still a great deal of slack in the economy.
There is sufficient slack in the economy that it simply will not support significant price increases. The economic situation itself will simply prevent the decline in the dollar from having very much impact on inflation. It'll have a little -- as I said, we expect inflation to be in the range of 2.5% this year, maybe even 2.7% next year -- but I think it will have far less than it would have had, for example, two or three years ago.
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Mr Phillips: I don't know whether you've had a chance to go over the government's economic forecasts, but you are slightly more pessimistic than it is on virtually every front. I think you're predicting a gross domestic product increase of 3.2% and they're predicting 3.8%. You're predicting that the unemployment rate actually will rise and they're predicting it will drop. I think you're predicting housing starts at 65,000 and they're predicting 71,000. Is there a reason why they may be somewhat more optimistic than you people would be, or are those statistically insignificant differences?
Mr Drake: I don't think there are huge differences in the forecast. Certainly I haven't and I don't think Teresa has had a chance to sit down and go through them with a fine-tooth comb. I would think the best answer is they're not hugely significant differences. Teresa, do you want to add anything?
Ms Chandler: The one thing I mentioned, the area where the most importance difference is is in the labour market. We do have a significantly slower employment growth forecast than the Ontario government. I guess it reflects our concerns about the restructuring that's going on and that it may continue somewhat. We have growth of 3.2% in Ontario, and with a growth in jobs of about 1%, that implies further productivity gains in the next year which we expect to occur.
Mr Phillips: So your judgement would be on the employment side. I see they're predicting maybe 50,000 to 60,000 more jobs than you are. You think they may be somewhat optimistic on the job creation front?
Ms Chandler: I'm sure it's a little too early to tell right now. Right now, that's our best guess, yes.
The Chair: Is the Liberal caucus finished?
Mr Phillips: I had some additional questions.
The Chair: Six minutes for each caucus.
Mr Phillips: Have you done any forecasting on things like corporate profits and personal income increases? I'm anxious to get comparatives versus what we're looking at from the government estimates right now. Have you any feeling on those things?
Mr Drake: In the handout we gave out there are some forecasts. These of course are for Canada.
Mr Phillips: I'm looking at Ontario. Have you had any?
Mr Drake: I don't think we've forecast those particular variables for Ontario, but they are on the second page of the handout we gave you for Canada. For example, in pre-tax corporate profits we're expecting an increase of about 21% this year.
Mr Phillips: For 1993?
Mr Drake: For 1993, yes. That's up significantly from the 8.5% increase in 1992. Of course those two numbers are a remarkable turnaround from the very severe declines in 1990 and 1991.
Mr Phillips: Would there be a reason why in Ontario the government would be predicting a 39% increase in pre-tax corporate profits when you're predicting a somewhat lower number nationally?
Mr Drake: I think one wants to be very careful about commenting on someone else's forecast unless one is very familiar with the assumptions that have gone into it. I don't think there's anything meaningful that I could say about it.
Mr Phillips: Would Ontario corporations or corporate profits in Ontario likely be better than the national average in your feeling?
Mr Drake: I would think that Ontario is certainly going to participate in the recovery, just as Teresa said. Certainly this province -- this is no news to anybody here -- got hit very hard in the recession and corporate profits were absolutely no exception to that. So to the extent that the province recovers, I would certainly expect that profits would do significantly better.
Mr Phillips: So it's possible we could be looking at a 39% increase here when you've got a national number at 21%.
Mr Drake: I don't want to comment on the statistical differences, but it is certainly possible to have a difference.
The Chair: Mr Harris, you have six minutes.
Mr Harris: Thank you very much, Mr Chairman. I have a couple of questions, Teresa, on some of the statistics. The housing starts are projected at 65,000. How many of those housing starts are government-assisted, non-profit, co-op etc versus private sector? Do you have that breakdown?
Ms Chandler: We do not.
Mr Harris: You broke it down, though, for last year.
Ms Chandler: The historical numbers, yes. We obtain that information, but we don't for the forecast.
Mr Harris: If you projected last year's versus this year's, what would that be? Do you know?
Ms Chandler: We do not have a forecast for that.
Mr Harris: Teresa, as well, you talked about the economy picking up next year. The factors you gave for that, particularly for the province of Ontario, were that the US is going to recover, that we're tied to its economy -- I'm paraphrasing a little; correct me if I'm wrong -- and that we can't help but succeed because of our geography and the built-in infrastructure of an educated workforce, that we are the financial centre and we don't see them moving out over the next year, and so if economic activity picks up in the United States, Ontario will do a little better in spite of itself. Am I paraphrasing you wrongly there?
Mr Drake: I would phrase it just a little bit differently. There's no question the US has a very important influence.
Mr Harris: I appreciate you answering, but I didn't hear one thing that Ontario is doing. I heard about the US picking up. I heard that we're the financial centre. I heard about our educated workforce. I heard about our geography. Is there something else we're doing?
Mr Drake: There is no question that the recession this province and this country went through in 1990-91 was a very painful recession. Part of the pain was the restructuring Teresa talked about. Firms faced a very difficult choice. They either became more competitive or they went out of business. As you know, a number of them, a very large number, did go out of business.
The result of lowering cost structures, the result of making some investments in machinery and equipment, is that our cost structures are lower and our productivity is up. We have had, as I mentioned, the added bonus of the external value of the Canadian dollar falling. All of that has improved competitiveness in the country and in the province very significantly. It should allow us to get terrific leverage off the US expansion. There is certainly something that has happened here.
Mr Harris: So our disasters of 1992, if you like, in job losses will translate into leaner, more efficient, more competitive companies coming into 1993?
Mr Drake: I think that's true.
Mr Harris: In the early 1980s, we were in a recession. Unemployment was at about the same rate. The job losses in Ontario were about 33% of the country's. In the early 1990s, 10 years later, we're in a recession. Of the job losses across the country now, 60% are Ontario jobs lost. Do you have any explanation of why we're being hit more than doubly hard than any other part of the country?
Ms Chandler: I bring that back again to the discussion of competitiveness. It appeared that in the late 1980s it was particularly the case that in central Canada competitiveness was lagging behind. To do a bit of a comparison, following the previous recession there wasn't as much of the structural adjustment in Canada as went on in the United States generally.
Mr Harris: But I mean recession versus recession now, not recovery versus recovery.
Ms Chandler: Okay. Since the recession started, we're looking at further adjustments that have gone well beyond the extent of the last one. The recession started in 1990 and we're still in the restructuring phase. My point is simply that the restructuring has gone on for a long time. This recession has been longer than the last one, and I think that's part of it.
Mr Harris: But you told me that Ontario is losing 60% of the jobs in this recession. In the recession of the early 1980s, we lost 33% of the jobs that Canada lost. Why are we being hit so much harder now than in the early 1980s? That's the question.
Mr Drake: Part of the explanation is that a number of things were going on in 1990-91. We had a recession. Everybody knows why it happened. It was induced by the high interest rates. It was an inflation-fighting recession. But there were other things going on. This country, and especially this province, was adjusting to the Canada-US free trade agreement and it was a significant adjustment. We knew it would be significant in manufacturing. I don't think many of us in the economics profession realized quite how significant it would be on the retail side, but it proved to be very significant there. That was another very important thing.
Mr Harris: So other provinces adjusted better than we did?
Mr Drake: No. I think Ontario had the big adjustment to make in manufacturing. One doesn't have to read much Canadian economic history to know that over the years manufacturing has been one of the protected sectors, and the free trade agreement changed that very significantly, so that was an issue. Another thing that was there was tax reform; that was another issue. It took people a while to get used to the goods and services tax. There are a number of things that made the 1990-91 recession different than the 1981-82 recession.
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Mr Harris: I'll just ask one other quick question. You don't have any recommendations here for the Treasurer. I don't know whether that's because he didn't listen the last few times anybody gave him recommendations or because you thought it was falling on deaf ears. Perhaps I could ask you this: Bill Clinton in the United States -- you've talked about economic recovery there -- has said we need some stimulation of the economy." He's proposing to do it by tax cuts for the middle class. Most have said there is a need for stimulation in the economy in Canada as well. Would you recommend that it be by way of a tax cut or would you recommend it be by way of a tax hike, as Floyd Laughren has suggested here? Do you have a recommendation for the Treasurer?
Mr Drake: In general, we are going to be very careful not to tell any government how to do its job. I guess in general --
Mr Harris: But do you have a recommendation for them, or why are you here?
Mr Drake: We're here partly to give our view on the outlook, and I think the policy recommendation I would give to this government, and I would probably give the same policy recommendation to virtually any government in Canada at the moment, is this: We certainly seem to have a recovery coming on. It is not a strong recovery by historical standards and certainly there are some parts of the economy that are pretty fragile. I think I would say to any government that when you're making your policies, you're going to have to think about the fact that the economy is still fragile. You're going to have think about the fact that competitiveness is not just an issue which has been with us for the past two or three years and which is now going to go away. As far as I can tell, it's going to be with us for a number of years.
You're going to have to think about the size of the government deficit. You're going to have to think about financial markets and how they're going to react. You're going to have to think about the fact that financial markets look not only at the size of a government deficit but at the credibility of a fiscal plan. As the elected representatives, the government is going to have to take all of those factors into consideration and make what I'm sure are going to be some very difficult decisions.
Mr Harris: But no advice.
The Chair: I'm going to have to go on to Mr Ward.
Mr Ward: Thanks for your presentation. When you attempt to forecast future projections, it's a very fine art, and obviously we won't know how accurate the forecasts are until next year when we're perhaps sitting around this same table.
This is my third go-around participating in the finance committee and I've noticed, the last two times anyway, that the forecasts made by the banks and by the economists in general have been overly optimistic, to say the least. The projections from an economic standpoint have not come true.
I look at your forecasts for 1993, and your one example is that the real gross domestic product growth is projected to be 3.2%, which I would like to see happen because that's good economic news. But based on what I heard the last two times, I'm not overly optimistic that we can hit those targets. How confident do you feel? I'm not saying something catastrophic could happen, like the destabilization of Europe or whatever, but how confident are you that our economy, both in the province and nationally, can achieve these forecasts, based on the last two years?
Mr Drake: Your comments about the accuracy of the forecasts are absolutely right. It's one of the humbling things about being an economist. I think we are a little more confident, perhaps, than we were and I guess there are two or three reasons.
First of all, certainly we are seeing the US recovery. The US had at least one, if not two false starts getting on its recovery. I think the evidence that the US is on its way is much stronger than it was a year ago, or than it was when some of those other false starts were made. I think that's one thing.
Certainly, the numbers as far as increased competitiveness is concerned seem to be pretty firm and that's something we can build on. The fact of the dollar being down is, I think, very important. One should always remember that a depreciation in a currency provides only a one-time benefit. It's not something you can continue to rely on, but I don't think it could have come at a better time.
There are a number of other economic statistics that have come in that suggest things are much closer to firming up. There are still some things that are very elusive. Consumer confidence is one of them. Consumers, I have always believed, are much smarter than most people gave them credit for. They may not have degrees in business and they may not have degrees in economics, but their instincts are not far off the mark. One of the reasons consumers have been so reluctant to spend is that they have been worried about job security. I think everybody in Ontario knows somebody who lost his job through no fault of his own, and that tends to make people tighten up. We think we are seeing some indication that consumers are more confident than they were, but I grant you that consumer confidence is elusive.
Mr Ward: It's an intangible.
Mr Drake: It is, but we think we are seeing some indications. Admitting there is risk every time you make a forecast, I think we feel rather more confident about this forecast than we would have been justified in being, say, a year ago or two years ago.
Mr Ward: This is based on the economic indicators that have occurred in the last quarter or the last half year --
Mr Drake: Both.
Mr Ward: -- to give this renewed confidence in your own forecast, let alone others.
Mr Drake: That's right.
Ms Harrington: I would like to pursue a little further some of the comments you made, which I found quite interesting. Normally, we think of the 1980s as the good times and now we're in the bad times. But what you actually stated, and I'd just like to clarify that this was your intent, was that during the 1980s productivity was poor, that in fact it was about 1% growth during the 1980s annually, whereas now it is 2.5% in, I think, last year or the year before. What I'd like to possibly conclude from that is that what we are now doing is laying a solid base for a strong, sound economy, not the artificial type of situation that we had in the 1980s.
Mr Drake: I think that's true. We are not expecting to see the same strength in real economic growth, but neither are we expecting to see the same inflation. Simply to paraphrase, I guess, what you're saying, if we could see a number of years of steady growth that's 3% or 4% and low inflation, I think we'd probably all take it and be grateful after what we've been through. Teresa, do you want to add to that?
Ms Harrington: You would say that the 1980s were artificial, that the economy was an artificial high.
Ms Chandler: I'd just like to clarify the numbers you were citing on productivity. When we look at productivity and we look at manufacturing productivity, the period of the problem was the 1985 to 1990 period, when productivity growth was below 1% a year, and now in manufacturing in Canada productivity growth is up by roughly 4% in 1992.
Ms Harrington: It's 4% in 1992?
Ms Chandler: In 1992, yes.
Hon Mrs Coppen: Just briefly, I'd like to thank both of you for making these policy recommendations to us. It is a great way to start off a year, with the optimistic report you gave.
Both of you in your reports very quickly went over the free trade agreement and you, Mr Drake, mentioned the NAFTA agreement. I wonder if you could share with us your feelings of what will be the repercussions to this province if that deal goes through. We're talking about several amendments on the environment and so on, but what do you sincerely think will be the impact to this province and our recovery if the NAFTA agreement goes through?
Mr Drake: I think the adjustments we would expect if the NAFTA deal is ratified would be fewer and much less severe than the adjustments we made to the Canada-US agreement. In other words, I think many of the adjustments -- and I stress the word "many"; I'm not saying "all" -- many or most of the adjustments have been made.
I think indeed it is the United States that will be doing the major adjustments to the NAFTA deal if it goes through. I cannot sit here and tell you that there will be no adjustments, because I'm sure there will be, and based on the experience of watching the reaction to the Canada-US deal, there may be something that we haven't even thought of, as there was then. But it is our strong sense that most of the adjustments have been made and that any adjustments that took place to the North American deal would be considerably less than we've already gone through.
The Chair: Time has run out. I'd like to thank you for coming before this committee. I think you've actually given us information we can use in this upcoming budget.
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INFORMETRICA LTD
The Chair: Mr McCracken, president of Informetrica, welcome back again this year to this committee. You know all the rules in this committee. You've been here enough. You have 45 minutes.
Mr Michael McCracken: Can I get a coffee?
The Chair: Yes, you can. It's going to be a long presentation, if you need a coffee.
Mr McCracken: No, that's to keep awake for the questions.
The Chair: Okay. You're good until 3:30.
Mr McCracken: Okay. What I've handed out to you are just the arrows we've used, I think, on at least one other occasion. I can perhaps just run very quickly through it. You've been hearing numbers from other people. I think you'll perhaps simply want to contrast them and then we can open it for questions.
If we can start with the real economic growth, speaking to the Canadian aggregate economy, which I think is the environment within which you'll be operating, I will have a few words about the province subsequently. With regard to real economic growth, this year is the second year in a row with substandard performance. We're expecting about 1% real growth in 1992, following a decline of 1.7% in 1991.
In the year coming we're probably, at least from what I heard a few moments ago, in the optimistic camp. Real growth of 3.5% is a conditional forecast we're making for 1993, and similar growth in 1994, 1995 and 1996, with investment exports adding to growth and inventory change providing an added boost. The Department of Finance, as you recall, put forward a number of 2.5% in the December economic statement. But this growth, even our 3.5%, is subdued when compared to previous forecasts.
If you turn to the next page, you'll see a diagram of the gross domestic product monthly over this recession compared in the grey line to the previous recession. We are still at this point in time, and this would be through October data, not back to where we were nationally in March 1990. We're still depressed in terms of level of output.
