The Canadian economy faces serious growth headwinds over the next few decades, and policy makers across the country should be thinking hard about how to improve growth. But finance ministers will soon find that there are no quick fixes.
The Canadian economy faces serious growth headwinds over the next few decades, and policy makers across the country should be thinking hard about how to improve growth. Many policy options will likely be considered, but finance ministers will soon find that there are no quick fixes. Economic growth is a complex process.
The broadest measure of average income is per capita gross domestic product (GDP), which is simply the overall national income divided by the number of people. Over long periods of time, this measure grows for two reasons: improvements in labour productivity and increases in the labour force participation rate.
Since 1970, per capita GDP in Canada has increased at an average rate of 1.3 per cent a year – enough to double average income in roughly two generations. Higher productivity accounted for 0.9 per cent of this; the remaining 0.4 per cent comes from greater labour force participation. This rising participation has been driven by two factors: more women entering the labour force and the economic coming-of-age of the baby boom generation.
What is projected to occur over the next quarter-century? Productivity growth has slowed dramatically in recent years, and if trends continue, it will rise by only about 0.4 per cent annually. The aging of the baby boomers will lead to a significant decline in the labour force participation rate, from about 67 per cent today to about 61 per cent by 2040. This aging will actually subtract from annual income growth by about 0.3 per cent. So the overall projection for per capita GDP between now and 2040 is an annual growth rate of a measly 0.1 per cent – barely noticeable for the average family, even after a few decades of compounding.
These are precisely the growth headwinds that led federal Finance Minister Bill Morneau to create his advisory council on economic growth (on which I sit). The 14 members of the council, headed by McKinsey’s Dominic Barton, will meet several times over the next year to develop a strategy for improving Canada’s growth rate.
There is nothing easy about this task. While governments across the world have long been interested in developing policies to enhance economic growth, one of the only universal lessons is that there is no easy solution. But there are lots of possibilities worth examining.
More capital investment would likely lead to higher growth, but can this best be encouraged through corporate tax cuts, more generous investment tax credits or policies to enhance household saving? Or perhaps we need to relax the current restrictions on foreign direct investment in order to take advantage of savings from the rest of the world.
Better infrastructure might be an important part of the solution, but which infrastructure matters most? Is it bridges and highways that facilitate greater cross-border trade, airports that encourage two-way flows for business and tourism, public transit in urban centres or electricity grids that allow for trade across provinces?
A more highly skilled labour force would likely increase our growth rate, but what is the best way to improve skills? Would better primary and secondary education do the trick, or would our scarce resources be better spent on universities and technical schools? Or maybe it’s not about spending more public dollars, but instead about redesigning our system to produce graduates with different kinds of skills.
Maybe financial markets lie at the heart of our growth challenges, with too few venture capitalists and commercial bankers too conservative in their risk assessments and lending practices. If so, what is the right policy response, especially since we already have Crown corporations making loans to the private sector? And should governments even be in the business of providing venture capital?
There is plenty of evidence that an important source of growth is greater competition; there currently isn’t much in some of our industries, including banking, telecommunications and airlines. Reforming regulations, reducing tariffs and removing ownership restrictions could unleash the competitive forces that drive innovation and long-run improvements in average income.
Mr. Morneau knows that few things could be more important to Canadians’ prosperity than improvements in our long-run growth rate. His advisory council will be asking questions and reviewing evidence that has been discussed many times; this is well-trodden ground.
Let’s hope the members’ fresh look and outside perspective will lead to new and promising ideas.
Christopher Ragan is an associate professor of economics at McGill University and a research fellow at the C.D. Howe Institute.
Published in the Globe and Mail