Politicians, Federalism and Central Banking

 

Part of the immeasurable majesty of Canada is its federal form of government which on a good day should be about the provision of public goods in a decentralized fashion that tailors them to local preferences but in a cooperative and coordinated fashion.  On a bad day, Canadian federalism is about tiers of government going their merry way enacting measures and policies that impact other levels while jealously guarding their jurisdictions and finger pointing as problems come home to roost.  The housing portfolio is a particularly good example of the latter.

 

For the most part, a federal system is an institutional arrangement that allows regional diversity in an environment whose rules foster both cooperation and competition.  Part of that institutional environment is ongoing political negotiations and discussions as well as lobbying as municipalities interact with provincial/territorial and federal governments, provinces/territories interact with municipalities and the federal government as well as each other and of course the federal government interacts with everyone with an eye to overarching interests.  Along with regional diversity tailored to local preferences, there are also needs to be some national rules or standards that help create a common economic space that affords everyone a larger economic space and the economic benefits thereof.

 

Which brings us to monetary policy and the current trend for politicians to speak their minds and essentially “lobby” the central bank on the eve of a rate announcement.  As most first year economic students eventually learn, the role of the central bank is to promote the economic and financial welfare of Canada via the conduct of monetary policy designed to keep inflation low and stable.  This role includes using the levers of monetary policy, safeguarding the integrity of the financial system, and issuing and managing our currency.  This is a technical process and run by highly trained specialists in economic theory and monetary policy.  When push comes to shove, the federal government of the day ultimately is in charge of our central bank, but it must use that policy sparingly because the stability and effectiveness of our financial system depends on day-to-day operations of the bank being insulated from political flavors of the day.

 

Pity then the current governor of the Bank of Canada who came into the job during the pandemic and has had to unwind oodles of quantitative easing, steer the financial system through the Scylla and Charybdis of first deflation and then inflation, and engineer a soft landing as interest rates rose to deal with inflation – interest rates that when compared to much of nineteenth and twentieth century economic history were ridiculously low and fostered a war on savers by loaning their money out to fund a housing asset surge. Indeed, taking money from savers at rates approaching zero and giving it to people to finance their spending could be considered a form of theft. Rising interest rates are having their intended effect on inflation but they are indeed creating financial pressure on households. 

 

It is not unreasonable for informed business and economic commentators to discuss and critique monetary policy and offer policy advice as media performances in the face of a slowing economy have recently illustrated. However, it is less reasonable when politicians begin to weigh in on what the Bank of Canada should do in interventions that are essentially public lobbying efforts for input into monetary policy engineered for political optics.

 

In recent days, we have seen the premier of British Columbia call of the Bank of Canada in a public letter to halt “further increases” because people are hurting. The Ontario premier has also gotten in on the act with a letter released yesterday calling on the Governor of the Bank of Canada to stop raising interest rates. In their last meeting, the premiers collectively opined that they are not in favour of these rate increases because of the harm they are causing as people renew their mortgages.  And at the federal level, the prime minister himself is trying to assuage monetary pain by stating that these rate increases are bad news for Canadians and shifting some of the blame for high housing costs on the central bank. And who can forget the leader of the opposition who in Herod-like fashion wants to deliver the governor’s head on a political platter.

 

In going after key institutions with attacks motivated by short-term political gain, politicians are essentially undermining important institutions.  They are all bright enough to realize that recent interest rates were abnormally low and that they should not be fueling fantasies that somehow, we are going to revert to 1 percent interest rates.  As a former bank governor recently remarked, though interest rates will eventually come down, it is unlikely we are returning to pre-pandemic interest rates.  Yet, federal, and provincial politicians have become like snakes in the garden of federalism with their calculated crocodile tears of concern for the average Canadians and whispers of consolation while pursuing actions or lack of action that makes problems worse - again, housing comes to mind.  After all, what they are really after is short term political credit if the Bank of Canada holds the line on interest rates and the rocket  fuel of righteous indignation if they don’t.  They are not at all concerned about the long-term consequence of undermining key institutions.

 

After all, if the average Canadian politician were concerned about long-term economic welfare, we would not have half the problems we currently have.

 

 

The Provinces and Federal Health Transfers

 

The federal and provincial health ministers meeting in Vancouver last week ended somewhat abruptly without an outcome regarding an increase in transfers. The provinces have been asking for increases to the Canada Health Transfer that would raise the federal share of provincial health spending from 22 percent to 35 percent.  Given that for 2022-23 the Canada Health Transfer to the provinces is expected to be 45.2 billion dollars, such an increase would amount to an additional cash transfer of well over 25 billion dollars.

 

The provinces maintain that they need the money to deal with an increasingly strained and stressed system beset by labour shortages and the aftermath of the pandemic.  The federal government is leery of simply handing over the money without conditions because of the concern that more money without structural reforms to the health system or some conditions is simply business as usual.  After all, the enhanced transfers of the 2004 Health Accord with its 6 percent annual increase escalator that lasted until 2017 was supposed to buy fundamental reforms and transformative change and yet the same problems persist pandemic notwithstanding.

 

The solutions here are problematic.  The federal government could simply hand over more money given that health is a provincial responsibility and wash their hands of the matter.  However, given their concerns that the provinces may not necessarily spend the money on health given they are almost as busy as the federal government in handing over rebates and assistance to deal with inflation, they are unlikely to do so.  They could proceed unilaterally and create a grant with conditions that provinces could accept if they wished or otherwise deal with the matter on their own – probably by increasing their own source revenues (i.e., raise their own taxes) . Or they could simply do nothing and wait for the provinces to come around.  After all, health is a provincial responsibility and the blame for a lack of family physicians or crowded ERs ultimately lands at the feet of provincial governments.

 

Of course, in dealing with the issue it is perhaps useful to look at some indicators to see what the dimensions of the problem might be.  The accompanying figure plots the average annual growth rates from 2008 to 2022 for an assortment of health spending, fiscal and economic indicators. This period includes both the pandemic as well as the 2008-09 Great Recession - both periods that saw surges in federal spending including transfers.  This period also coincides with the 2004 Health Accord and its immediate aftermath.  The results are intriguing given that they provide some support to both sides in this debate.

 

 

 

The average annual growth rate (all growth rates here are nominal) for total federal transfers was 5.6 percent with the component Canada Health Transfer and Equalization growing at 5.2 and 4.1 percent respectively.  Provincial-Territorial government health spending over the same period grew at an annual average of 5 percent – slightly below the rate of growth of the Health Transfer.  Needless to say, score one for the federal side.  Moreover, total provincial-territorial program spending (including Health) grew at 4.8 percent which means that program spending net of health was also growing slower than health. Score one for the provincial side – the money is not necessarily going to other programs.  P-T health spending is growing faster than either nominal GDP or population (though once inflation and population growth are factored in it means that per capita spending growth has been rather anemic). 

 

Nevertheless, total P-T health spending has grown faster than GDP, but provincial-territorial own source revenues have grown slower than GDP while the value of the much-vaunted federal tax points have grown at nearly the rate of GDP.  Here, the federal government can claim that there is indeed own source revenue capability on the part of the provinces that remains untapped.  On the other hand, the provinces can claim that they are caught in a bind – on the one hand they are trying to bend the cost curve to address sustainability issues (hence the anemic per capita growth rate) while on the other hand the high growth rate of total population plus the aging of the population is adding to total health spending at a rate they are having difficulty coping with.

 

Is there a solution here?  In the absence of a unilateral federal move of transfers with conditions (which is not going to work for everyone) the only solution here is a political one and if the two sides are not talking it is a long way off.