You can also see that after a drop that roughly coincided in the first 10 or 11 months with the previous recession, we have essentially been tracking sideways since that point, with very modest uptake in the last several months. While many pointed out that this recession has not been as bad as the previous recession, clearly it's been as long. It has taken at least as long to recoup the level at the beginning of the recession.
Just so we have some perspective also on where were are, if you look at the next chart, this is a plot of what the potentials of the Canadian economy are on the basis of a growth of approximately 3% labour force plus 1.5% productivity growth. If we take the view that 1988 was potential -- and that's a conservative view, both small-c and large -- we would at the moment, in 1992, be operating about 9% below the potential of the economy. Over the next several years, with our growth at 3.5%, we begin to close that gap, but looking out over the balance of the decade we find that we do not succeed in closing that gap; indeed it's a number of years beyond before that succeeds with the kind of policy assumptions we're making.
Now 9%, what's 9%? You guys throw numbers around all the time. Let's just translate that into about $60 billion of wasted output per year that we're not producing, that we could be producing with the people, the capital that's idle and the smarts that we already have. This doesn't require any magic other than managing our economy better.
On the interest rate front we are expecting some further declines. We had hoped to see more of them this year. Some of us have been disappointed at the hiccup in September, October and November which brought interest rates back up. In 1993, however, we think the prime can go back to 6% or less by the end of the year or earlier and we think we'll see some continuation of lower interest rates in the 1994-95-96 period, helped by reduction in real interest rates.
My warning to you is, of course, and I think I've warned you of this on several other occasions, don't bet against the Bank of Canada. They are certainly capable, and they've shown that again this fall, of reversing field when they feel the dollar is under some pressure or the economy is starting to grow a bit too rapidly.
On the inflation front, 1992 has been a particularly low level of inflation or rate of inflation. We expect something on the order of 1.7% on average for the year compared to last, and the November numbers on a year-over-year basis are in that same ballpark, coming off of a very high rate of 5.6% occasioned by the introduction of the GST in 1991.
This year, 1993, we're expecting a somewhat higher pay, some 2.8%, and averaging about 2% per year over the 1994-95-96 period. That 2.8% reflecting, as does this year, some of the consequences of a depreciation of the Canadian dollar.
These targets that we're forecasting on the next chart lie well within the band of the Bank of Canada's targets and hence there is no reason for any bashing by the bank of the Canadian consumer.
The unemployment rate this year: a slight decline average compared to 1992, 11.1% versus 11.3%, as the average for 1992, but nothing spectacular. The good news is that we're growing rapidly enough to stop the unemployment rate from rising, and that's essentially what is meant by potential growth rate. A growth rate of around 3% is sufficient to stabilize that unemployment rate and make a little bit of progress on it perhaps.
In 1994-95-96, again some modest improvement, but it is unlikely, with the kind of forecast we're making on the output side here, that we will get the unemployment rate nationally below 10% by 1996. You'd require much more rapid growth to achieve that.
Federal government balance 1992: We're suggesting there may be some modest improvement in the calendar year compared to 1991. In 1993 we expect again some improvements, an up arrow here meaning a balance moving towards possible deficit declines to $27 billion in 1993. These are on a national accounts basis; if you want a public accounts basis, add about $5 billion to the numbers.
One of the reasons the 1993 deficit improvement is not more is the delay in the unemployment insurance premium hike for a year, announced in the December economic statement, which adds about $3.7 billion to that number. In 1994-95-96, however, we would suspect, even with a reversal on the UI side or some uptake on the UI premium rates, that government balance will improve, helped by low interest rates and the return of growth.
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Exchange rates: The basic message there, as you've already heard, is that in 1992, following an appreciation in 1991, the dollar depreciated, averaging some 83 cents for the year. In 1993 to 1996, we're making an assumption of about a 79-cent dollar for the balance of this period. That may still be somewhat overvalued, but we expect the bank will only slowly turn loose. As I indicated to you earlier, while interest rates are coming down, they still remain high in real terms.
The consumer in Canada has been buffeted in 1991 with the decline in per capita terms of some 2.8% in growth. That continued in 1992 with a further hit of about 1.4% decline in per capita terms, reflecting higher unemployment insurance premiums at the beginning of the year, slow growth in wages and other taxes eating into income, and 1990 was also a weak year for real disposable income per capita.
In 1993 there will be a modest improvement, roughly 1%, and in 1994, 1995 and 1996 we would expect a continuation of that pace of improvement. That is not substantial and it leaves you at the end of 1996 still well below the per capita income levels of 1989 or 1990, but we will at least see consumer expenditure begin to pick up.
Just very quickly looking at the unemployment rate so far in this recession, the diagram by province that I've provided to you for this recession suggests that through December of this year Ontario's increase has been some 6.3 percentage points more than any other province; more than Newfoundland and indeed double that of western Canada and about 50% higher than a number of the Atlantic provinces as well.
Also, Ontario came into this recession or started in terms of a rising unemployment rate much earlier than other provinces, some 4.8%, the base level being reached in April 1989 and then rising since that time. These little hash marks that you see in certain lines indicate a few months in which the unemployment rate did decline on sort of a three-months basis. In the middle of 1991, it looked like we might be out with a slight decline in unemployment in Ontario, Manitoba, Saskatchewan and Alberta, and we got back into the pit after only a few months. At the moment, in terms of unemployment reversing, BC is the only one that's had a declining unemployment rate in the last several months.
Compared to the last recession, Ontario's increase was 6.2% over a shorter period of time, roughly a duration of about one year. So it rose more rapidly and it started at a higher base, 5.9% versus 4.8%. Hence it got higher, but the magnitude of the increase was somewhat -- well, it was about the same order of magnitude as has occurred this time around, 6.3% versus 6.2%.
In case the question comes back up or for those of you who were asking about this recession vis-à-vis others, you might just file away, in the 1982 recession, the substantially higher jump in unemployment in Alberta, BC and Newfoundland compared to this time around.
In Ontario, as all of you I'm sure are aware, our data lags are such that you don't have actual data yet even for 1991 much less 1992, but the sense we have is a decline of about 3% in 1991 in real terms on gross domestic product, with that hit coming not just from the weakening in consumer, business, construction and government restraints but also slowdowns in exports and inventories. Federal and provincial budgets added restraint, giving us a negative year.
In 1992 it would look to us as if our growth was about 1.6%. That's slightly above the roughly 1% expected nationally, with somewhat lower interest rates, improved trade, lower inflation and a recovery in housing starts helping pick up the growth in 1992.
We would expect in 1993 the growth in Ontario would again be slightly higher than the national, with investment and exports expanding, inventory change picking up and also auto exports to the US of particular help, and growth in the 1994, 1995, 1996 period averaging, again, about a half a point higher than Canada as a whole.
This growth, however, is quite subdued relative to previous recoveries. I think on other occasions we've talked about the double-digit growth that occurred in the post-1981-82 recession.
All forecasts that people put out, ourselves included, are conditional on a number of assumptions. There is no other way to do forecasting unless you just pull numbers out of a hat. Certainly we're making a number of assumptions: no OPEC price shock, and we're assuming that the GATT deal does not fall apart, so we don't get any adverse shock to the system and have protectionist fences being erected in Europe and the US. We are assuming that real interest rates can continue to decline, although we're doing so slowly. And although we recognize that both the US and Canadian financial systems are having their difficulties, we are assuming that those are met and that we do not run into a complete shutdown of credit or a failure of financial institutions to the degree that both consumer and business confidence is shocked.
We also are assuming, at least for the next several years, that we have in fact put the constitutional debate behind us and that we don't try to divert our attentions to that in a major way or that there is no major follow-up. But that's an assumption; we should not be assuming that's automatic. And we have no major shooting match between federal and provincial governments in our forecast. We are assuming they will have roughly similar tensions as in the past: no great partnership leading to improved economic performance, but at the same time, no tit-for-tat policies that push us and again shatter business and consumer confidence.
That will give you a sense of at least the outlook and some of the assumptions behind it. I'm yours for questions until you blow your whistle.
The Acting Chair (Mr Paul R. Johnson): The Chair is returning; maybe I should let him proceed. He's going to give us our time frames. We're going to start with the PCs.
The Chair: We've got 24 minutes, eight minutes a caucus. I've just been trying to get the Amethyst Room. It seems like Remo -- you have to get down on your knees to get that room. Okay, we'll start off with Mr Carr.
Mr Carr: He's the only Chairman who wears makeup to be on TV. We know he likes the limelight. Don't tell him I said that.
Mr Phillips: Hansard may have picked it up.
Mr Carr: We do like to have a little fun around here occasionally.
I'm interested in what your recommendations would be from the Treasurer's standpoint. I remember that last year you came in and had the reputation of being more forthcoming with some of the recommendations. The US is going to lead some of our recovery because of exports, but I'm thinking specifically about Ontario consumers. As you know, last year the budget put a surtax on anyone making $53,000 -- a massive surtax -- which hurt consumer confidence.
I'd ask you, if you were the Treasurer, specifically with regard to taxes, what would you say he should be doing in the budget?
Mr McCracken: He has the advantage, at least in past practice, of following what the federal government does, following the federal budget. Last time, when he saw a personal income tax cut federally, along with restraint federally in other areas and on the spending side, he quite properly said, "Oh, you left that there for me," and filled in the hole very quickly.
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If the federal government does nothing or moves to restrain, then it's going to be awfully tough for the Treasurer of this province or any province to move to stimulus. All you will be doing then is twisting the consumer or business with movements in the opposite direction. If the federal government does move in a stimulative fashion, with, for example, a reduction in the goods and services tax or some changes on the personal income side, I would encourage the Treasurer of Ontario and indeed those of other provinces to consider complementing that, moving in the same direction, reinforcing those movements, with the hope that together there may be sufficient to kickstart this economy.
That might take the form of a temporary reduction in the retail sales tax. It may take the form of a reduction in the tax on investment goods: retail sales tax on non-manufacturing, non-processing. It could take the form of some moves on the personal income tax side, although most economic studies we and others have performed suggest that if your interest is in jobs and in growth, you get more bang for your buck out of the indirect tax side, the sales tax side, than you get out of income tax, and certainly more than you get out of corporate tax changes. The other area of course where you get a bang for your buck is on spending, particularly infrastructure spending in the province.
I would certainly encourage, first, for him to think about the direction, net, that he's going to move. I think the economy still needs stimulus. It needs it from wherever it can get it. One reason for pointing out to you this 9% gap in output is to point out that there's no danger we're going to run into a brick wall any time soon -- it's almost inconceivable we could overstimulate at this juncture, we are so far from full employment or from potential output -- and the first order of business is to get the direction right, to get us closing that gap rather than opening it.
We think we will see some of that. We have the December economic statement in mind in making this forecast, but we're assuming there is no major stimulative action in the federal budget or in the provincial budgets in the numbers we've given you.
Mr Carr: I think you're right. One of the difficulties we've got is that provincially and federally we go in different directions. It's not only here we've done that.
You came in last year, and I remember we were talking about the tax structure as well. If I remember correctly, you came up with a bold solution regarding the corporation tax. I don't know if you remember it, but you said with the percentages we get out of corporation tax, which I believe is somewhere in the neighbourhood of around 7%, last year you said if this government wanted to do something bold, it could reduce the corporate tax provincially altogether, and it would be something to show the business community it was a little different.
Looking at the finances and the deficit and so on, what would you recommend with regard to corporation tax, knowing that in the province of Ontario we only get 7% of our revenue from it? What do you suggest the Treasurer do specifically about the corporation tax?
Mr McCracken: On the corporate tax side, if you want to eliminate it, I think if you'll recall I suggested you might want to get the same revenue another way with the equivalent of a GST or what used to be called a business transfer tax. But the point of doing that is simply to give a signal to the business community that you're trying to motivate it to go somewhere. I suspect at this point in time, when people's focus is on what's happening south of the border, when people's focus is on, "Is there any reason to change my mind from pessimism?" any kind of a tax reform move is not going to catch their attention in the same way a spending change might, although it will be interesting to see what the Fair Tax Commission reports out, and I guess corporate tax would be one of the areas it might be looking at.
Again, I have no strong concern about the corporate tax side. At the same time, I think we want to make sure that in one form or another corporations do contribute to the society in which we live.
Mr Sterling: Mr McCracken, last year you and a number of other economists who appeared in front of this committee predicted real GDP growth in the province quite in excess of what really has happened.
Mr McCracken: About double. I think we were about 3%, and we got about 1.6, I think, is what we're now saying happened, right?
Mr Sterling: I have that you predicted, for instance, 4.8%.
Mr McCracken: For 1992 or for 1993?
Mr Sterling: For 1992.
Mr McCracken: I don't have my submission from last year, but that's fine. The point was that we had a US recovery that was substantially stronger, with an auto pickup that was substantial, and of course Ontario benefits substantially from that.
Mr Sterling: You weren't alone. The TD Bank, which was here before, predicted a 3.6% GDP growth and the conference board 3.5%. Couple that with some of the other things that are happening and you wonder why the economists are so far off. The difference is significant in terms of what has happened over the past year: 3.5% to 1.5% is 66% off, if you want to look at it that way. Why were the economists so far off on this?
Mr McCracken: It's easiest perhaps to talk about it at the national level. The Department of Finance, if you recall, in its February budget last year was reporting some 2.7%. They now are saying 1% between February and December, and I would say that would reflect the revisions that most have made.
When you look at what's happened, the US economy has not recovered as was thought it would at that stage. Most people were looking at a 3%-plus growth last year. That's faltered and come in perhaps around 2% on a year-over-year basis, maybe even less.
The Canadian dollar weakened, I would say, roughly in line with what people expected, but the drop in interest rates that was expected did not materialize as much and that was the area of difficulty. That reflected in more weakness in non-residential construction, the building side, which has been dropping like a rock this year, and not much strength -- in fact, we'll see what numbers come out in the end, but certainly weaker machinery and equipment investment than had been anticipated and substantially weaker inventory buildup, which last year had been expected to all by itself add a per cent of growth this year; it's in fact taken away growth.
Those are the main elements to it. I think this has had further weakness in the consumer, occasioned by the fact that the productivity growth in 1992 has been better than anticipated by most, so employment has in fact been weaker. That means payrolls are smaller and that means real disposable income grows less, so you have a weaker consumer on top of that. Those would be the main areas.
Mr Sterling: Do you equate any of --
The Chair: Mr Sterling, we've run out of time. I was just waiting for Mr McCracken to finish up his answer.
Mr McCracken: I'll try to make my answers a little quicker.
Mr Sterling: Could I just -- do you equate any of it to this government's policies, particularly Bill 40, the labour bill, which was so vociferously objected to by the business community?
Mr McCracken: I don't. I heard the screams and the yells. It has been in for a few months now, and it's not clear that it's had any places where you can say, "Here's what it's caused to happen." It may become a factor in subsequent years, although whether that will be a positive or a negative factor remains to be seen.
Ms Swarbrick: Mr McCracken, I have two questions for you. The first one is that you've referred to the positive impact that housing starts have had on the recovery. I've read in different articles some people even saying that the recovery has been led by housing construction. Mr Drake had referred earlier to the increase in housing starts from 1991 to 1992 being very much in the social assisted housing field, that in the other housing areas there had actually been a drop in the starts from 1991 to 1992. I'm wondering if you'd indicate whether that would then lead one to believe that the Ontario government's housing programs have in fact very much had a positive impact on the recovery.
Mr McCracken: Well, certainly in 1992 it's helped. Keep in mind that we wouldn't typify 1992 as a recovery. Unemployment still rose.
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Ms Swarbrick: On the small amount of recovery that has --
Mr McCracken: It kept it from being worse than it might have otherwise been. Certainly, to the extent that those can continue, that will continue to underpin growth. We have a continued improvement in housing starts in Ontario and nationally in 1993. I think we're currently looking at about 190,000 nationally. We're still putting the final touches on all of our most recent forecasts, but certainly social housing is a positive thing from the economy's viewpoint. It's also very positive for the people who occupy it, giving them a place to live or to get off the streets, as the case may be. So you would do social housing in many periods even if there were not a recession.
