LOW DOLLAR, HIGH TAXES WILL LEAD TO BRAIN DRAIN.

LIVING WITH THE LOW DOLLAR. PART 2

UNBALANCED TAX SYSTEM IMPOSES HEAVIER TAXES ON NEW INVESTMENT IN SERVICES — FINANCE, COMMUNICATIONS, CONSTRUCTION, OIL AND GAS.

In the past decade, many bright students told me of their strong desire to remain in Canada. Ever so confident in Canada as place to do business, they looked to be employed by global firms anchored in their province.

Although anecdotal, that sentiment seems to have shifted in the past year. Many have expressed to me that Canada is no longer competitive with much lower salaries compared to the United States, not to mention Canada’s higher tax rates.

Some will remember the debate over the brain drain in the late 1990s when our Canadian dollar traded at relatively low levels. Because of family obligations, cultural ties and immigration legal impediments, moving isn’t easy. However, many highly successful Canadians are lost each year, whether to hi-tech firms in San Francisco, finance in New York, and energy in Texas where compensation is far higher and prospects are brighter.

If Canada’s low exchange rate is sustained, we could well see a repetition of brain drain pressures in the coming years. When the dollar is low, the number of Canadians settling in the United States accelerates. In the years 1986-1991, almost 125,000 Canadians each year went south, rising to 214,000 in 1996- 2001 period when the dollar was quite low. As our growth improved and dollar rose to U. S. parity after 2002, Canadian permanent and temporary immigrants to the U.S. declined to 167,000 in the 2001- 6 period.

Of most concern is that many of the emigrating population are future job creators. In recent years, 59 per cent of Canadians migrating to the United States have been in the management, business, science and arts sectors, a far greater share than other immigrant populations to the United States ( 30 per cent) and native- born Americans ( 37 per cent). Almost twothirds of Canadian emigrants are relatively young (ages 2044) with more than half with a university degree.

Tax filers ceasing to reside in Canada doubled during the last brain drain, most prominent in the highest income category of over $225,000 (in 2015 dollars). Ironically, these are the same 1-percenters targeted for higher marginal tax rates by the new Liberal government in 2016.

Better income prospects in Canada would avoid any potential brain drain. Strong growth would also lead to a rising Canadian dollar, which will raise our standard of living.

Now that the commodity sector is no longer a source of strong economic growth, Canada will need to rely on other industries to help more with growth. The lower dollar will help spur some export industries but, as a long run effect, productivity and innovation will matter most.

In t erms of economic policy, we created certain advantages compared to the United States including a better education system, fiscal health starting in 1995, i mproved i ncentives f or work with our social services, increased spending on infrastructure and a strong finan- cial regulatory system. All these have helped Canadian growth.

Obviously something is still missing as Canada barely ekes out 1 per cent growth today. The United States blew its brains out with the financial crisis in 2008 leading to a deep recession ( less so in Canada). Yet, the economy has returned with growth prospects are now better than Europe and Japan. It is really a testament to a dynamic U. S. private sector — Amazon, Google and Apple in the digital economy or oil and gas frackers in energy. These dynamic sectors are not protected from competition and some are challenged if they become too big.

Not so in Canada. While we have some global leaders, many of our largest companies are largely focused on their protected Canadian markets with little incentive to become global. Foreign ownership restrictions in banking and telecommunications reduce competition with little push to go abroad ( this is particularly obvious in telecommunications).

Regulations such as supply management have resulted in few global agriculture companies unlike Australia and New Zealand where such policies have been abandoned. Labour policies, such as Employment Insurance that keeps people unemployed in slowgrowth regions, also undermine a dynamic market.

We also have heavily dominated public-owned sectors in power markets, largely focused domestically. Private health innovators do better selling abroad than trying to deal with bureaucratic procurement regime here.

Our approach to spurring innovation has largely failed. We have few significant Google-like companies. New businesses are thinly financed due to their paltry returns driven by failing tax incentive policies that lead to too many poorly performing start-ups.

We have an unbalanced tax system that especially imposes heavier taxes on new investment in services such as finance, communications, construction and oil and gas ( see the accompanying table).

Like tax policy, government grants such as Bombardier subsidies are used to protect industries when they get into trouble rather than letting resources move to more dynamic sectors.

Protectionist policies do not serve Canada well. Instead, competitive pressures brought upon management and workers create dynamic economies. This includes competition induced by the Trans- Pacific Partnership and Canada-European Trade Agreement.

Of course, if we don’t improve growth, we won’t have revenues to pay for public services that have been critical to many Canadians. With an aging population, growth is stalling to at best 2 per cent per year, a far cry from the typical 3 per cent growth rate since the Second World War. Age- related expenditures such as health care and pensions will grow faster than the economy while a larger ratio of retirees to workers means falling tax- GDP ratios. In fifteen years, Canada will be facing acute fiscal deficits unless we improve growth.

Canada has been trying to achieve better growth for some years with partial success. It seems to me what is missing most is a plan to break down the protective walls that have made markets less dynamic.