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A Canadian problem, not a Quebec one

A response to François Vaillancourt and Mathieu Laberge

by Pierre Fortin

In their reaction to my two recent pieces on the Quebec economy, François Vaillancourt and Mathieu Laberge begin by saying they agree with me that “Quebec has a more equal distribution of income than other Canadian provinces,” but disagree “that Quebec is doing well economically [and] that the standard of living in Quebec is adequate.”1

Concerning Quebec’s overall economic performance, I made two carefully worded statements: that “Quebec is … on a par with Ontario in standard of living” and that “both provinces (and many others) lag behind the United States economically.” I saw the second as being the real problem. Far from saying that Quebec is doing well economically or that the standard of living in Quebec is adequate, I argued the exact opposite. After observing that per capita real income was substandard in both Quebec and Ontario, I concluded that their common gap with U.S. per capita income would have to be bridged “through faster productivity growth everywhere in Canada.” My point was that there was a problem, namely lagging productivity, but that it was a Canadian problem, not a Quebec-specific problem.

Is Quebec less productive?

Following their opening statement, Vaillancourt and Laberge go on to examine measures of economic success. They calculate that in 2008 – the last year of the most recent economic expansion – the current-dollar value of total money income (or gross domestic product, GDP) per capita in Quebec was 82 per cent of that in “the rest of Canada.” From this they infer that Quebec is “less productive than most other provinces.” That inference is incorrect.

In recent years, there have been sharp differences in economic performance across provinces. These differences are highly correlated with shares of oil and gas extraction in provincial GDP. Column 1 of Table 1 classifies provinces according to this criterion. In the last year for which data are available (2006), the three provinces of Newfoundland, Saskatchewan and Alberta drew between 18 and 32 per cent of their total money income (GDP) from oil and gas extraction (multiplier effects not included). In contrast, the GDP share of this industry in each of the seven other provinces was small or negligible.

Column 2 of the table then compares provincial levels of per capita GDP in 2008. The results are striking. In that year, the three extractive provinces generated levels of per capita GDP that were between 29 and 69 per cent above the national average. This is partly because oil and gas extraction is highly capital-intensive, and partly because oil and gas prices were high in that year.2 In all other provinces, levels of per capita GDP were between 5 and 31 per cent below the national average. Quebec fell short of the average by 19 per cent.

Per capita GDP is the most comprehensive measure of average money income we have. However, true standard of living depends not only on money income (GDP), but also on the average cost of what that money income can buy. This is not an insignificant observation when provinces are compared.

For example, column 3 of Table 1 shows that in 2008 the average consumer price level was 5 per cent below the national average in Quebec, but 7 per cent above the average in Ontario. Column 4 further shows that, when money incomes are adjusted to take account of these provincial differences in absolute price levels, the resulting per capita real income (or purchasing power) stands at 85 per cent of the national average in Quebec, and 88 per cent in Ontario – not a big difference. And furthermore, given that workers enjoy more free time in Quebec than in Ontario and other provinces (column 5), the conclusion I arrived at in the Winter/Spring 2009 issue of Inroads, that “Quebec is … on a par with Ontario in standard of living,” immediately follows.3 This evidence shows that Vaillancourt and Laberge’s statement that Quebec is “less productive than most other provinces” lacks generality.

Note that it is the autonomous standard of living – before federal equalization payments are added to Quebec income – that is about the same in Quebec as in Ontario. This obviously raises the question of why Quebec is nevertheless a net recipient of federal equalization. The answer is that equalization payments to a province are based on its relative fiscal capacity, which is a complex measure that is correlated with current-dollar per capita income (with many adjustments). In 2008, Quebec’s current-dollar per capita income was 81 per cent of the national average (column 2). This was low enough to entitle the province to significant equalization payments. The equalization formula makes no adjustment for such considerations as relative provincial price levels or the value of leisure time. The question of whether these aspects should be taken into account is important, but I will leave it to future discussion.

Is personal disposable income a good indicator of the standard of living?

Vaillancourt and Laberge view personal disposable income (PDI) per capita – the source of private consumption – as “a good indicator of the standard of living.” I disagree. Per capita PDI is a very restrictive indicator of well-being. In 2008, personal disposable income accounted for only 59 per cent of total money income (GDP) accruing to Canadians. Left out are government disposable income (taxes less transfers), which finances public consumption and investment, and corporate disposable income (undistributed profits), which is a major source of private investment. By all means, these are key components of income and the standard of living.

In Canada, public consumption (government-supplied goods and services) amounted to 37 per cent of private consumption in 2009, and it is thus a large component of total consumption. And without public and private investment, you could not count on maintaining and expanding future consumption opportunities. Most people would reject as unduly restrictive the view that the only component of total money income that is a significant contributor to well-being is that part (PDI) which is the source of private consumption.

The last column of Table 1 compares provincial levels of PDI per capita in 2008. It turns out that while Quebec’s per capita GDP was only 81 per cent of the national average (column 2), its per capita PDI was 89 per cent of the average (column 6). In other words, its per capita PDI was closer to the national average than its per capita GDP. Vaillancourt and Laberge explain that this result is due to the province’s dependence on equalization payments. Their view is much too narrow.

