To Boost Productivity, Canada Must Revamp Its Economic Frameworks

The deeper question is, why don’t Canadian firms invest more than they do?

May 21, 2024
Invest in Canada logo seen at the 2024 Canadian Hydrogen Convention, on April 23, 2024, in Edmonton, Alberta. We need greater investment in human, intellectual and physical capital, the author argues. (Photo by Artur Widak/NurPhoto)

That Canada has a productivity problem is not news. Economists and commentators have typically responded with a call for greater investment, as if that could solve the problem. But this is almost like saying the cure to a disease is to cure the disease.

Certainly, we need greater investment in human, intellectual and physical capital. In an accounting sense that would boost growth. But the deeper question is this: Why don’t Canadian firms invest more than they do? And why, once they have made investments, do they tend to perform more poorly than many of their international peers?

Let’s focus on just a few of the reasons.

First, there’s a chronic lack of competition in Canada, particularly in network industries — finance, telecoms and retail — which creates negative spillovers to the broader economy. That problem has grown more complex with the unchecked rise of digital technologies, which has led to increased industry concentration and monopoly power, especially in those network industries. A rise in monopoly power stifles the diffusion of new technologies.

Second, let’s turn to taxation, another element of the framework. There has been much ferment about the recent budget’s announcement that the inclusion rate on capital gains would be increasing — that is, a greater portion of the money an individual realizes in a year above the threshold of $250,000 will be taxed as a capital gain. Whether this increase is fair or not, it creates disincentives to invest and dampens entrepreneurship.

But that’s not the only area of taxation where these disincentives exist. There has been little focus on the punishing rates of personal income tax, where marginal effective tax rates are more than 50 percent on incomes roughly above $200,000. If more than half of any income above $200,000 is taxed away, that creates substantial disincentive to doing that work.

These areas combined create enormous disincentives for workers to upgrade skills and for entrepreneurs to allocate their scarce investment dollars and efforts to Canada. In fact, they create incentives for the highly skilled to invest their time and effort elsewhere.

Third, and most fundamentally, it is essential to recognize that the drivers of wealth creation have changed, while our frameworks have not. And these frameworks apply to our entire economy, not just to the high-tech sector that, unsurprisingly, receives much attention. Traditional sectors such as agriculture, mining, oil and gas, and forestry have long generated substantial wealth for Canadians. What will drive future growth in those sectors, make them more productive and generate greater wealth? It’s investment in intangibles: harnessing the data that can bolster precision agriculture and mining; building the skills to use the advanced analytic techniques; and protecting the intellectual property (IP) that could not only open doors to financing but also ensure that the gains from these investments are captured.

This data value chain requires a suite of coordinated policy actions among areas that include competition, taxation, skills development, strategies for IP, research and development, and so on. What we have seen so far are well-meaning but piecemeal initiatives built on policies unsuitable for the digital, data-driven economy.

Going back to competition as an example, although recent actions from the federal government are a good step forward, we need to go further. At a minimum, as Commissioner for Competition Matthew Boswell has noted, we need to look at all levels of government and address the restrictions that harm the competitive process.

Many of the measures in the recent federal budget are, understandably, focused on human welfare — deep, societal issues related to housing, lack of access to health care and pharmacare, and the high cost of living. But the way, ultimately, to pay for improved social welfare is to refocus policies on measures to boost productivity growth — that is, on frameworks — rather than on initiatives that in many ways are attempts to offset poor framework conditions.

That refocusing requires a comprehensive rethink of policy and regulation, to arm and incentivize companies and workers to take advantage of the current and next wave of technological change. This kind of deep reform is not easy; indeed, it can be tedious and painful. But it is necessary.

The opinions expressed in this article/multimedia are those of the author(s) and do not necessarily reflect the views of CIGI or its Board of Directors.

About the Author

Robert (Bob) Fay is a CIGI senior fellow and an expert in the field of digital economy research.