Ms Swarbrick: Mr Drake from the Toronto Dominion Bank referred to the recession being the result of high interest rates and also exacerbated by restructuring. In answer to Mr Harris's question about why Ontario was hit harder by the recession than other parts of Canada, Mr Drake answered that our competitiveness was lagging because there wasn't as much restructuring in Canada as there was in the US as a result of the recession in the early 1980s.
I'm wondering, number one, whether you would say then that the governments of the 1980s should have been more forward-looking in Canada, to have helped industry to restructure to help prevent us from ending up in a situation with such a hard-hitting recession, and number two, whether the kinds of priorities and policies the Ontario government is now following in terms of the areas of heavy emphasis on job training, for instance, where we're putting 24% more dollars this year into job training than last -- this is the most money any Ontario government has ever put into job training -- whether that and the kinds of policies we're pursuing for research and development, capital investment, infrastructure etc are the kinds of right-headed policies this province needs to help move us into a stronger recovery.
Mr McCracken: After that question, how can I say more than yes? Let me just clarify a couple of things. This recession clearly was a policy-induced recession by design. Up until a few months ago, you could still get people bragging about it. Certainly, its effects through a higher dollar and higher real interest rates had a particularly adverse effect on Ontario. Ontario gets hit about twice as much from a rise in interest rates or a rise in the exchange rate as any other province, and in some sense you got both of those. That's really why this recession, even though it's milder in national terms, has been just as severe in Ontario as the previous one in terms of job loss or output loss.
The kinds of changes you've elaborated on are certainly the kinds of things one wants to do. At least that's what we want to try. The thing I would point out is that both the federal government and the provincial governments are talking about doing all of these things. I think the key is that we get them done.
The 25% increase in training is off a pretty low base. That's the promised training this year of 25%, up from 1992. I think it's very important that this government makes sure it delivers on that and gets that training done, because it certainly should help. It should help people adapt. Rhetoric won't do it. You've got to deliver on the programs. I'm not suggesting the Ontario government is unique in this. There's lots of talk federally, lots of talk elsewhere, lots of time has been going on talking about restructuring, yet we still seem to be caught up on the simplest things like how to work out arrangements between the federal government, the Canadian Labour Force Development Board and OTAB at the provincial level to get something significant happening. It's the kind of thing where you would like to grab people in a room, hit a few heads together and say, "You don't come out until you've solved this problem so we can get on with delivering services." So I think it's very important that we not only talk about what we're going to do but also talk about what we have done, to make sure that those who tell you they're going to do 25% more training do it.
Ms Swarbrick: Mr McCracken, you've said that up until a few months ago you could still find people who would brag about this having been a policy-induced recession. Who would brag about that kind of thing?
Mr McCracken: Oh, anyone: the Bank of Canada, the Department of Finance. This was a desired tendency to slow down the economy -- it was overheating -- to cool things down. We were too close to full employment, too close to having inflation get loose. I think even they now are just beginning to appreciate that maybe they have done a bit more than they planned.
Mr Johnson: How much time do I have?
The Chair: You've got about two minutes left.
Mr Johnson: Mr McCracken, the recovery is going to be very fragile. I think you've said that. There are many external factors, global factors, that will impact on any recovery in Canada. Canada is a very small country; large in size but small in population and small in economic dynamics, I think, too. Of course, there are the internal controls that I suggest the federal government has the most control over, for example the Canadian dollar and interest rates and some taxes. When you're trying to do an analysis and bring forward to us this document that you have, do you take into consideration some of the external global factors over which we have no control?
Mr McCracken: Oh, indeed. We would be making assumptions about growth in Europe, Japan, the US, interest rates abroad and so on. Indeed, it's Europe not performing well in 1993 that has caused us to take a slower view than was the case a year ago. A year ago, there was optimism that not only would Europe expand in 1992 much more than it has but that, with the year of 1992 having become a factor, it would be entering a period of relatively rapid growth in 1993, 1994 and 1995. That certainly at the moment is at risk. It is our best reading that almost every European country this year, 1993, will grow below potential, meaning rising unemployment, and that they will be going through the kind of agony that we have in North America last year and the year before. Even Japan has now been added to the casualty list, if you will, of subperforming economies for 1993.
In spite of that, given Canada's strong linkage with North America, we are optimistic, and I would say at the moment we are probably a bit on the optimistic side compared to other forecasters about the US economy. There has been a positive announcement effect with Bill Clinton's election, and we feel that, net, he will take some policy actions in the next few months that will move them up from a consensus forecast in the US of about 2.5% or 3% to probably 3.5% or 4% for 1993.
Mr Kwinter: Mr McCracken, I want to go back to your comments about the unemployment rate. I was particularly interested in your observation that the unemployment rate this year would be 11.1% as opposed to 11.3% last year but that was basically because of the growth in the workforce. In real numbers, though, according to your projections, there will be more people in Ontario out of work this year than there were last year. Is that a fair comment?
Mr McCracken: Regarding the unemployment rate reduction in Ontario, you'll probably get more of your labour force coming back, so you will have probably a similar number of unemployed and maybe more in 1993 than in 1992. That will be because you have sometimes had a hidden amount of unemployment as a result of people leaving the labour force, going back to school or dropping out. Those people will come back and, as a result, give you more rapid labour force growth even though your employment may be improving. In other words, it's possible to have more job creation, as we expect you to have, just a rough number, something like about 100,000 more jobs in 1993, and at the same time have 40,000 more unemployed, because your labour force would have gone up by 130,000.
Mr Kwinter: The point I'm making is that in real numbers there will be more people unemployed this year than last year although the percentage --
Mr McCracken: May or may not be different.
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Mr Kwinter: Yes, it may not be different.
The other point is that when you show the comparison between 1982 and 1990 you talk about the low productivity in 1982 and the fallout of the recession creating high productivity in 1992. That leads me to believe that there's going to be less of a takeup of the unemployed because you've got the higher productivity, which means these companies will be able to meet their requirements without hiring people, because they've got higher productivity, whereas in 1982 there were a lot of layoffs but, because of the low productivity, when business started to pick up a lot of people were re-employed. Have you done any studies on that, as to what is going to happen to the workforce?
Mr McCracken: Yes. It doesn't quite work that way. There was a productivity pickup coming out of the recession in 1982, 1983 and 1984. Indeed, the unemployment rate nationally rose in 1983 compared to 1982, precisely because people came to the labour force. There was some employment growth, but it wasn't enough. You were getting good productivity growth. You got good productivity growth in 1983, 1984, 1985 and 1986, as the economy continued to expand. Keep in mind that in some of those years we had growth of 6% plus. We expect that kind of what we call cyclical productivity growth to occur when we're bouncing out of a recession. It certainly hampers the job creation, the employment creation.
This time around we're not getting terribly strong employment creation, because we have a much more muted recovery. The kind of productivity growth that we're getting, to the extent that we're getting much, is less cyclical in nature -- we're not getting big spikes in it -- more associated with the fact that we have been adding, surprisingly, a substantial amount of machinery and equipment investment in the last several years, in spite of a recession that would normally make you hold back on that investment. We're not productivity pessimists, but because the growth is slow and the gap in output stays fairly large, we're not expecting a big cyclical improvement in the next few years.
What does all that stuff I just said mean? It says that you can have 3% growth, 4% growth even, in the province and you're going to be, unfortunately, disappointed with the kind of employment growth that you get out of that. But, you know, if you want to get more employment growth, the way you do it, get 5%, 6% or 7% growth, that's going to take a much more vigorous consumer and business person to achieve.
Mr Kwinter: That was exactly the point I was trying to determine. In your opinion, notwithstanding the growth in the economy, it's not necessarily going to reflect in an increase in jobs.
Mr McCracken: That's right. I mean, 100,000 sounds great, but not after you've been losing 300,000 or 400,000.
Mr Phillips: I'd just like to get your advice. In the last couple of years in Ontario I think we've lost a couple of hundred thousand jobs. In the next four years, the government's assuming we'll pick up 500,000 new jobs -- that's the underlying economic assumption -- which is about 10% growth in jobs. As an economist, in what sectors would you see that kind of job growth occurring?
Mr McCracken: I don't have it at my fingertips. We have some forecasts of it by detailed sectors, but most of the job creation in Canada is occurring in the services sector -- business services, consumer services, health. There is less so in education, but there is some in education. You don't get much in manufacturing. Indeed, while we might have positive growth in manufacturing, it's unlikely that we're going to be back this decade to the manufacturing employment that we had in 1988. That's nationally and/or in this province. You're going to be looking for it elsewhere.
The reason you get it elsewhere is basically because you've got incomes being generated and people are buying those services. You'll have incomes generated in manufacturing, you'll have some pickup in employment, high-paying jobs, but you don't get big growth in that sector. That would be the picture, if you will, in a snapshot way, of where the jobs might be.
Mr Phillips: In the service sector?
Mr McCracken: Mainly in the service sector, and that doesn't mean McDonald jobs.
Mr Phillips: I understand that, but that's about a 30% increase.
Mr McCracken: It can be finance, it can be -- you know, 70% of the economy is in the service sector, so it's not surprising that's where the jobs are.
Mr Phillips: The other question I have is just any advice you have for us in terms of how the global investment community is watching Canada right now in terms of the collective debts and deficits of the various levels of government, and I guess ultimately the public. Should we disregard that or is that something we need to view with concern?
Mr McCracken: I think you can't ignore it, but I wouldn't pay homage to it. I think all this stuff is relative. Certainly, the Europeans now are focusing on their own problems increasingly, and the Japanese, who are alleged to be down on Canada on January 2, look back on their own economy and can see some strong reasons to say, "Maybe we'd better diversify our portfolio as well." I wouldn't get overly worked up.
The key thing -- I think we've talked about this before -- is that if you can get your interest rates down and your real growth up, these two factors, narrowing that spread or indeed hopefully reversing it so that real interest rates are less than real growth, are going to take care of your debt instability problems and will put you into a much more healthy situation as an individual, a provincial government or a federal government, or indeed our relations internationally.
As we bring rates down and as people see that our growth prospects pick up, I think you'll find that Canada gets back on the list of good lookers from the viewpoint of international investors and indeed of Canadians, who often are those international investors.
The Chair: Mr McCracken, it's a little past 3:30, but that's all right. We wanted to hear that last answer. I would like to thank you for appearing before the committee.
Mr McCracken: My pleasure.
The Chair: I always like your slides --
Mr McCracken: There you go.
The Chair: -- and your pamphlet here. It's always very plain and easy to read. I'd like to thank you for appearing again this year.
Mr McCracken: If I come back next year, I'll bring cartoons. How's that?
The Chair: Thank you.
Mr Sterling, it seems that Mr Mancini has given us a definite no. I will excuse you from committee for half an hour if you want to go down and talk to him. It looks like we'll be in this room tomorrow.
Mr Sterling: It's unfortunate for everybody, but that's the way it is.
The Chair: I bend a little bit more as the Chair, as you know, Mr Sterling.
Mr Sterling: Sure.
CANADIAN IMPERIAL BANK OF COMMERCE
The Chair: The next one we have is the Canadian Imperial Bank of Commerce and Mr Whitehead. Welcome again this year to the standing committee on finance and economics. You have until, I believe, 4:15. I hope it's more good news.
Mr Tim Whitehead: Mr Chair, members, I would like to begin by thanking you for the opportunity to appear before your committee once again this year. As an economist, I'm not used to being invited back to speak, so I'm very appreciative of the invitation.
I note that the letter of invitation said that your committee was interested in hearing my views and analysis on the current state of of the economy and my forecast of economic performance over the next year or so. I have chosen not to take those terms of reference as limiting. Instead, while the first part of my comments will deal with the economy and the outlook, the second will contain such advice as I am able to give in regard to the preparation of the budget.
The economic outlook: When I met with your committee last year, my forecast for the Ontario economy was that it would grow very slowly in 1992, that the unemployment rate would remain high and that both interest rates and the dollar would decline somewhat. On all four counts, I was guilty of understatement, particularly so in the case of the dollar, but the general trend of the weak recovery has largely transpired.
The fact that this weak, perhaps even statistical recovery has not resulted in significant job creation is of course the critical concern. If we assume, as general rules, (1) that real growth has to be at least 1% to compensate for labour-saving productivity improvements, and so lead to net job creation, (2) that employment growth has to be at least 1% to offset growth in the labour force, and so lead to a decline in the employment rate, and (3) that firms are particularly reticent to hire workers in this uncertain economy, then it is a simple arithmetical matter to see that real growth must be a good deal more than 2% just to keep the unemployment rate from rising. Most estimates are that real growth in Ontario was about 1.5% in 1992. Correspondingly, we saw the province's unemployment rate rise considerably last year.
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Will the situation be any better this year? I don't presume to speak for the other presenters today, but most forecasts I have heard suggest that Ontario will grow by between 3% and 4% this year. The CIBC forecast calls for about 3.1%, marginally better than the national average. This, according to the simplistic method I've just outlined, would lead to a very small decline in the province's unemployment rate. Our forecast has the jobless rate falling from 10.9% in 1992 to 10.6% this year.
The strongest growth prospects are in the export sector, where the nascent recovery in the United States and the relatively low Canadian dollar bode well for Ontario's economy. I am less sanguine about the outlook for non-residential investment. My perception is that businesses, as pressed as they are to invest to meet competitive pressures, are still wary of the economic and policy climates. I don't have a specific growth number in mind for non-residential investment, but I am sceptical that investment in machinery and equipment will grow in real terms by the 7.5% envisaged in the Treasury and Economics outlook.
The big question mark, both in importance and uncertainty, is the consumer sector. Continuing high unemployment and the threat of downsizing will probably constrain consumer confidence for some time to come. Even so, after four years of relative restraint and with interest rates down sharply, the Ontario consumer should be returning to the market. Which will dominate in 1993, continuing economic uncertainty and a lack of consumer confidence or a gradual end to belt-tightening? My sense is that consumer spending will grow somewhat faster than the provincial economy, with spending up by about 3.5% in real terms.
Overall, we at the CIBC are looking for growth of 3.1% in 1993, as I said, a modest increase in employment and a very small drop in the unemployment rate. Another important factor for the province's revenues is that inflation should remain very subdued. In Ontario, the rate is likely to be little more than 2% in 1993. I've included a table outlining my forecasts at the end of my handout.
I've talked in terms of the economists' constructs of the expenditure categories. Let me turn to discussing the outlook in more concrete terms.
On an industry basis, we expect relatively strong growth in transportation equipment, plastics, logging and forestry, and electrical and electronic products.
In the case of the transportation equipment sector, which includes automobiles, and forestry, this growth represents just some recapturing of ground lost during the recession.
Industries which are expected to lag behind the overall economy include primary metals, machinery and equipment, construction and metal mining.
On a regional basis, the forecast suggests a very weak recovery in the northern parts of the province and a relatively stronger recovery in the greater Toronto area. The rest of Ontario should see growth approximating the provincial average.
Regarding the upcoming provincial budget, this projection of continued sluggish recovery and sparse job creation is not a good environment for budget making. An old rule of thumb is that in the absence of tax changes, revenues grow at 90% of the nominal rate of growth in the economy, and so the sluggish growth points to weak revenue growth. I'll have some more detailed comments about revenue projections in a few moments.
The slow pace of job creation means that the province's tremendous burden of welfare costs is not likely to ease in 1993. Low inflation will help to contain the growth in other costs, and the relatively stable interest rates will give the somewhat cold comfort that debt-servicing costs will rise at a rate approximately equal to the growth in the province's outstanding debt. Overall, the economy's performance will not make it easy to achieve a significant reduction in the province's deficit in 1993-94.
I want to devote some time to the revenue projections because I have a number of very serious concerns on this score.
In his 1992 budget, the Treasurer included a medium-term projection of revenues and expenditures. Revenues were to grow from $44.9 billion in fiscal 1992-93 to $48 billion in 1993-94, based upon, among other factors, the assumption of the Ontario economy growing by 3.2% and 6.1% in nominal terms, that is, with inflation included, in 1992 and 1993, respectively.
