By Aaron Wudrick and Callum MacLeod, December 18, 2023
Canada’s persistent productivity challenges have been a cause for concern since the mid-1990s.
OECD data shows that in 1989 Canadian GDP per hour worked was 85.4 per cent that of the United States, while the most recent study of 2022 shows Canada at 75.1 per cent of our southern neighbour and competitor. While some factors, such as fluctuations in commodity prices, are beyond Canada’s control, most of our productivity issues require thoughtful policy interventions.
To find answers, we need to delve into the multifaceted nature of Canada’s productivity challenges, examining the decline in business investment, government responses and proposing policy solutions. Drawing on existing studies and evidence, it becomes clear that Canada’s economic strategy needs a comprehensive overhaul to spur productivity growth and foster a competitive business environment.
One of the primary contributors to Canada’s productivity challenges is the decline in business investment over the past two decades. Notably, Canada’s business investment per available worker has not only been on a downward trajectory for the past eight years but has also fallen when compared with other countries. This decline is particularly pronounced in intellectual property patents and machinery and equipment purchases, crucial forms of investment that reflect technological growth and economic capacity.
The decline in investment in these areas raises concerns about Canada’s ability to drive sustainable economic growth through technological advancements.
The Canadian government’s response has been insufficient to address the root causes of the productivity decline. In a 2017 FINA committee report, several possible policy solutions were outlined, such as a tax credit to build capital for small and medium-sized enterprises and programs to encourage intellectual property patents growth in Canada.
Subsequent budgets failed to reckon with not only these solutions but productivity issues in general. For instance, in response to the 2018 U.S. tax reforms, Canada’s budget created discriminatory taxation measures rather than fostering innovation or attracting capital.
The 2022 budget acknowledged productivity and innovation as the “Achilles heel” of the Canadian economy, but it failed to translate this acknowledgment into concrete policy. This disconnect between rhetoric and action highlights the need for more targeted and effective policy responses to catalyze productivity growth.
Two key policy solutions are worth considering:
A Canadian Productivity Commission
The establishment of a permanent productivity commission is a fundamental step in addressing Canada’s productivity issues. Many advanced economies, including several members of the OECD and EU, have implemented such commissions to study productivity within their specific economic contexts. Drawing on successful models like Australia, which has a productivity commission characterized by political independence, transparent debate and interdisciplinary scholarship, Canada can harness its intellectual community to generate practical solutions.
Such a commission, staffed with a mix of senior public servants and scholars, could conduct in-depth studies similar to technical committees, with a suggested timeframe of 16 months for each study. Conducting these studies every five years would ensure a responsive approach to evolving economic challenges.
Review of Taxation and Regulation Incentives
Taxation emerges as a pivotal factor influencing business investment and productivity. Over the past 30 years, there has been considerable – if often overly complex – tax reform, including tax cuts, especially during the tenures of prime ministers Jean Chretien, Paul Martin and Stephen Harper. However, whatever the benefits to Canadian households, these cuts failed to translate into substantial productivity gains.
To address this, a broad review of incentives provided by taxation and regulation is essential. The Harper-era tax cuts demonstrated the effectiveness of tax mechanisms in increasing business investment, albeit with a focus on structural investment rather than intellectual property patents and machines and equipment. To encourage long-term gains, tax credits and incentives must be tailored to boost investment in these areas, fostering technological growth and innovation.
Furthermore, Canada can draw inspiration from successful international policies, such as the “innovation box” approach seen in the EU, particularly the Netherlands. This policy encourages research upscaling and domestic product commercialization through tax credits, aligning with Canada’s goal of fostering productivity and innovation.
The stagnation in Canada’s productivity growth signals a need for urgent and comprehensive policy reforms. While we possess several natural advantages, including abundant resources, proximity to the United States and advanced infrastructure, our failure to maintain a competitive business environment has hindered productivity growth. A recalibration of Canada’s economic strategy is imperative to address the failures of the past three decades and create an internationally competitive business environment.
Canada must learn from its historical challenges, recognizing the importance of tax policy neutrality, broad-based competitiveness and alignment with international standards.
The proposed solutions – establishing a permanent productivity commission and conducting a thorough review of taxation and regulation incentives – offer a path forward for sustained economic growth.
Aaron Wudrick is the director of the domestic policy program at the Macdonald-Laurier Institute.
Callum MacLeod is a research intern at the Macdonald-Laurier Institute and a student at McMaster University pursuing a BA in economics.