Comparing the results in columns 2 and 6, a clear pattern emerges. Where oil and gas extraction is significant, per capita GDP is higher relative to the national average than per capita PDI; where oil and gas extraction is small or negligible, the opposite holds true. The reason is simply that the main source of variability of GDP across provinces in recent years was corporate profits. In 2008, corporate profits in the three extractive economies were a whopping 24 per cent of GDP on average; in the seven nonextractive economies, they were a modest 10 per cent of GDP.

Since corporate disposable income is part of GDP, but not of PDI, the distribution of provincial outcomes around the national average was much tighter for per capita PDI than for per capita GDP. If you were an extractive economy, so that your per capita GDP was above the national average, then your per capita PDI was also above the average, but by less; and if you were not an extractive economy, so that your per capita GDP was below the average, then your per capita PDI was also below the average, but by less. Columns 2 and 6 of the table show this to be true not only for Quebec, but for all provinces.

Nobody will deny that federal equalization and transfer payments had an impact on PDI. Without them, in 2008, per capita PDI in Quebec would probably have stood at 88 per cent of the national average instead of the actual 89 per cent.4 But there is no way that this factor alone can explain the 8-point gap between the relative per capita PDI of 89 per cent (column 6) and the relative per capita GDP of 81 per cent (column 2). By insisting that the gap between these two ratios essentially arises from the generosity of the federal tax and transfer system, Vaillancourt and Laberge omit the most important part of the story.

What public policies should Quebec pursue?

In the remainder of their article, Vaillancourt and Laberge suggest a number of public policies that could free up resources, foster productivity and ensure economic growth in Quebec. These include reducing the use of labour taxation and subsidies to capital investment; pricing publicly supplied goods and services such as electricity, postsecondary education and drug insurance more efficiently; and restoring fiscal sustainability by reducing the provincial public debt. Their list of growth-enhancing policies is obviously just a beginning,5 but it makes good sense and I agree with it.

But they sometimes push their case too far. Their statement that “Quebec’s abundant hydroelectric capacity should be the equivalent of oil” is correct in a qualitative sense, but clearly not in a quantitative sense. According to the data in column 1 of Table 1, in 2006 oil and gas extraction accounted for about one third of aggregate value added (GDP) in Newfoundland, one quarter in Alberta and one fifth in Saskatchewan. For electricity power generation to play a similar role in Quebec quantitatively, its value added would have had to range between $45 and $85 billion in that year. In fact, the actual value added of the Quebec electricity industry (including transmission and distribution of power) was only $9.5 billion in 2006. Selling the power in a competitive price environment could have increased this number by at most $4.5 billion, to $14 billion. This would still have been 3 to 6 times smaller than the percentage of total value added derived from oil and gas extraction in Newfoundland, Alberta and Saskatchewan in that year. Quantitatively, Quebec hydroelectric power generation could never be a match for oil and gas extraction in other parts of Canada.

Furthermore, the additional $4.5 billion of value added in the Quebec electricity industry would not have been a net addition to GDP because the higher prices would have reduced the income available to electricity consumers for spending on other goods and services. Quebec would have realized a net gain from the more efficient allocation of electric power, but that gain would have been a modest fraction of the additional $4.5 billion in hydroelectricity profits – certainly less than 1 per cent of GDP. And besides, that net gain could have been entirely eaten up by the loss of equalization payments triggered by this increase in Hydro-Quebec profits.6

 

Notes

1 Pierre Fortin, “Quebec’s Surprising Economic Performance: The Myth of a Lagging Quebec Doesn’t Stand up to the Facts,” Inroads, Winter/Spring 2009, pp. 108–15, and “Quebec is Fairer: There is Less Poverty and Less Inequality in Quebec,” Inroads, Winter/Spring 2010, pp. 58–65; François Vaillancourt and Mathieu Laberge, “Quebec: Equitable Yes, Sustainable No,” Inroads, Winter/Spring 2010, pp. 74–83.

2 In the United States, the price of a barrel of crude oil averaged US$93, and the wellhead price of 1,000 cubic feet of natural gas averaged US$8.

3 A more direct assessment of productivity that is based on real GDP per hour of work and takes provincial differences in absolute price levels into account confirms that the Quebec economy is about as productive as the economies of Ontario, Manitoba and British Columbia.

4 In 2008, per capita PDI was $25,504 in Quebec and $28,534 in Canada as a whole. This gives a ratio of 25,504/28,534 = 89.3 per cent, as in column 6 of Table 1. A reasonable estimate of what federal equalization and transfer payments add to Quebec income is 1.9% of GDP. Without this addition, per capita PDI would be about 89.3 × (1 – 0.019) = 87.7 per cent of the national average.

5 As John Richards has pointed out, one can think, first and foremost, of improving the performance of the educational system. See John Richards, “Seeking the Truth about Quebec’s Economy,” Inroads, Winter/Spring 2010, pp. 56–57.

6 John Richards has rightly pointed out that, because of the nature of the equalization formula, “if Quebec does as Vaillancourt and Laberge advise, it would net only 50 cents from every dollar in extra water royalties (or profits from Hydro-Quebec).” See Richards, “Seeking the Truth about Quebec’s Economy,” pp. 55–56.

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About the Author

Pierre Fortin
Pierre Fortin is Professor of Economics at the Université du Québec à Montréal.




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