In his most recent fiscal update to the Legislature, the Treasurer indicated that, to quote him precisely, "in the absence of further policy changes, we now estimate our total revenues next year will be $4.2 billion less than planned in last year's budget." I believe he's right. But let's look at the revenue projections contained in last year's budget. I've included a graph at the end of my handout.
From the revenue projection for 1992-93 -- that's $44.9 billion -- subtract the items which were essentially one-time sources of revenues: the fiscal stabilization grant from the government of Canada and the sale of assets, $2.2 billion together. The resulting $42.7 billion represents revenue from ongoing sources.
If we assume that this revenue grows at 90% of the rate of nominal growth in the economy, the 6.1% that was included in last year's budget, then revenues in the absence of further policy changes would grow to $45 billion in 1993-94. Add about $500 million to take account of the full impact of the taxes introduced in the 1992 budget and some bounceback in corporate income taxes. The resulting projection of revenue for the province of Ontario in 1993-94 is $45.5 billion.
The discrepancy between this projection and the $48-billion figure included in last year's budget is $2.5 billion. Without revenue enhancements of some sort, the province will fall short of that amount. The downgrading of growth projections -- they mainly have been on the inflation side -- since the 1992 budget has probably added to that shortfall.
I want to return to another aspect of the revenue projections which I have mentioned briefly in passing, the inclusion of one-time revenues in the operating account of the budget. In its first budget, the government made a very sensible move to split the account into two parts, operating and capital, to reflect the fact that some expenditures should be viewed as investments, should be amortized over a number of years and should be recognized as one-time expenditures. The same logic would suggest that one-time revenues such as those arising from the sale of assets should not be included in the operating account.
Having analysed a lot of provincial budgets over the last few years, I put a lot of emphasis on a full representation of a province's financial situation, weaknesses as well as strengths. This moves me to make the suggestion, and I realize that it's an ambitious one, that the committee consider recommending a fundamental change in the province's accounting methods. Instead of cash-based accounting, the province should consider moving to accrual-based accounting. This would mean that expenditures and revenues would be recorded when they are incurred as opposed to when the cash actually changes hands.
Under the accrual method, the federal fiscal stabilization grant would be recorded as revenue in the year for which it was, in effect, earned, 1990-91 and 1991-92. Instead of selling land to a crown corporation, in order to recognize its appreciated value, reassessments would be conducted periodically so that the province's balance sheet was a reasonable reflection of the situation. Commitments for expenditures, be they grants to municipalities or other transfer partners or contributions to pension funds, would be recorded in the year they were incurred.
This would be a major change but it would do much to reassure citizenry and bond-holders alike that the finances of the province of Ontario were open to view, were in effect transparent. New Zealand has already chosen to adopt this more transparent form of accounting as a step to more open government.
I want to conclude by returning to an idea I suggested in my presentation last year; that is, that the government should consider establishing the expenditure side equivalent of a Fair Tax Commission, a group of outside individuals to examine the ways in which public funds are spent in Ontario and to recommend ways to save money as well as identify the associated costs, if any, to the quality of publicly provided services in the province. I would even structure a group after the pattern of the Fair Tax Commission; that is, I would have working groups focus on specific categories of expenditure for a fixed period of time. For example, a working group might examine social assistance and reassure taxpayers that fraud is minimal or that all reasonable efforts are under way to eliminate fraud if such is the case.
I know that members of this committee share the concern to save money where possible. I think this effective expenditure commission, as I call it, would serve a useful purpose in this regard. I also believe that an effective expenditure commission could achieve the equally important goal of assuring the taxpayers of Ontario that their tax dollars are well spent.
That assurance is vitally important. Everyone in Ontario, it seems, questions the value they get for their tax dollars. Part of this stems of course from the fact that taxes are high and continue to rise. It also comes from the fact that people frequently do not perceive much benefit from the taxes they pay.
We pay a lot for education in Ontario, but parents perceive that their children are not keeping pace with children in other countries. We pay a lot for health care, and I think certainly by comparison to other countries, we get good value for it, but there are perceptions both inside and outside the health care sector that much of the money is wasted. Social assistance and income support absorbs about 20% of the province's operating budget. The vast majority of Ontarians strongly believe in helping the less fortunate, but there is also a widespread suspicion that some of that budget is wasted and that there are people abusing the system. Finally, as debt-servicing costs continue to absorb more and more of the province's revenues, it will be increasingly difficult to convince taxpayers that the associated debt was accumulated for good purposes.
On this score, I need hardly tell you that people generally are no longer satisfied to be told by politicians that tax dollars are being managed prudently. There's a credibility gap for whatever reason. Economists share it.
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This is why I believe that a thorough, independent, believable review of the ways the government spends tax dollars is essential. I worry that without such an effective expenditure commission, there will be a continuing and gradual deterioration in how the average citizen perceives the use of her or his tax dollars. That could contribute to more businesses leaving the province, more individuals taking their marketable skills elsewhere and more resources devoted to tax avoidance and tax evasion.
An effective expenditure commission will not of itself solve this problem of course, but at the moment I cannot think of a better way to start.
Chair and members, by way of conclusion, let me summarize my key points:
The Ontario economy should grow by a little more than 3% in 1993, but the pace of job creation will be disappointingly slow and the unemployment rate will average in the mid-10% range.
Based on the economic projections contained in the 1992 budget and the latest updated outlook from Treasury and Economics, the province cannot expect revenues of $49 billion in fiscal 1993-94 without revenue enhancements of some sort.
To provide a fairer, more complete, more transparent statement of the province's financial situation, the committee should recommend that the current system of cash-based accounting be replaced by one of accrual-based accounting.
This committee should recommend the establishment of an effective expenditure commission composed of outside and independent persons to consider the effectiveness of government spending.
Again, I thank the committee for the opportunity to appear before it. I'd be happy to answer any questions you may have.
The Acting Chair: Thank you very much, Mr Whitehead. The normal rotation would go to the government side.
Mr Ward: I think it's the general consensus that the recession or depression, however you want to define the tough economic times we've experienced over the last couple of years, has been more than a simple business cycle and that we've undergone tremendous structural change to our provincial economy.
We heard from an economist before you as well as the Toronto Dominion Bank. They're both relatively optimistic in projecting economic activity in the year 1993 as well as in future years. I believe you share that same sense of optimism to a degree. Do you feel, from a provincial standpoint, there is limited action that can be taken on the economic front and that the province should really be focusing on long-term policy implementations dealing with these structural changes rather than the business cycle?
Mr Whitehead: I'd agree with almost all your points. I think this has certainly not been just your typical downturn as part of the business cycle. Certainly it has been superimposed with a lot of restructuring. It has also had a demographic component, which perhaps other speakers have spoken to, and the fact that people are out of their peak spending years. There's that baby boom factor.
I'd quibble with one point about optimism. The 3% growth I'm talking about for next year doesn't really constitute a lot of optimism in my mind. It's still pretty meagre growth given what we've gone through.
As for the important part of your question, as I understand it, can the province do very much about the very short term economic situation, I would argue that almost no government in Canada can do anything about the very short term. In fact a lot of our problems have arisen because subsequent governments going way back have made ongoing efforts to try to ameliorate the very short term downturns. Rather all governments should put more focus on trying to correct things for the longer term.
That really addresses more the restructuring issue. Whether governments can play a very big role in aiding that restructuring is another question. It's very difficult for governments, as for anybody, to pick winners and losers. To the extent that they can help with infrastructure, job training and that sort of thing, perhaps there's a role there.
Mr Ward: From that I'm gathering you're suggesting that governments should be attempting to put in place or assist in the fundamentals so that the private sector can have adequate room to grow and prosper rather than concentrating on the short-term, fiscal outlook of tremendous job creation through short-term stimulus.
Mr Whitehead: I would certainly recommend against short-term stimulus to try and create jobs. As for what the government can do to help with the longer-term environment for the private sector to create jobs, I would balance the desire for infrastructure or job training against the negative consequences, some of that, and that is a higher deficit and consequent tax increases down the road.
Ms Swarbrick: I share your concerns very much about the continuing apparent deterioration and I believe there is a continuing deterioration in people's perception as to how well their tax dollars are spent. That's something that I know has troubled me considerably. I'm going to give some serious thought to your proposal around the effect of an expenditure commission, because I think something needs to be done.
One of the things I'm wondering about, though, is that you're talking about the concern about welfare abuse and that being a means to help redress people's concerns around that. Given that, as you also refer to and many others do, the great increase in unemployment caused by the restructuring of the recession and the other factors that have led us to such a significant recession are really the causes behind it -- and I assume you would agree with me, and that will be a question to you, I guess, too -- and given the tremendous effects of the recession and that the unemployment it has caused is clearly the biggest factor in the increase in the number of people on the welfare rolls, I'm wondering if you wouldn't agree that in fact then the biggest way to reduce the welfare costs would be to create jobs.
If we look at what Mr McCracken was saying, that the recession in fact was a policy-induced recession, that you can look at people setting out to say they've got these goals of trying to in fact depress the economy that led to it, I don't understand why we couldn't establish goals that clearly were geared to being able to stimulate the economy in a way that would create that employment. So in spite of what you've just answered to Mr Ward, I'm wondering if you could paint the picture as an economist of what kinds of policies you think would help to meet that kind of a goal of employment creation as the best way to get people off the welfare rolls and save all of our tax dollars.
Mr Whitehead: Okay, there are a number of questions in there. Regarding the first part, the dramatic increase in the welfare costs of the province, I can't find anybody who would argue that it has not been a consequence of the deep recession that we've just had. It's not fraud, no matter what Diane Francis may write; it's clearly a fact that unemployment insurance has run out and people are back on welfare.
The bigger question, though, is: Can the government do an awful lot to get those people off welfare in the short term, or will it cost it even more to create those jobs than the ongoing maintenance cost of welfare? I am somewhat doubtful that the government can really spend money in such a way that it gets people off welfare and saves money that way by stimulating the economy.
Let me phrase this precisely. I believe that the cost to the government sector, and that would include the federal government, is greater to create a job than is actually saved in terms of costs to the government sector, because the best that could be hoped for is that you would get these people off welfare and get them back working, which I'll grant you is a desirable social goal in itself. But in terms of the pure numbers, all you do is shift the burden to the federal government and the unemployment insurance and then get to buy yourself a respite before you have to pay for the welfare costs again. What you need are sustainable jobs and ongoing jobs, and I'm not sure that the province can do that in the short term.
Ms Swarbrick: What about the long term?
Mr Whitehead: The only sustainable jobs you're going to get in the long term are from the private sector, and to me that comes back to the answers I was giving to Mr Ward. Primarily, you've got to have a proper business environment to create the jobs. I don't mean low taxes by that -- I don't think superlow taxes are the answer -- but a stable, believable future of taxes that are not going to continue to go through the roof, and in fact should level off, and a reasonable infrastructure.
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Ms Swarbrick: So would you say putting more money into creating jobs in the short term by building the infrastructure for the long term, such as our government is trying to do, is in fact one of the good policies that needs to be pursued? Would you say more needs to be put in there?
Mr Whitehead: No. Actually I'd be concerned about doing that, because I think when you run up the deficit, what happens to consumers is they become very scared. The deficit, the provincial deficit in particular, has become a bit of a barometer of this recession. The fact that we've had a couple of 11-digit deficits, I think, has done as much as almost anything else to scare consumers into thinking that the economy really is going to hell in a handcart. To run up that deficit even more, even if it's going to have long-term benefits, may in fact exacerbate the situation and cause people to retrench even more.
Ms Swarbrick: But you sound like you're doing what I think a lot of economists do. Basically, you put out a nice generality of, "Create a stable environment and not let taxes go through the roof," but what else? I mean, surely people like yourself have some kind of innovative ideas in terms of what are the things to get us there in the long run, and you can start being specific about them instead of just being negative about some of the things governments like ours are trying.
Mr Whitehead: I'm not trying to be negative. I don't want to leave that impression.
Ms Swarbrick: I appreciate that, but be positive and specific.
Mr Whitehead: Okay. I understand the desire to spend money in terms of infrastructure, but there are difficult times that we're facing at the moment. If you try and spend money on that infrastructure, you run the risk of pushing up the deficit and so scaring people even more. I would say far more important is to make a lot of the tough decisions on the expenditure side -- and the government has made a number of tough decisions, but you're going to have to make more, it seems to me, because that's the only way you're going to be able to reassure people that their taxes are not going to continue to go through the roof.
Ms Swarbrick: Is that the only solution?
Mr Whitehead: It's the one that comes to me immediately. I could go into little detailed suggestions. The one that occurred to me a few days back was maybe a tax on hydrocarbons matched by incentives to spend on energy savings: a revenue-neutral tax. It might encourage people to go out and actually spend money to refit their homes, or whatever. That's a proactive sort of thing. I haven't tried to do any analysis on that. Perhaps somebody in Energy's doing that.
The Chair: I'm going to have to go on to Mr Phillips.
Mr Phillips: I appreciate the work you've done on this. I think it's insightful. I'll just tell you, my own view on your numbers is that they will solve it. The fiscal stabilization money is not coming in this year; it will be rolled into next year. So that's how $1.2 billion will flow in.
Mr Whitehead: It was rolled in from last year too.
Mr Phillips: Yes, I know. It keeps rolling and then the day the budget comes out the deficit is higher than it was expected. I think they may keep selling assets next year as well. They've got unlimited assets. It's a paper transfer to themselves. So that's how, in my judgement, they will get more revenue next year. The deficit will be announced, the day of the budget, differently.
I agree with you personally on the accrual versus cash basis. If this were a company, there'd be no accountant in Canada who could sign the books. I do think the books don't reflect the numbers for the public. They're not doing anything illegal, they're not doing anything that other governments haven't done, but it's wrong.
Another thing that will happen this year is that several capital corporations will be set up. In my opinion, the prime motivation is to hide the real deficit, so the deficit will be reported at $6 billion instead of $10 billion. You say here, though, that you think that's a good idea, or at least you like separating capital from operating, which is one thing, but setting up the capital corporations -- I guess my question is: Have you had a chance to look at the concept of the capital corporations and do you have a comment on those?
Mr Whitehead: I would answer that, in fact, again by reference to my accrual accounting, you could set up a capital corporation to -- let's take a concrete example, if you will, of investing in roads and collecting the tolls and whatever. The value of those roads and the value of the debt outstanding would be netted against the budget, so it would have to be recorded in each budget. If in fact the value of your roads went down and you still had all that debt, even in those crown corporations, that would be reflected in your deficit for the year and the government would have to record that the value of the debt outstanding had been reduced. So it would be captured under an accrual accounting basis.
Mr Conway: I'm just a substitute to this committee, but I must say I found your presentation very good, very helpful, very focused. Just one complaint, to be perfectly honest: I get angry, quite frankly, and I become furious with financial institutions that come to me these days and talk about the need to restrain expenditures -- which I agree with, by the way -- and then the only example we can all find is the social assistance account.
Mr Whitehead: No, I'm sorry --
Mr Conway: But it's the only one cited. I know you understand that the net has to be wider. I've been muttering here all afternoon at some of these bank presentations, because I've just watched the conclusion of the Charles Keating trial in the United States and I've just listened to the Blenkarn hearings in Ottawa about what I'm doing as a federal taxpayer to underwrite the outrageous misconduct, apparently, in some of these financial institutions, provincially and federally, licensed and non-regulated. I probably don't want to know how many hundreds of millions of bucks the unemployed in my constituency are going to have to pay to clean up the mess that has been created by incompetent governments and financial institutions, some of them even class A chartered banks, whose behaviour over the last five years has been greedy, immoral and, more important, is going to cost the federal taxpayers of this country a lot of money, I suspect.
I'm sorry for kind of going on about that, because I think your presentation is very good.
Mr Ward: Don't be sorry. What do you think about that?
