Our constitutional crisis is rapidly becoming systemic: Atlantic provinces discovering new energy wealth are seeking to patriate this wealth for their own development alone. Hard-pressed Ontario is … raising fundamental questions about its historic role in equalization. Alberta has its own concerns with equalization. Saskatchewan wants to renegotiate its deal. Strapped municipalities – many of them larger than some provinces – are asking where they fit … Successive federal and provincial governments have compounded the problem with case-by-case improvisation.

– Michael Ignatieff, York University, April 2005

Elsewhere in this issue, two Quebec politicians debate the 2004 health agreement with its Quebec-specific addendum. Serge Joyal argues that Paul Martin is threatening the country’s survival by opening the Pandora’s box of asymmetric federalism; Benoît Pelletier disagrees. At the time of writing (late April), the sponsorship scandal has overwhelmed that particular debate. The scandal has decimated the credibility of Martin’s government: the Bloc has a commanding lead among Quebec voters, and the Tories enjoy an overall plurality among voters in the nine other provinces.

Adding to Martin’s woes, some senior Liberals have been urging historian and diplomat Michael Ignatieff to return from his comfortable exile at Harvard and offer himself as prospective leader should Martin stumble and fall. Ignatieff is clearly tempted. Among his exploratory forays into domestic Canadian politics this spring was a major address delivered at York University. In it he described current events as the “perfect constitutional storm.”

Without naming him, Ignatieff included Martin’s penchant for ad hoc improvisation as having contributed to the storm’s intensity. He then drew a parallel with fiscal crises in the 1930s, which virtually bankrupted several provinces and motivated the work of the Rowell-Sirois Commission. Ignatieff wants a new royal commission “to think long and hard about how to renew our federation’s finances in the 21st century.”

By the time anyone reads this, Martin’s government may or may not have survived the “perfect storm”; Jack Layton may or may not be first mate; Stephen Harper may or may not have taken over the helm. Whoever winds up on the bridge, Ignatieff is right to insist that one implication of the sponsorship scandal – there are others obviously – is to signal a breakdown in consensus on how to finance the country.

For us in western Canada, the sponsorship scandal is of a piece with Brian Mulroney’s awarding the CF-18 contract to Montreal-based Bombardier over the technically superior Winnipeg-based contender in 1986. That fiasco breathed life into Preston Manning’s nascent Reform Party; the sponsorship scandal is doing something similar to Harper’s Tories. The partisan ad hockery in these deals sent a clear message: federal politicians make up the rules as they go along when it comes to the regional distribution of spending.

Until the 1960s, governing in Canada and the United States was similar inasmuch as both countries required their citizens to pay similar shares of income as taxes. The countries diverged in the 1960s as Ottawa and the provinces opted for generous European-style social programming. Since then, the Canadian tax/GDP ratio has risen by 15 percentage points, and for the last two decades has been roughly 10 percentage points higher than the American ratio. Central to this evolution in Canada was intergovernmental agreement on several large rule-based transfers. The keystone was equalization, something sufficiently important to figure in the 1982 constitutional patriation package.

The compromises of the 1960s and 1970s as to who – Ottawa or the provinces – should undertake which activity, and who should pay, have slowly lost credibility. Prior to 1995, the breakdown manifested itself in the refusal of Canadian politicians to balance their books and undertake needed program reform. Federal politicians accused their provincial counterparts of ignoring “national standards” and violating the spirit of transfer agreements in order to maximize Ottawa’s transfer obligations. The provinces in turn accused Ottawa of arbitrarily changing the rules governing standards and transfers. Both were right, and both were wrong. The result was a dangerously high public debt/GDP ratio.

Canada weathered that particular “storm” with Martin himself playing a star role. But the underlying problems remain. Having restored fiscal room to manoeuvre, the federal Liberals returned by the late 1990s to “case-by-case improvisation.” In 1999, Jean Chrétien refused provincial proposals governing use of the federal spending power. A few billion dollars in discretionary transfers broke the provincial alliance, and enabled him to eviscerate provincial drafts of the Social Union Framework Agreement. In 2000, he rolled back Employment Insurance reforms for no reason other than the partisan desire to recoup electoral losses in Atlantic Canada. Likewise, Martin’s improvised equalization deal with Newfoundland Premier Danny Williams in fall 2004 has no policy basis other than a promise made in the heat of the election campaign earlier that year. The deal has seriously damaged the credibility of equalization. Other premiers – from Dalton McGuinty to Lorne Calvert – are demanding an improvised deal for themselves as well.

In his York University address, Ignatieff analyzed the county’s woes but did not propose solutions. Solutions create winners and losers, and losers tend not to be political supporters. If we are to come out of this “perfect storm” as a country intact, we need to make clearer fiscal choices than Chrétien and Martin have endorsed. Here are some strategic options that Ignatieff could have addressed. None are politically easy; some raise constitutional issues; all entail controversy:

• Let Ottawa manage and finance some part of medicare. Across Canada, provincial health ministers are “eating everyone else’s lunch,” leaving little for other departments to spend on new programs. The premiers would like Martin to share the pain of managing medicare. Last summer, they proposed that Ottawa assume responsibility for running a Canada-wide pharmacare program. It was a sensible but expensive offer – in the order of $10 billion annually. Health Minister Dosanjh dismissed it out of hand.
• Lower federal tax rates. Ottawa collects far more tax revenue than required for its own programs. This gives it fiscal room to manoeuvre in the design of conditional transfers to induce the provinces to undertake particular initiatives. Most provinces, Quebec and Alberta in particular, balk at what they perceive as too much ad hoc federal intrusion into fields of provincial jurisdiction. They want Ottawa to lower tax rates, thereby allowing provinces to raise their own rates without increasing the overall tax burden. On the other hand, left-leaning Liberals and New Democrats fear a provincial “race to the bottom.” Some combination of this and the first option might be politically feasible.
• Change equalization. The basis of equalization has until now been the representative tax system: if a province applies average provincial tax rates to all tax sources, how much per capita revenue will it raise? Ottawa annually undertakes this calculation for each province, and then raises the revenue of all “have-not” provinces to a predefined benchmark – on the assumption that these provinces undertake the average taxing effort prevailing across all ten provinces. The equalization formula has become opaque and incomprehensible. Scrap it. Rely on some other more straightforward measure of provincial need (such as the gap between national and provincial per capita personal incomes). As to be expected, controversy surrounds any such change.
• Do something different with provincial resource revenues. The source of many federal-provincial squabbles has been large differences across provinces in per capita resource revenues. (Wilfrid Laurier’s arbitrary division of the Northwest Territories made post-Leduc Alberta into the province with the greatest fiscal capacity, and Saskatchewan and Manitoba into have-not provinces.) Perhaps, the resource-rich provinces should share their wealth more generously with have-not provincial neighbours. For example, postsecondary education could be managed and financed on a five-region basis. This option is equivalent to revising equalization, and raises all the controversies attendant on changing the equalization formula.

It is not that hard to devise a scenario in which the Liberals lose office to the Tories, Martin resigns, Ignatieff wins a subsequent Liberal leadership contest and, in some subsequent election, he returns the Liberals to office. There are many slips between cup and lip, but maybe Ignatieff will return from exile and take on the challenge. Provided he does more to solve our fiscal woes than conjure literary images, I might even vote for him.