How to handle
non-renewable natural resource revenues
under Equalization
Revenues from non-renewable natural resources are not ordinary revenues.
Treating them as if they are is one of the great flaws of Canada’s equalization formula, but the problem of how to deal with these revenues has appeared insoluble to policy makers. Until now.
In the third instalment of its special Equalization Commentary series, the Atlantic Institute for Market Studies (AIMS) provides an economically-sound proposal for dealing with non-renewable resources under Equalization.
It’s an idea endorsed by Todd Hirsch, Chief Economist with the Canada West Foundation, headquartered in Calgary. Hirsch has been a leading voice in Western Canada urging provincial governments there to think more carefully about how to use the revenues being generated by today’s natural resource boom. Hirsch and the Canada West Foundation have recently urged the government of Alberta to set aside 50% of its future non-renewable resource revenues into a long-term savings account.
“AIMS’ proposal is a more balanced approach to dealing with non-renewable resources under the Equalization formula. An approach that will encourage all provinces to act more prudently with our non-renewable assets,” says Hirsch.
As the latest AIMS Commentary, The 100 Per Cent Solution explains “when the equalization formula counts non-renewable natural resource revenues as part of the ‘fiscal capacity’ of the equalization-receiving provinces, it treats that money as income rather than as assets, as new value created rather than as a simple transformation of an existing asset from one form into another. And by treating the resource revenues in this way, and deducting them from the equalization payment, Ottawa in effect forces recipient provinces to act irresponsibly with their assets and to spend them as if they were ordinary income.”
Non-renewable natural resources are just that – non-renewable. So they must be managed in the interests of all present and future citizens of the jurisdictions that own them. We therefore have both a financial responsibility and a moral obligation not to treat this money like some lottery windfall, or selling the house to finance a splurge on fancy cars and new clothes.
The problem, of course, in dealing with non-renewable natural resource revenues and equalization, is that many provinces do act irresponsibly with these revenues and spend them as if they are ordinary provincial income. While the revenues last, they do effectively boost the fiscal (i.e. spending) capacity of these provinces. Thus, an inequity is created whereby some provinces can afford richer services than others simply by running down their capital assets to finance current consumption. But such abuse is not a reason for the equalization program effectively to force all recipient provinces to act in this way.
The 100 Per Cent Solution provides a relatively straightforward solution to the problem. It suggests that Ottawa look at what the provinces actually do with their non-renewable resource money when calculating both the ten-province standard and a province’s equalization entitlement.
Co-author Brian Lee Crowley says, “Not only would the approach recommended in this Commentary remove a major source of conflict between the provinces over natural resource revenues and how to integrate them into equalization, but it would introduce a dynamic element into the equalization program. It would actually reward provinces for sound management of their assets and lead to significantly lower levels of dependence on equalization transfers in several provinces”
The 100 Per Cent Solution is the third in AIMS’ Equalization Commentary series. The two previous Commentaries have been widely read and commented on in the media, including in both the Globe and Mail and the National Post. In Why Some Provinces are More Equal Than Others, the authors showed that there are good reasons to think that Canada over-equalizes because the equalization formula takes no account of the very different costs of providing public services in different parts of the country. In the second Commentary, The Flypaper Effect, it was argued that a great deal of equalization spending goes to higher levels of public sector pay, employment and debt and not to provision of needed public services in recipient provinces.