Mr Conway: Maybe you want to comment, because I really like your point about an expenditure control. I sat in a government for five and a half years and I think your point is very powerful. In our politics, which in the last generation has become a potlatch of special interests, when well-financed, powerful people barking shamelessly with very weak cases continue to get funding from local, provincial and federal governments, boy, do I want to see your effective expenditure commission.
One of the questions I have for you on that, given the reality of politics, particularly as practised by an upper-middle-class élite, is how do we make this commission actually have the effective bite you and I desperately want it to have?
Mr Whitehead: Can I preface my remark by saying we aren't class A banks; we're schedule A banks. There may be a big difference.
Mr Conway: Apparently there is.
Mr Whitehead: I would also, out of duty, argue that we have not been immoral, scandalous or greedy. We have, in some cases, been foolish.
Mr Conway: When I think about the 2,300 people who are going to get their pink slips from -- is it your bank?
Mr Whitehead: It's actually 2,500. It is, yes.
Mr Conway: The national news tells me that some of that has to do with your involvement with some of the really high-octane commercial real estate speculation of the 1980s, which we're now told was transparently dangerous from the very beginning. But that's probably unfair.
Mr Whitehead: I fundamentally disagree with that as well, even if I might be one of the 2,500. Who knows? But I think in point of fact that's not the case.
I would also want to emphasize that when I raised the social assistance portion of the budget, I am most concerned about the perception that it's unfair or a waste of money or that there's widespread fraud. I mentioned, I think in answer to Ms Swarbrick's comments, the Diane Francis type of columns. I am concerned that there's a big perception out there that welfare recipients are not just down on their luck, they're actually ripping off the system. I don't want that to happen. I don't want to get a mean society where it's divided between the haves and the have-nots and there's a war over the budget. I would be much more concerned to show that there's not widespread fraud, to reassure people that there isn't widespread fraud. I'd be more concerned about the other areas of expenditure. Health care is the one that comes to my mind, and I keep hearing horror stories about health care expenditures.
How to give such an effective expenditure commission the clout is to give it a tight time frame, give it free run and give it publicity, so when its report comes out, it's short, it's succinct and it's readable for the average person. It's not hidden away, it's not filed somewhere, it's not vetted first by some ministry, but it's got to be out in the public. That way, it cannot be swept under the rug.
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Mr Conway: I agree with you. I think it's a very good recommendation. I become angry on the subject of social welfare because I've been in politics now for 18 years and most people I know believe there is widespread abuse on that account. I happen to believe that while there is some abuse, it's not nearly of the order of magnitude as imagined; quite frankly, it's probably, as a percentage, not nearly as high as some of the abuse and some of the corporate welfare that has been well documented by a number of people over the years.
As a practical matter and as a politician, if I'm going out, particularly in these environments, I've got a fairly high pain tolerance and it's becoming higher all the time. I think the weight of your presentation, the direction of your presentation, is very correct. When I look at what any government in this province is going to have to do over the next few years -- I don't know why I would stay in the business of politics, but I intend to, because I guess I'm just that perverse.
Well, we laugh, and that's the easy response.
I come back again to the effective expenditure commission. It's 10 years ago that one of this province's leading business authorities, and a very fine fellow, Duncan Gordon, came to a health care panel where I was present, and he outlined a very compelling and a very credible effective expenditure commission for the health care sector. But he concluded his presentation by saying: "This will apply to 252 of the" -- then -- "253 publicly funded hospitals in the province. It does not apply to the hospital of which I'm chair of the board." He went on to explain why, and it was a very compelling argument. You know, "Everybody else is abusing the system, everybody else is ripping off, but not me."
When I look at your presentation, one of the questions I have, I think very telling, is your calculation about the expenditure shortfall. I think you're right, as my friend from Scarborough has also observed. You're using that wonderfully felicitous Reagan phrase for tax increases: "revenue enhancements." Let's call it what it is: tax increases. Reading your presentation, it makes me believe we would probably have to look at a tax increase in the order of magnitude of $1.5 billion in fiscal 1993-94, together with significant expenditure controls, to achieve the $49-billion revenue figure. Correct?
Mr Whitehead: Not necessarily, but the numbers will bear that interpretation.
Mr Conway: So it's not unrealistic to imagine, with that kind of shortfall, that a tax increase of several hundreds of millions or perhaps $1.2 billion, $1.5 billion, might have to be considered as one of the options to make up that shortfall, if your analysis is correct.
Mr Whitehead: You could avoid a tax increase if you go with an asset sale.
Mr Conway: So you could do it all on the asset sale?
Mr Whitehead: You could. There's Ontario Hydro still sitting around.
The Chair: Mr Conway, I've got to cut you off. Mr Sterling.
Mr Sterling: I'll try to keep it brief so we can keep moving along.
I too am interested in your discrepancy with regard to the $2.5-billion shortfall. I guess you're reading in terms of the Treasurer's indication that in his 1992 budget he was shooting towards a deficit of $8.1 billion for 1993-94; that was his prediction last year. What you're saying is that that prediction of $8.1 billion is off, that the deficit is either $10.6 billion or, in addition to any other shortfalls he might have discovered over the past, he's got to come up with $2.5 billion in new taxes.
Mr Whitehead: He does have a couple of things going for him, which may surprise everyone. The government has instituted a number of expenditure restraints, and that will save it some money in 1993-94 over and above what its projection was of expenditures. They will have the $1.2 billion, the fiscal stabilization grant, which will undoubtedly get folded over into 1993-94. And let's be fair to the government in the sense that how hard could it press the claim for that fiscal stabilization if it didn't include it in the budget? So they do have to include it in the next year if they have any hope of receiving it. If you add those two together, you're getting somewhere in the order of $1.5 billion to $2 billion, so on those two scores alone it's going a long way to getting back to that $8.1-billion figure.
Mr Sterling: I'm intrigued by your expenditure control commission. I've recently read a few of the Fair Tax Commission reports, and it seems to me that when the Treasurer has asked the group to deal with property tax, for instance, it has said, "Property tax is unfair, it's inequitable, it leads to all kinds of problems and you should tax some other way," but they don't tell the Treasurer how to get that $5.7 billion or $6 billion which would be required in order to replace property tax. Then I go to the report dealing with taxation of the poor, and it says, "People below the poverty line as determined by Statistics Canada should not be part of the income tax system," but they don't tell the Treasurer where he makes up that shortfall with regard to what is there.
My concern in terms of setting up any kind of expenditure commission is that, number one, you can't have in the room the people who are in a conflict-of-interest position; that is, if you get people who are knowledgeable of the system, usually they are defensive of the expenditures. We're going to see later this week, for instance, the university people come in and the teachers come in, all wanting more money. Have you laid your mind as to how you would formulate this expenditure commission so that it would give the public and the government the straight goods?
Mr Whitehead: In discussions I've had about it with my colleagues, one of the phrases I've used is a "flashlight," that a lot of government activities, as far as the taxpayer is concerned, are a big black box: Money goes in and somehow it comes out and somebody's benefiting, but it's hard for the taxpayer to know.
In the case of the Fair Tax Commission, what it's really doing is trying to reconcile competing interests, as you've pointed out. In a number of groups they've simply been deadlocked or only been able to come up with the comment that, "You should find the money somewhere else because this isn't a good tax." But in other areas they've done reasonably well. The retail sales tax group was one that did not seem to promise much opportunity for agreement, but it actually did come up with a consensus on a broad number of issues.
In the case of this effective expenditure commission, what I think really needs to be done is a flashlight. We're not talking about a broom to sweep away things right now; let's just show a flashlight so that the average person on the street can feel that people other than politicians and civil servants have looked at this thing and come up with as much in the way of savings as they can or identified the areas of savings as much as they can. There's just the sense that if the only people who get to see it are civil servants and politicians, then I think the average person on the street will not be satisfied that his tax dollars are well spent.
Mr Conway: Can you imagine a flashlight on the Dome stadium in the early years?
Mr Whitehead: "Flashlight" is an evocative phrase, I'll grant you.
Mr Conway: But using that as an example, I just wonder what that flashlight would have found and what we would have done about it. I know what we didn't do.
The Chair: Mr Carr, you've got time for one short question.
Mr Carr: I was looking at the amount we spent on social assistance 10 years ago, in 1982. It was $2.1 billion. This year it will hit $9.4 billion. One of the concerns I've got isn't that people who are on social assistance are abusing the system, but wouldn't you say one of the concerns is that what you can make on social assistance is now such that at the low end of the scale -- I'm thinking now in terms of jobs, whether it's cab drivers or something where you don't make that much -- literally it's better for you to go on social assistance than it is to take a job? I'm thinking of Bill Clinton, who hasn't been known as a right-wing individual, who is now in the States, if he can get it through his Democratic Congress, saying he's going to link the jobs and welfare together. How would you suggest we do that, in order to get people on social assistance who can work back into the workforce?
Mr Whitehead: I don't have a good answer for that, I'm afraid. I've tried to work my way through Transformations a couple of times but haven't got all the way through. It did strike me at that time that they were really trying to grapple with the question. I'm not sure that right at the moment there really is a problem in terms of the social assistance being so high that it's discouraging people from taking jobs. There aren't many jobs out there to be taken.
Mr Carr: You mean at the low end of the scale?
Mr Whitehead: At the low end of the scale, yes. But I think that if it is a problem, it will arise in 1994, 1995 and 1996. I suspect the bigger problem you have is the overall expenditure level of the government and the deficit. That, with its unsettling aspect as far as business investment is concerned, probably prevents a lot of this job creation.
The Chair: I've got to cut you off now. I'd like to thank you for appearing before this committee. I see you sparked a little bit of interest on the left side over here.
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DRI/MCGRAW-HILL
The Chair: The next group is from DRI/McGraw-Hill, Mr George Vasic and Robert Fairholm. Welcome to the committee. We have 45 minutes. Out of the 45 minutes, if you can leave some time at the end, you'll have some interesting questions thrown at you. You may begin.
Mr George Vasic: Thank you. Let us introduce ourselves again. I'm George Vasic; this is Robert Fairholm. We represent DRI/McGraw-Hill, an economic consulting firm.
I know that you're hearing, as in past practice, several outlooks from several different people. What we are planning is trying to cut the overhead discussion -- ie, those things you presumably are already familiar with -- and get to the meat of it. What I plan to do is spend a few minutes on the overall Canadian economic outlook. After that, Robert Fairholm will talk about the Ontario side of things in more detail. There should be ample time left over for questions.
Essentially, where we see the world right now is that we are in fact in the initial stages of economic recovery. There appeared to be some stall in October, after the referendum, but the data we have available for November and December for things like employment, car sales, housing starts and the resale housing market showed that things picked up through the quarter and that in fact the brief revival we saw in the summer of 1992 was resumed as we closed the year. Also, the anecdotal evidence from retailers was that Christmas was not too bad, though I'm concerned that their expectations might have been very low after the last couple of Christmases.
You have in front of you a handout which details a lot of our numbers, but I suspect our forecast will be coming fairly close to the consensus number you've been hearing so far, in that for Canada as a whole we're looking for about 3% growth in 1993 and 4% in 1994.
The thing you have to remember about this recovery is that as we go into it, while the recession itself may not have been extremely steep, it has been quite a protracted process and the cumulative effect of what is really nearly three years of recession, followed by stagnation, has opened up the output gap, in our view, by about 9.5%. That's a very large gap that will take a long time to close.
The other part of all this is that we are at this time involved in not only a cyclical episode but a structural one as well. I think you have to talk about the two of them separately. Let me talk about the structural one for a few moments first, because I think for the long term that's the more important one.
I think, contrary to some of the comments you may have heard earlier, the root of our present woes, in that we have a very slow rebound out of this recession, comes from the mid-1980s when productivity growth in Canada simply stopped. We believe the reasons for that are tied to the low Canadian dollar, which sent a very strong wave of corporate profits through the system by 1988 and perhaps gave management incorrect information as to how lean and mean Canadian business really was.
In the second half of the 1980s productivity in Canada grew cumulatively by 15 percentage points slower than it did in the United States. As you know, productivity is the key for our long-term welfare and standard of living. At that time, of course, we had policy measures which, in the short term, exacerbated that. We had higher interest rates as we pursued lower inflation. That appreciated the exchange rate. Furthermore, wages did not resemble the productivity performance we were having.
As a result, when we began the recession we had to address this cumulative cost problem within the context of a cyclical downturn, which is again very unusual. There's nothing to say that because a recession has started, we have a cyclical problem to address. It wasn't the case going into the last recession, but it certainly is the case through the last three years and it will be exerting itself over the next several years.
That 15% gap is the amount by which US productivity grew faster than our own. So even though we've started to see some productivity gains, the US is not standing still either, and even if we beat its productivity numbers by 3% a year, which we won't, it would take five years to close that gap. For example, last year, a year in which Canadian output grew 1%, our employment levels fell 1% and we had a productivity gain of 2%. That's very good for an economy that's virtually stagnant, but it shows you how far we have yet to go. This will be ongoing, and what this means, essentially, is that we will need more economic growth than we have in the past to make sure we get some job growth and to try to make some progress on the unemployment rate.
On the cyclical front, which is the other element, basically recessions are the net result of an imbalance between expenditures and incomes. Here in Ontario we were poised for a very sharp cyclical correction in any event, consumers and business alike, and, abetted by a very strong profile of government spending, all made the boom stronger than it needed to be and as a result we're heading for a much larger bust.
The disconcerting part of our present circumstance is that our progress in rectifying those imbalances to date has been relatively slow. Consumer debt loads and debt service obligations remain very close to their peaks and as a result haven't yet formed a foundation from which sustained and large-scale spending can occur. In addition, savings rates by consumers were very low entering this recession and have remained low throughout, and is not an avenue which consumers can use to make spending growth exceed their income growth.
On the corporate side, corporate profits, as you well know, have been decimated. Even though there is some rebound that we can now expect, in most cases, as a result of firms losing vast amounts of money now losing less as opposed to firms generating lots of new income growth, the fact is that profits remain extremely weak and corporate balance sheets are compromised.
One comment you hear a lot is that confidence is a problem. In our view, that is not the case. We believe confidence is not a psychological phenomenon but rather an economic phenomenon. If you look at consumer confidence, for example, it reacts very predictably to employment growth, inflation, interest rates and so on. We find the consumers are feeling about right given the economic circumstances. They are not so pessimistic that they're feeling worse than they ought to, given the economy, and therefore can't be viewed to be holding the economy back.
On the business side, we find that business is in fact quite optimistic, perhaps more optimistic than it ought to be. Our fear for 1993 and 1994 is that if reality falls short of that expectation, business spending might have to be cut back further. So the risks to our outlook remain on the downside of the growth rates that we've been talking about.
On the international front, something that is also not typical of business cycles is occurring, meaning that the international economies are not in the same time warp as we are in North America. In fact, the North American recessions began first and we are at a more advanced stage. Right now you've heard widespread reports about the European and Japanese economies being at various stages of decline and/or stagnation, and that will make an export-led recovery that much harder to get.
With everything in some sense evening out around the globe, we are not all moving in concert and thus anything more than a slow comeback from this recession is not possible. That means the US economy becomes that much more important. Through the last year or so you've heard quite a bit in headlines about the progress of Canadian exports, particularly to the US, and how that has been really the only engine of growth. Those reports are true. For example, the US economy in 1992 will have grown 2%. Our exports there are probably up 10%. That's a very good performance.
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However, what isn't said is that a lot of our exports are captive and occur between multinational firms, and the evidence seems to be pointing to the fact that exports and imports are much more tightly linked than they used to be. So while we're getting a big bang for our exports south of the border, we are importing a lot of goods, doing some work and sending them back, and what you're seeing is that our import numbers are also surprisingly strong.
This year Canadian imports in real terms will be up about 6%, with an economy that's grown by 1%, so the net contribution of exports is not nearly as substantial as you would think, given the export numbers you're hearing.
The Canadian dollar and interest rates: Just to summarize our view there, we see the Canadian dollar as still vulnerable to downside risk. We see it dropping through the spring for any number of reasons. These could include the federal budget and the subsequent round of provincial budgets, if not the upcoming election that is scheduled for somewhere in 1993 at the federal level.
Furthermore, the Bank of Canada is trying to get rates down, which means if there is strength in the Canadian dollar, we believe the bank will use that opportunity to lower rates and get a little more strength going in the recovery since its inflation targets are well under control and since of course there is only one party that really supports its zeal for zero inflation. That happens to be the incumbent government in Ottawa.
There will be increasing concerns about debt quality. This will keep our long-term interest rates perhaps higher than they ought to be. Concerns about the debt quality are of course rooted in the fact of the volumes of debt that we are issuing. On this note -- I know it has been said before, but it bears repeating -- the provincial finances -- and Mr Fairholm will be talking about that a little later on -- do resemble the federal situation in the mid-1970s in the sense that though interest payments as a share of revenues were 11 cents or 12 cents on the dollar at that time, the deficit got very large and started to snowball the debt growth.
The problem Ontario faces right now is that the debt growth is 20%, and if we do not bring the deficit down quickly, that debt growth will remain at 20%. That will have the usual impacts on higher interest payments, thus squeezing out the kinds of spending that we all would like to be able to make in the future.
The lesson at the federal level -- and remember this started in the mid-1970s, from what was the best fiscal position in 60 years -- is that you have to do whatever you can to nip it in the bud. On this note, we would suggest that one should go so far as to undertake tax increases to put the deficit on a firm downward trajectory so as to slow the debt growth, slow the growth in interest payments. At the same time, the major recommendation, of course, on the spending side would be that spending growth be limited.
The previous speakers talk about an effective expenditure program. I think it is something we would echo and is something to which virtually every person on the street would say yes. The problem is not how much we spend; the problem is more how effectively we spend. We need to do more to look into how we're spending the money, as opposed to how we're getting it.
However, that will take time, and large savings from that certainly will not occur in the next fiscal year. In the meanwhile, we suggest that tax increases should not be dismissed out of hand, though they will clearly exert a negative impact on the economic recovery.
If we are in recovery, and I know this is a question to many people, it will serve to slow that recovery, but I think given the choices and given how quickly this can snowball, it is a lot easier to make that choice now, even in this particular economic circumstance, than it will be several years down the road. I know some of you may not be here at that particular time, but I think the entire picture will look a lot better if action is taken sooner rather than later on that front.
In terms of translating that into the Ontario outlook, let me turn it over to Robert.
Mr Robert Fairholm: Let me just re-emphasize some of the points George made, because many of the features of the Canadian outlook are re-emphasized for Ontario.
In particular, it's important to note that there has been very slow output growth over the last year and a half. In terms of employment, indeed, we've had declining employment, especially on a year-ago basis, over the last several years. There are a number of factors George mentioned for Canada which explain this. The important thing to note for Ontario is that the situation is even more exacerbated here. We have a very slow output recovery going, but it has not translated into employment growth.
One of the reasons for this is due to the huge increase in our unit labour cost from 1986 through to 1991. If we compare Ontario's unit labour cost versus our trading partners, in particular Michigan's, we can see that there was close to a 40% increase in our unit labour cost over that time period. Importantly, only about half of this increase was due to the increase in value of the Canadian dollar. The rest of it was an increase in Ontario's unit labour cost relative to Michigan's unit labour cost in home currencies. Unit labour cost, for those of you who are unacquainted with that economic term, is wages per employee divided by productivity per employee or output per employee.
The situation George mentioned for Canada is even worse for Ontario over that time period. This has several implications for Ontario. For one thing, when you have an increase in unit labour cost relative to your trading partners, you tend to lose a share of total trade, so we have a direct impact upon output. Also, one of the things that companies do to combat this problem of the rapid rise in labour costs is to cut back on employment, and that's one of the reasons why we've had such poor employment prospects over the last year or so.
I should also emphasize that even if we took 1991's Ontario unit labour cost and put the Canadian dollar at 78 cents, which is roughly where the Canadian dollar is today, we would still have had this poor situation and the unit labour cost in Ontario would have been out of kilter, by about 35%, relative to Michigan.
Something fundamental has occurred in Ontario which will affect the economy over the next several years. We're going to have a rebound in output, but we're not going to have much of a rebound in employment. This will be particularly true for the goods sector, and especially for the manufacturing sector, of the economy.
I should emphasize that not everything is doom and gloom for the Ontario economy. There is recovery occurring, especially in some of our important trading partners south of the border. Ontario trades to a considerable degree with Michigan and New York state, as well as Ohio and Indiana, and we're seeing signs of improvement there which will help the Ontario situation. Also, of course, there is the decline in the Canadian dollar from the 1991 peak to around 78 cents now. As George mentioned, further decline is expected during this year. This will also help Ontario's competitive position.
Importantly, we see the auto sector as one of Ontario's big winners over the next couple of years, in particular this year. This success will be largely contributed by Chrysler. Chrysler's LH line has, by all reports, done quite well and the prospects are that it will be gearing up quite quickly, up to about 300,000 units by 1994. This will be a major source of growth for the auto sector. Over the 1991-95 period, Chrysler will account for about 63% of Ontario's increase in the number of units of motor vehicles produced. For this particular year, they will contribute roughly all the increase. That's because for GM the shutdown of the Scarborough plant will offset increases in car production in Oshawa, and for Ford we see roughly the same number of units produced this year as were produced last year.
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Also for the auto sector, we see that there's a major investment by Ford, $2 billion, to switch over its Oakville plant to mini-van production from the Tempo and Topaz that it is producing currently. The mini-vans have been one of Canada's success stories. We produce a large proportion of North America's mini-van production. This would be underscored by Ford's producing of mini-vans here in Ontario.
The Oshawa 2 car plants are still at risk, but in your term, everything seems fine there. There's a possibility by mid-decade that one or two of these plants could be shut down. GM certainly has still at least two plants that are extra capacity and it's not clear at this point how the chips will fall. If it's strictly on cost per vehicle, my understanding is that we have a comparative advantage, but unfortunately it's not necessarily all determined by economics. We have certain advantages in that we produce a higher quality vehicle and the costs are lower, especially at 78 cents a dollar, but there are political considerations also, whether the United States has allotted the GM shutdowns to date, and it's not clear how politics will start entering into this.
As far as the auto sector goes, we see that as a good engine of growth for Ontario in 1993 and over the next several years. If anything, when we put together our numbers in the fall for the Ontario transportation equipment sector, which you have a copy of, we were unduly pessimistic. We have fairly strong growth, but indications are that with the success of the LH line that growth could indeed be even stronger than what we originally forecast.
Another area where were see rebound in the economy is on residential investment. We see a rebound in housing starts, which will of course lead towards further increase in the residential investment, which will help several industries in Ontario, such as wood and non-metallic mineral products industries.
Unfortunately, the non-residential investment is in a serious downward spiral and that will continue throughout 1993. There is an excess of office buildings in Toronto, a very high vacancy rate, so we cannot anticipate much of a rebound in the non-res sector for several years.
Importantly, another success story for Ontario is electrical products industries. There have been substantial gains throughout 1992 and we see that continuing in 1993. That industry unfortunately is buried in our tables in our "other manufacturing industries" component, but for that industry as a whole it's doing very well and will continue to do well. This is part of the trend within Canada and indeed North America towards increased use of machinery, and we see certainly business investment continuing to be quite strong.
Some of the other strengths in 1993 we see in the service sector. We see a pickup in the trade industry, which is essentially the retail and wholesale trade group, and that should help stabilize that sector. In addition, we see that the communications industry will proceed to grow quite quickly. Certainly, the competition for long-distance phone services will spur that industry over the coming year and over the next several years. In addition, the transportation industry will be powered by the rebound in the goods-producing sector.
In general, there are a few good spots of growth in the economy. There are still some laggards; 1993 will be a year where we start to see some sustained growth in some very important sectors, but there will still be some drag in the economy from the lagging sectors.
In terms of the deficit, when I went through the numbers in last April's budget I came up with a number of close to $12.5 billion, and then we started all the various accounting fiddles and asset sales and the hope for fiscal stabilization funds, which account for the differential.
In some sense, the actual deficit number is somewhat moot, because we can have another raft of accounting fiddles which could distort our view of what the numbers are, or certainly what the official numbers are. So it's important, from my perspective, to start off with about a $12.5-billion deficit for the current fiscal year and to understand that it is not unusual for the deficit to actually worsen during the first year of recovery.
Since we've had very little recovery so far, we can almost think of 1993 as being the first real strong year of recovery. I would anticipate that we are going see some further deterioration in the budget deficit for the coming fiscal year until the situation stabilizes and the deficit starts to come down, assuming no major change in policies.
In terms of changes in policies, I would certainly recommend that there be a combination of both revenue increases and expenditure restraint. If you look at the numbers, the Ontario expenditures have been rolling along at a very rapid pace over the last two years, well in excess of inflation. It's an obvious target to try to restrain the expenditure growth, but I don't see how we can do it just on spending restraint alone. We'd have to have revenue increases also.
In terms of revenue increases, certainly one of my favourites would be on the consumption tax side. On this side, if we -- I know it's probably a dirty word for some of us -- harmonize with the federal GST, that would be an obvious step to be made. I don't think that's enough. There's going to be no doubt of a requirement or need to increase the tax rate, as well as broaden the base, to try to bring in the revenue that will be required.
Also, I think another area where we can alter the revenue picture is by applying more user-pay provisions to various services, including higher tuition fees for education, parks, roads, for example, some way to match up the expenditures with further revenue.
Before I finish with revenues, I would, if possible, try to avoid another income tax hike, because once you hit a 50% marginal tax rate, there's a disincentive to work and an increased incentive to avoid taxes. It is not beneficial to keep cranking up the marginal tax rate. It is helpful to try to restrain it at 50%, and already we've exceeded that level. So I would try to avoid further income tax increases on the personal side. Certainly, the consumption tax is one area. You could think of combining that with a low-income supplement so that those who are less well-off are not too negatively affected.
On the expenditure side, if there is a move to increase capital expenditures, it has a number of benefits in the near term -- it has a fairly high multiplier effect on the economy -- and in the long term it tends to help growth productivity, so there are a number of benefits to capital expenditures. If you're going to introduce it, and, say, increase infrastructure investment, there should be some very transparent way to signal to the financial markets that these expenditures are going to be paid for, preferably by the user.
If you simply start trying to pump-prime the Ontario economy through higher infrastructure and investment, there's going to be a negative hit on your debt rating and you're going to have to pay a higher penalty through higher interest rates. So if you are going to proceed with capital expenditure, it should be very transparent that there are going to be additional revenues coming in to pay for these expenditures.
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In terms of some of the other areas, where you could alter your spending mix would be with respect to public housing. One of the reasons for the need for public housing is because of the policy that has been in place since 1973, I believe it was, for rent control. All the studies I have ever read indicate that rent controls tend to cause major distortions in the rental market and reduce the number of rental units over the long haul. To try to offset that and eliminate the need for publicly financed housing, it would be preferable to have removal of rent controls with some type of supplemental rent subsidy or supplemental rent assistance for those who are hurt by this change in policy.
In terms of health care, the latest numbers that I saw coming from the provincial government indicate that its budget estimates are pretty much on track, which I find something close to remarkable, since there was a minuscule increase in health care expenditures forecast in the last budget, and as per the midyear update, from what I recall, I think you were a couple of dollars below estimate. It's truly remarkable, the improvement that has occurred in health care expenditure, but we need a lot more of it.
There are always a number of horror stories that come out of the health care industry about excessive spending, about people who are going essentially on vacations paid by the Ontario taxpayer to tropical destinations for their various ailments. So I would suggest that although the improvements that have occurred in health care in such a short period of time are laudable, this has to be sustained. Health care is such a huge portion of expenditures that this sort of control has to be maintained to have any hope of turning around the deficit in the future.
In terms of education spending, it has been indicated that Canada is one of the worst countries in the world in terms of value per dollar. An Organization for Economic Co-operation and Development study indicated that we spend an awful lot on education but we don't seem to get an awful lot for it. Although I'm not aware of Ontario per se, I would be very surprised if it was anything different here. It's not a question of spending necessarily too much on education; it just appears that the whole way we're spending is wrong, given the results we're having.
Obviously, some restructuring in education spending should be pursued. Some areas where I could see some changes might be, as I indicated earlier, not being an expert in education itself, to increase tuition fees but also increase access to loans and make larger amounts available.
Also, it would be useful to do either one of two things: Unbundle school board spending from municipal spending so that the taxpayer can see what the school boards are spending relative to municipal governments. My understanding of the situation is that school boards continue to crank up spending and municipal governments in general are fairly restrained in their spending, and that is one of the major reasons why the property taxes keep escalating. It is not so much municipal government but school board spending. To demonstrate or provide this information to the taxpayer, where the increased spending is coming from or where taxes are coming from, would certainly be helpful. Secondly, or in addition to that, we should try to restrain the school board spending. Huge increases in expenditures at this point in time seem to be somewhat unwarranted.
The Chair: Bob, if you don't mind giving some time, I see some of the members would like to ask a question here.
Mr Fairholm: Okay. I'm sorry.
The Chair: If you could give some time, it looks like just about three minutes and Mr Conway is sitting on his --
Mr Conway: No.
The Chair: Okay. Have you got a speech or just a question?
Mr Johnson: He always has a speech.
Mr Conway: Only an observation. What's said about the education account is quite stimulating. I just wondered if you really wanted to get creative and talk about the industrial-commercial assessment, that local wealth that allows certain patterns of local expenditure to be positively astronomical in some areas and not in others; whether you wanted perhaps not only to look at tuition but also at the way in which we pay our professors and our teachers relative to the Belgians or the Singaporians and others. But those are matters for another day.
The Chair: Mr Kwinter, you've got a question?
Mr Kwinter: Mr Vasic, I just wanted to ask a question. In your projections you show the unemployment rate for Ontario in 1993 at 11.8%, in 1992 at 11.2%. Most of the other economists who have appeared before us have shown that the unemployment rate is going to go down. I'm just wondering why the discrepancy. You feel that it's going to go up fairly substantially.
Mr Vasic: Let me start off with an overall point. The reason for this is that there has been an unprecedented exodus of people from the labour force in this recession, for a variety of reasons. Normally what happens is, when you go into a business cycle, employment falls but the unemployment rate doesn't actually rise by as much as you would think because a lot of people drop out of the labour force. In this cycle, the amount of people who have dropped out is much greater than it has been in the past.
If you go back to 1981-82, that might have added about 0.8 percentage points to the unemployment rate. In this cycle it's adding more than 2% to the unemployment rate. If you did it with the same what we call the participation rate as occurred at the peak of the cycle and neutralize that, we'd have an unemployment rate that was well into the 13s.
As job prospects, slender as they may be, start to appear, some of these people get attracted back. Most of them will get back into the labour force. In fact we expect long-term the rate will be at some point higher than it was going into this cycle. So you've got 2.2% by our calculations, nationally, to absorb.
You've got to remember you've got population growth and labour force growth of 1.5%. If you've got another 2% to digest, you've got to look at 4%, 5%, 6% rates of growth before you start getting the unemployment rate down in a more meaningful way, and this is separate from the fact that for a given rate of growth, since we have to have higher productivity gains, we're going to be getting less employment increases than we would have out of an earlier cycle.
Now for the Ontario, Robert, if you want to add to that.
Mr Fairholm: One of the features of our forecast for Ontario is that we anticipate that there will continue to be fairly strong net immigration to the Ontario economy, which will boost the source population, the adult population. Combined with that, we have fairly slow employment growth because of our labour costs being so out of line, as per what I was talking about earlier, and because we'll have to take several years to bring that situation more in line.
Mr Kwinter: Just one last thing on unit labour cost: Do you factor in the cost of our universal health care versus the United States, say, in Michigan, where they don't have that? Is that calculated in as a factor?
Mr Fairholm: For total unit labour costs for the economy as a whole, yes. That includes, for the United States, all employer payments for various things, such as health care.
Mr Sterling: All the economists are predicting that there is going to be some kind of recovery this year. Quite frankly, they did it all last year as well and they were all overly optimistic, some more than others. Do you think the Treasurer should or should not raise taxes of any kind if in fact a recovery and some consumer confidence is about to emerge? Should the Treasurer raise taxes?
Mr Vasic: We think we should. As I said earlier, if there's anything we've learned historically, it is that you've got to nip this in the bud. It's already a major problem. But if the debt growth is allowed to snowball, it is going to be harder and harder to do.
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Yes, it is clear that the forecasts a year ago were too optimistic about 1992 as it turned out to be the case. Still, we have to put forward what we believe is our best estimate for the future, and this is what it is. Certainly this may not be the year to put in the major thrust of it, but the problem with that line of argument is that if you look at it through the 1980s, which was a period in Ontario of nearly unprecedented boom, and even nationally a very strong period of growth, throughout it there never appeared, in that seven- or eight-year expansion, a right time to do the job that was necessary. At some point you've got to start.
It may be difficult now but it will be worse later, and so we suggest that some measures of tax increases should start to come in this year, but obviously with greater force the following year. We can't do it alone on expenditures, especially in the short run. There are some big fixes needed on things like education and health care in terms of getting more value for the dollar in the kinds of spending that we do. But those big fixes are not going to be forthcoming in the next year or two, and we can't let this thing snowball out of control while we wait for these large thoughts. Perhaps the best thing that can come out of it is that the financial pressure forces us to evaluate those options because otherwise we wouldn't have.
The Chair: Okay. Oh, did you reply for the Ontario? Go ahead. I'm sorry I cut you off. I'm watching the clock all the time here.
Mr Fairholm: I would just reiterate what George said. We have to do something at this point because otherwise it will spiral out of control, and expenditures alone are not enough.
The Chair: Okay.
Hon Mrs Coppen: I have two quick questions. I, my colleague Mrs Harrington and our Chair, Mr Hansen, all come from the Niagara area, which has been devastated by the news of closures in our automotive plants, especially St Catharines GM. During these hard economic times, would you suggest that the government intervene? There's been talk in the community of the government even buying a plant, a foundry, for $40 million to $60 million. How do you see that helping or hurting our economy?
Mr Fairholm: Part of the problem with the auto sector at the moment is essentially in GM's lap. It has massive excess capacity and it has to cut back. There are going to be communities that are going to be very much hurt by this, but to go in and buy an auto parts plant would be very difficult, given their situation, to then sell it to them, because they have too much capacity anyway. They're trying to trim back. Then you have to question, who could you sell it to? You would essentially be displacing some other Canadian plant when you did that.
Canadian auto parts producers have been a relatively good success story. To try to go into that situation and try to essentially push over somebody else would not be a good long-term solution.
Hon Mrs Coppen: Another quick question: When you were talking about --
The Chair: I'm sorry. I've got to cut it off because it's 5 o'clock and we have another appointment here. I'd like to thank you for coming before the committee. I find it very useful the way you've laid out all your sheets here -- agriculture, fish, trapping and forestry -- which gives us an insight into all sectors of the economy. Thank you for coming before this committee.
CONFERENCE BOARD OF CANADA
The Chair: The next group is the Conference Board of Canada, Dr James Frank and Brian Hollohan. Welcome to the committee. You might be last, but we saved the best for last.
Dr James Frank: We have provided a fair bit of material here for you. I'd like to, if I could, move through some opening comments. There are some speaking notes in your handout that I'm going to just skim through to try to catch the highlights. We will be updating our provincial forecast -- in fact, we're working on it right now, and we will ensure that the committee receives copies of that -- and that will give you a very current outlook on Ontario. I suspect we'll have that ready for you within the next --
The Chair: Just to give you an idea, we're sitting the weeks of February 22 and March 8, so it's a while before we will be writing our report.
Dr Frank: We'll be sure to have that to you before then.
As in other years, we're really very pleased to have the chance to come and talk to this committee; the Conference Board has been doing this for a number of years. We're a leading forecaster in Canada, and I want to tell you just briefly about the organization because it's going to colour what we're going to say to you today.
We are a private, not-for-profit corporation. We're located in Ottawa. We do our research and our forecasts and so on for all of our members, and we have members in all sectors and all provinces of the country: government, business, labour and so on. Our mission is to be the leading private sector applied economic research organization. We're not a theoretical organization; we're interested in providing material to help people make decisions more effectively.
One of the things in our mission statement that I indicated to you in other years is that we try to be objective, independent and non-policy-prescriptive. I admit to you that that's a challenge at times, and as I listen to presentations before various committees, not only here but also in Ottawa, I am always struck by that. We're not here today to lobby on behalf of any particular point of view. We're going to try simply to tell you what we think is going to happen over the next year and hope that it's useful to you as you go through the next few weeks.
In the material I've given you is a copy of an article that appeared in the Canadian Business Review about a week or so ago and also the executive summary of the Canadian forecast, which will be released shortly -- the government of Ontario has already received it -- as well as copies of the remarks I'm going to make today on our consumer attitude survey executive summary.
We're more optimistic now than we have been for the last while about the outlook, and we expect that growth in 1993 is going to be somewhere around 3% to 3.5%, inflation at 2.5%, but the unemployment rate, as your previous speakers indicated, sticks upwards of 11% throughout the year. So it's not going to be a rapid recovery in terms of employment. The strength on the domestic scene does come from the consumer coming back into the market over the next six months or so as interest rates decline. That's why the headline on that Frank Talk article says that unless we get interest rates to continue to fall, this recovery is at some risk.
At the board, we have been doing a lot of work over the last few years on the value of the Canadian dollar. This is a central issue in this outlook, and I want to comment briefly on that. We've been telling the members of the Conference Board that they ought to try to be positioning themselves to remain competitive and be able to survive at an 85-cent dollar, that that is the most intelligent strategic positioning to put themselves in. We think that remains good advice despite what has happened to the currency over the past six or eight months.
There are a lot of factors that affect the currency, and I've listed some of them in those comments. But one of the risks we face over the next, let's say, six to nine months is political uncertainty and instability. We know at the very least that international investors worry about the value of their assets; in other words, the value of their bonds, when they buy Canadian or Ontario bonds. We've seen what can happen when political instability hits us in a big way, as evidenced through the period of the constitutional debates.
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We believe that wide spreads are going to have to prevail between Canadian and US rates in order to allow us to borrow the amounts of money we need to finance our existing government debt, which totals about $600 billion, federally and provincially, and that's not counting crown corporations. The fact is that our overall provincial and federal deficits in fiscal 1991-92 totalled $56 billion; they will total another $55 billion this year. What that means is that we will have added approximately $110 billion to our national debt in the past two years. Now, 20% of that debt is held offshore for federal debt and 40% for provincial debt. It's obvious that we're going to have to borrow a lot. Roughly $56 billion is held offshore for the provinces and about $90 billion for the federal. So you can see why the value of the currency is so important to foreigners: When they experience a devaluation, they lose asset values.
As we look ahead over the next while, we think the Canadian dollar is undervalued at its current value; we think it's worth something in the order of 83 cents as you move towards 1995. We are conscious of the difficulties in trying to estimate purchasing power parity, but there are reasons that the Canadian dollar should outperform the US dollar over the next few years. We can talk about those if you're interested.
When we look at 1993, trade is, if you like, the primary driving force, along with domestic housing and residential construction. We're expecting the US economy to grow about 3% this year. I just came back from San Francisco yesterday, where we spent a lot of time talking about the US outlook, and the general sense is that things are turning reasonably well in the United States, so that outlook, I think, is fairly sound.
Canadian exports we figure will grow somewhere between 5% and 6% this year. Housing starts in the US are turning around nicely. And of course auto and parts exports did reasonably well last year, and we expect we'll get positive growth this year and then again in 1994. Ontario will benefit from that, as will Quebec, of course, because Quebec is producing a new Firebird and Camaro line and Ontario is producing the new Chrysler LH products.
My colleague Brian is going to talk a little bit about the Ontario scene, so I don't want to spend too much time on that.
Natural gas, chemicals, electricity and other manufactured goods are the areas of strength on the export side. A lot of that comes from this devaluation we've had, so it is important to see that without the kind of reduction in our currency value that we've had over the past year, we certainly wouldn't be talking about 5% or 6% growth in exports.
The problem with all this is that unemployment stays high. Employment declined last year by about eight tenths of a point, say 1%, and it's a very serious situation. We have continually been frustrated by what's happened on the employment front, and the good news that occurred just last week on overall employment growth in December at least is a bit encouraging.
Manufacturing is a problem. I think you're all familiar with that. Employment dropped by 4% last year. We have been asked repeatedly by groups such as yourselves what the mix is between structural and cyclical. We can't answer that adequately. We don't know. Our suspicion is that there is a much more structural component this time than there was in 1981-82. Suffice it to say that it's going to take us until the end of the decade to get back to where we were in terms of overall employment in manufacturing in this country, so we have a serious shortfall that has to be made up there.
When we say the fate of the outlook lies in the hands of the consumer, we mean that pretty literally, because with weak employment growth and even the kind of growth we're forecasting for the coming year, the consumer continues to struggle. The debt question, disposable income that's devoted to interest-servicing costs, has been falling nicely. It's going to take probably another six months minimum until we get back down to levels that are in the 7% to 8% range, where people seem a bit more willing to take on additional debt. It's going to be a slow process, but it's moving along as you would expect.
We're only forecasting 2.3% growth in 1993. That's twice what it was last year, so if you want to look at it that way, it's a positive thing.
One of the surprises that may emerge here has to do with this issue of cross-border shopping. You may know this is not properly reflected in consumer spending in Canada when people shop across the border. I know from talking to retailers in Canada that there has been a sharp decline in cross-border shopping. This will effectively mean that people who were spending their money in the United States will be spending it in Canada, and that in itself could turn out to be a bit of a surprise for us. We, as forecasters, don't quite know how to handle that because there are no sources of good data on it, but it's one up side that I think is realistic.
The problem on the interest rates front is tricky. We had everything working very nicely until September and then, as I indicate in one of those articles, the interest rates moved up sharply. We had constitutional problems, we had Maastricht problems in Europe, and the rise in interest rates that occurred in a matter of about two months offset all the gain we'd had previous to that.
In our forecast now, we are explicitly assuming it will take us until the summertime to get back down towards the rates we had in September of last year. In other words, it takes a long time. We're expecting now that there'll be another half-point decline in treasury bill rates in the first quarter of this year and another half-point in the second quarter. If you're sceptical about that, you've a right to be, because a lot of things can happen to slow that up or set it back. We certainly didn't anticipate what happened in September and October, and we're always chastened by those kinds of events. But that's the sort of interest rate outlook we have. It's only in the summer months that we flatten out and we see a very gradual movement upwards as we get towards 1994.
Something funny happened last year, and it had to do with real wage gains. In the recession, as serious as it was, and with the kind of growth that was occurring, we didn't expect to see much on the wage side in real terms, but it actually happened. The reason it happened -- in retrospect, we can see this a bit more clearly -- is that wage increases did not decline as quickly as inflation, so there were unanticipated gains in real wages and that helped to generate 1% growth last year. That's not a lot to write home about, but it was a factor.
We're not going to get that this year, we think. The surveys we're doing at the Conference Board and that we did this fall among all our members, on the pay outlook, suggest that the adjustments are going to be in the 2% to 2.5% range this year. That suggests to us that there won't be any windfall gain, if you like, that will surprise people in terms of purchasing power. We're only forecasting a very modest growth this year.
Governments of course are taking a position that's quite aggressive. At the federal level, they've proposed no increase at all this year. This will be the second year in a row. We will see what the provincial governments do as they get into that position themselves.
There are two areas of confidence that are important. I have some good news here for you, in a sense. I just got the numbers this afternoon on the phone after I left, so you can add to the notes I've got there, if you're interested.
In terms of consumer confidence, we had a setback in the fourth quarter: The index dropped about 10 points. We're not shouting much of an alarm on that front at this point; we think that's just an aberration. It had to do with interest rate problems we had during the period just prior to the survey being taken. We're hoping it will be reversed in the first quarter this year. The way things are turning out right now, I think that will occur. Nevertheless, we did have a setback there.
The interesting thing about Ontario is that it too had a drop: The index dropped from 80 down to 70. Ontario's got a fairly low index of consumer confidence, at least historically and also at the present time. Quebec is much more optimistic.
In terms of business confidence, the number that's going to get released over the next week or two is much improved over the third quarter. We had a setback there again and it dropped nine points. It's bounced back up now to 137, so we've recovered what we had before. The volatility that occurred in the fall around the Constitution, currency weakness, interest rate rises and all that scared people, scared business people. At least on the business side, it's starting to turn around a little bit. I'm feeling a lot better than I was a while ago in terms of business outlook for the next year.
Just to give you an idea, in the fourth quarter of 1989 the index was 123, then it dropped to 78 in the fourth quarter of 1990; from 123 to 78. Then in 1991 we rose to 98, so it came up 20 points, and now we're 137. We've had three years of movement upwards in the fourth quarter, and I think that is encouraging in terms of what to expect.
On the business front, in terms of investment, we have really quite weak business investment. The only area where we have strength is in residential construction and housing. Keep in mind that corporate profits have really been beaten up over this recession. We had a drop of $35 billion, peak to trough, and it's going to be a number of years before we get back to where we were before the recession started. All of this is going to work against a pickup in investment.
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One area that is strong, of course, is housing. You can see the numbers we're talking about there: something in the order of 200,000 starts in the country this year. With residential construction growing by 7%, that is one of the other bright spots.
Plant and equipment spending remains weak. You've heard this already this afternoon. It declined last year 11% and we forecast a decline in 1993 of 4%, so we're just going south yet with that. There's nothing really in the cards there. There are no major projects coming along. We are still assuming Hibernia will take place, but there are no big-ticket items that we can see in the near term that are going to lead to any turnaround in spending there.
The area where we have had business investment growing fairly well is in machinery and equipment spending. This has been moving ahead very nicely and of course is associated with trying to enhance competitiveness. We see that carrying on in the coming year.
Before turning over to Brian, I want to just conclude with a couple of comments on both the fiscal policy and monetary situation. When you look at government revenue over the next year, things are going to be a lot better than they have been for the past two years in terms of revenue growth. We're forecasting about 5% growth in personal income this year, and that's about twice what you had last year, so the base for personal tax revenues is going to increase. In other words, even if you hold the tax rates constant, you will collect more personal income tax revenues.
Total direct tax collections from provincial governments, including personal tax collections, will go up, we think, around 7% this year. That compares to a decline of 3% last year. So you can see how things have switched as you get growth in income and so on.
Improvement in corporate profits should lead to something in the low double digits in terms of corporate tax increases in the coming year; not tax rate changes, just revenue growing. Tax being applied at the same rate will generate more revenue for you.
I think overall then all governments across the country, not only the federal but all the provinces, will experience some relief on the deficit side over the coming fiscal year. That said, though, keep in mind that we still added $110 billion to the national debt in the past two years. There's still an issue there and I think it's going to be the toughest issue you face over the coming few months in terms of trying to resolve how to deal with it.
In terms of interest rates, as I said earlier, we're expecting another 0.5% cut this first quarter and then another 0.5% in the second quarter. Our forecast is pretty much on track.
We still see the Bank of Canada focusing on inflation and this is a very troublesome question because there are concerns, at least from our point of view, that inflation will tend to pick up because of the devaluation. I talked with you about this last year at this briefing. We're forecasting 2.6% on the CPI now. There's a lot of controversy around whether that will in fact occur.
What we are seeing in the markets, though, in the retail business is that the companies' profit margins are so severely squeezed that any opportunity to move prices and they're going to be taking it up. So as we move into the coming year, we see some tendency to move upward in terms of inflation.
With those comments, Brian, could you just touch on a few items specific to Ontario for five minutes or so and then we'll try to address any questions they have?
Dr Brian Hollohan: We estimate that the Ontario economy began its recovery last year, with growth of about 1.5% after two years in which declines amounted to about 5% in terms of real gross domestic product. Further, we forecast that there will be a slight acceleration in this growth for 1993, towards 3% next year, reaching about 4%. I think this is in line with some of the other projections you've been hearing.
This profile of about 1.5% last year and 3% this year is a lot different than the profile for the two years following the last recession. In the 1980s, the growth revenue, being 1.5% and 3% for Ontario, was 4% and 9%. So the growth we're projecting following this recession is much slower than last time.
A lot of the problems the Ontario economy is dealing with reflect some of its very strengths, some of the strengths that make it one of the largest, most diversified economies in the country. That is its industrial base and its market position, its location. The economy is facing competitive pressures in both of these areas.
We think, however, that there are improvements coming about and being put in place that will be responsible for the recovery we're going to see over the next year. A lot of the losses have been centred in the manufacturing sector and they're due, as you know, to high interest rates, an overvalued currency, weak market demand and, finally, this process of plant rationalization.
A lot of the rationalization and so on that's going on results from forces that are happening outside the direct economic sphere of the Ontario economy, in particular the integration of the world economy, the reduction of trade barriers and technological changes that are facilitating global trade in both goods and financial instruments.
It's important to note too that the rise in interest rates that's hurt the economy is also part of a global initiative. Most of the industrialized countries in the world have been trying to stem the speculation that's been sweeping through the construction industry, both residential and non-residential. At the same time, these countries are worried about accelerating inflation.
All of these global transformations that are occurring have forced the Ontario economy to adjust. These adjustments have been sudden and severe because they're occurring at a time when the economy is going through a process of normal cyclical streamlining.
Ontario business has been forced to downsize, sell off and close out non-core business operations. They've been upgrading their capital installations for machinery and equipment, and all this has been going on while market sales have been weakening and commodity prices have been softening as well. In these circumstances, the adjustment process has taken a severe toll on business profits and confidence but, more importantly, it has created severe dislocation in the labour market and hurt job prospects and consumer confidence.
It must be said, though, that the process of adjustment has set the stage for future improvements for the Ontario economy. We find that the Ontario economy has improved its comparative advantage by increasing productivity and lowering its unit labour costs. In addition, the economy stands to benefit from lower exchange rates, lower interest rates and the turnaround in the US economy. We believe that the third-quarter data and the fourth-quarter data as well support the view that the US economy is turning around and we expect it to grow about 3% this year and another 3% again in 1994. This is quite an improvement over the 1.8% growth last year.
Ontario exports, of course, are going to benefit from this turnaround. We expect auto production this year to increase about 6% or so, from about 1.2 million cars last year to about 1.3 million this year, still well below the recent peak of 1.5 million units. This production upturn will be reflected in our export numbers, and we expect growth in auto and part exports for 1993 and 1994 to average about 7% annually. Overall, we think exports from Ontario will grow about 4% this year in a US economy growing at only about 3%, so there is some implication there of an improved market share, largely coming about because of the weaker dollar. Jim has mentioned we feel that the Canadian dollar is slightly undervalued at the moment.
The lower interest rates, more stable prices and turnaround in net interprovincial migration can be expected to help the housing market. Total starts this year we think will grow about 11% to 78,000 units, up from approximately 50,000 units last year. This will translate into some pretty good growth in real residential construction spending, something in the order of 6.5% this year.
On the non-residential side, though, problems remain. You've just heard a little bit about that from the previous presentations here. There's poor cash flow, high debt levels, weak and uncertain market demand and excess capacity, excess commercial office space. These have resulted in 20% declines in non-residential investment in the province over the last two years. There's nothing new going to happen here this year. We expect growth of -- actually the level should fall about 1% again this year before picking up somewhat next year.
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By contrast, though, the drive to improve our competitive edge has resulted in an increase in spending on machinery and equipment in the province. Over the last two years, a time of weak profit growth, real investment in machinery and equipment grew between 1.5% and 2% a year. We think this pace will be maintained this year and probably pick up a bit next year.
The increased industrial activity generated by Ontario's export performance should translate into better labour market performance as well. We've already seen evidence of this. Over the last eight months, the Ontario economy has created, on net, about 5,000 jobs a month as opposed to the 10,000 jobs lost on average per month over the previous eight months. As employment continues to improve and confidence picks up, consumer spending should be boosted, but this will be a very slow process. We forecast household spending to increase this year by about only 2% before rising next year something in the order of 3.5%.
Taken as a whole then, the Conference Board expects the Ontario economy to grow approximately 3% this year and 4% next year. As I said at the beginning, while this growth is much more muted than the recovery that followed the 1980s recession, it doesn't threaten to undermine the gains we've made in terms of price stability. We expect inflation to stay in the neighbourhood of 2.5% this year and again next year.
Unfortunately, though, the sluggish pace of the growth doesn't allow the economy to return to its potential level of growth either. This gets reflected in an unemployment rate that will stay entrenched in the 10% to 10.5% range this year and next. In other words, the competitive gains the economy has achieved through this really terrible recession will pay dividends, but only slowly. It's hoped that these gains, however, will be more sustainable over the medium term.
That closes our remarks. If there are any questions, we'd be happy to answer them.
Mr Carr: I'll just do one quick one. I was interested in your question regarding the personal income tax. You said the revenue from that was going to go up by about 5%. The only trouble I've got in looking at it is that it will get us about $700 million and in one quarter of this year the government has had to cut out that amount of expenditure, almost that amount, because of dropped revenue.
But I want to talk specifically about another source of revenue, which is the retail sales tax. I think the Treasurer thinks that if he increases it by one percentage point, he'll get about $1 billion. Historically, that's what you get; $7.8 billion is what we had budgeted from retail sales tax. The assumption has always been that with an increase of 1% you get $1 billion.
Knowing the fragile state of this economy, if the Treasurer was to increase it by, say, one percentage point, would he get that $1 billion or would consumers say, "Aha, as a result of this, I'm not going to spend," and would he actually get less? What would your projections be specifically on the retail sales tax?
Dr Frank: I don't whether they would get a full $1 billion. I suspect that they would come pretty close to it, because there are not many things that a person can set back any longer. One of the catches we've had here in the country is that the two areas you normally expect to see picking up quickly, with interest rates as low as they are, are housing and auto sales. Affordability, I don't think, in Ontario, downtown Toronto, has ever been higher, and yet it's not moving. It just suggests to me that the levels of spending are so depressed it's pretty hard to cut them back any further. I suspect that you'd get that amount of money.
I think the key thing here is that regardless of whether you increase taxes or cut spending, it has in an economic sense essentially the same macro impact on the economy. You're going to depress the recovery, unless of course you're just translating it and moving it from one group to another, in which case you've got distributional issues to address.
What we have been finding in terms of the question, to go to your point, about confidence is that it seems very unstable. This bouncing around that I talked about, up and down, is something you can anticipate coming when there are setbacks on employment growth, for example, or interest rates moving in the wrong direction or budgets that come in with tax increases. People are feeling pretty vulnerable now. That's the concern you would want to lay on the table as to whether you can pull that off without having people just retrench further. It's a judgement call.
Mr Sterling: I've seen some polls by Angus Reid which suggested that the confidence of the consumer in Ontario was much lower than it was in, say, Quebec or British Columbia. It's somewhat surprising in Quebec, given what we've gone through in terms of the whole constitutional thing.
Given that, and the uncertainty with regard to a whole number and a host of issues and economic indicators -- the dollar, the interest rates etc -- our Treasurer still has to come up with a budget. It appears in real terms, as far as I'm concerned, that the deficit is probably going to hit at around $13 billion, depending on how you calculate it or whatever. He says in his 1992 budget that he's at $8.1 billion. That's what he was driving for in terms of the deficit.
How important do you view all the different factors? Consumer confidence is weak in Ontario versus some of the other parts of Canada. Therefore, an increase in taxation is further going to dampen consumer confidence. They're just not going to have the dollars to spend. If the sales tax goes up by one point, that's going to dampen some. Given all those kinds of factors, what would your advice to the Treasurer be? A little of all? Hold the line on the deficit as the first priority? Seeking a reduction or showing a reduction in the deficit? Holding the line on taxation? Given all of what you have in terms of your knowledge, what do you think is the most important message to get out?
Dr Frank: Not to be flippant, that's why you people get paid the big bucks, to make these difficult decisions, because you put your finger on all the issues that are on the table.
What we have observed historically is that at this point in business cycles, when your unemployment rates are so high and people are feeling so pressed -- I think, at least if our outlook is correct, and even with 3% to 4% growth in the province, that it's not going to be strong enough to do a whole lot of damage to unemployment rates over the next six to nine months. People are still going to feel under a lot of stress and strain.
When you look at the record in Ontario with confidence, in the fourth quarter of 1990 the index was 76, in the fourth quarter of 1991 it was 66, and we've only gotten back to 70. There's no sort of buoyant turnaround in feelings. If you lay on top of that a sales tax increase or other tax increases, I think you have to ask yourself whether you run the risk of causing people to pull back more, or whether they will have any choice but to pull back more. So the direction is, at least I would suspect, fairly clear.
On the currency side, I don't think there's much evidence among the general public that a depreciation along the lines of what we've had is something that adversely affects confidence, because I don't think most people see that as an issue. What drives confidence, in our experience, is interest rate movements, up or down, employment gains or losses, and of course issues of taxation because that's just another form of income change; if you get hit with an income tax increase, then obviously it's a reduction in your income.
I think confidence is shaky. It's obviously shaky in this province. We're just not getting the turnaround you would expect. British Columbia, for example, is 95; Quebec 104.
1740
Mr Johnson: Thanks very much for your presentation. You mentioned that the cumulative debt, that is, the collective debt of the federal government and all the provincial governments, is about $600 billion.
Dr Frank: Yes.
Mr Johnson: You said that has increased by $110 billion, due to debt interest, I would assume.
Dr Frank: No; Deficits of the past two years.
Mr Johnson: Okay; deficits of the past two years. That's good -- that's not good, but it's good because that leads up to what I want to ask you.
If the federal government has a responsibility to transfer funds to the province, for example, the CAP program, and maybe it's several billion dollars, now whether the federal government encouraged that indebtedness or whether the province encouraged that indebtedness in order to finance programs, it's still going to be added to the cumulative debt of the country.
This is a bit of a political question, I know, but I'm looking for your opinion. Would you think it would be a good idea for the federal government to transfer these dollars to the province? They're going to have to manage it somehow. Otherwise, the province is going to have to manage it somehow. But I like to think that in the larger picture, all the provinces and all the people of Canada are indebted to about the same amount, and when it becomes necessary to pay off this debt, they will all do it equally. I like to think that those dollars that will be transferred from the federal government would cause that to be more equal in the province of Ontario.
I wanted to know if you had an opinion whether it was good or not good for the federal government to transfer these dollars that the province expects. You may say it's good for the province and not good for the federal government, but I just wanted an opinion.
Dr Frank: I think the fair answer to your question goes along these kinds of lines. In 1984-85, the feds picked up a $38-billion deficit; the provinces picked up $7.5 billion. The provincial deficits continued to rise up until 1987-88 and then they fell. The federal government was stuck at about $30 billion and has been stuck at $30 billion really throughout all of the 1980s.
In the case of Ontario, for example, the deficit in 1984-85 was $2.6 billion. It was at 2.6 the next year and 2.5 the next year. So now we're at 1987-88 and the economy is doing really well, but Ontario's still running a $2.5-billion deficit. In 1988-89 it was $1.5 billion, and then you ran a surplus in 1989-90, at the same time, of course, as the feds were still running a $30-billion deficit.
Regardless of your political persuasion, what this is saying is that your revenues are not keeping up with your expenses. You don't have to be an economist to see that. You also know that you've got to borrow that money every year somehow to finance this.
The government in Ottawa happened to be a Conservative government, and when it came in it was right after a recession, with a big deficit in hand. What it tried to do was move gradually out of it at the federal level. I've looked carefully at the fiscal measures that were in the budgets coming from Wilson in the first four years of their term and the measures that came in the latter four years. Essentially, the lesson that I learn from that, and this is when I'm coming to your point, is that the federal government could not address the issue and solve it itself because the spending growth was occurring in health, education and welfare, in the large envelopes at the provincial level.
After trying to deal with this in small increments, if you like, in the first four years, in the second four years they said, "We will do it differently." They will download it. That term has now become a bit more popular. It will go from the feds to the provinces. They will say: "Okay, you're the ones who control health, education and welfare spending and you manage those programs. Those are yours under the Constitution of Canada. You take care of that responsibility." So they restrained CAP, the Canada assistance plan, equalization and so on, as you're quite familiar with.
To go to your question of whether it is good or bad, let me ask you this: When the Ontario government says to the hospitals that they shall have a zero increase in their revenues or when it says to the municipalities that they shall have a zero increase in revenues, because they are trying in turn to go from the province to the municipalities and say, "You are the people who control the spending and administering the system," is it good or is it bad? I think, with respect, it's the wrong sort of question. It's almost as if what's happening here is that you've got to move this issue to the grass roots, in a way, so that people increasingly see that we as a society are collectively asking for $55 billion a year more service than we are currently paying. We have to borrow that money from somebody.
The implications of borrowing it from ourselves at home are different than the implications of borrowing it from foreigners. That's why I emphasize that now we have a 40% provincial debt held offshore and 20% of the federal debt held offshore. That means that every year we have to earn more money to pay the foreigners in order to encourage them to continue to buy our debt, because if they won't then we have to raise interest rates even more to attract them. So to position the question of good-bad, right-wrong seems to me, as I've looked at it over the past decade, to put it in a game that we really can't properly play.
I was on a hospital board in Ottawa, for example, and I know what goes on. I know the pain that the hospitals had to go through to balance their budgets. But pushing it down to us as a board I thought was about the only way there would be any of trying to match revenues and expenditures to what the general public wants to pay. I can tell you we could have spent any amount the provincial government would have given us, and the provincial government would have spent any amount the federal government would have given us, so you see the issue.
Mr Johnson: Just in conclusion, is the debt shared equally by the people in the country?
Dr Frank: The debt of the federal government and of the provinces is held by the people in Canada, absolutely, but the issue you see is, who makes the decisions about the spending and the taxation that goes with it? Is it the federal people in Ottawa, is it you people here in Ontario or is it, you know, Jimmy Frank sitting on a hospital board? I think that's the locus of decision-making that will have to be in place in the 1990s.
I can tell you unequivocally that it's going to be a very difficult decade, because the deficits will not turn around easily at the provincial level. They did not before, and we have structural changes, as Brian has indicated, that are at least as significant this recession as the last one.
The Chair: We've run out of time there, Mr Johnson.
Mr Sterling: In that there isn't a Liberal here, could I just ask another question?
Ms Swarbrick: Yes, can we split the Liberal time then?
The Chair: You've just split it. It's quarter to.
Mr Sterling: Are you anxious to go?
Ms Swarbrick: No.
Mr Sterling: Could I just ask one other question? Because you had a --
Interjections.
Mr Sterling: Do you want to go first and I'll go second?
The Chair: Norm, they'll be out in the hallway, or do you want this on the record?
Ms Swarbrick: That'd be great.
Mr Ward: Once you start --
The Chair: The thing is, I had my time booked for 5:30. I've got somebody waiting for me and I never realized we went this long.
Mr Sterling: I think you should pass on the chair.
The Chair: You can meet him out in the hallway there over a glass of water. By the way, Norm's got his way. We're going to be in room 151 between 2 and 4 tomorrow. You can thank Remo for allowing us to go in there, and all the work that's Norm's done. It's 9:30 in the morning also.
Ms Swarbrick: At 9:30 we're in here.
The Chair: At 9:30 in the morning we're in here. I just want to get these fellows before they run off. I'd like to thank you for appearing before the committee. As I told them, they might have been the last but the best.
This committee is adjourned until 9:30 tomorrow.
The committee adjourned at 1749.