Canada

CATCHING UP

JOHN GEDDES January 18 1999
Canada

CATCHING UP

JOHN GEDDES January 18 1999

CATCHING UP

Canada

JOHN GEDDES

Sierra Wireless Inc. is a cool company. Launched just six years ago by three high-tech entrepreneurs, the Richmond, B.C., firm quickly established itself as a leading manufacturer of equipment for linking up portable computers to the Internet over cellular telephone networks. Sierra now employs about 80 people, many attracted to the Vancouver area by a combination of intense workweeks spent developing leading-edge technology and laid-back weekends devoted to West Coast pursuits like skiing and sea kayaking. It’s the sort of hip, fast-growing enterprise that politicians gush over as the future of the new economy. But Sierra is not gushing back. One of its founders, Andrew Harries, now vice-president of marketing, complains that high federal and provincial income taxes sometimes drive hard-to-replace, highly skilled employees to the United States. “If cash is their primary reason for going,” Harries laments, “there’s not much we can do about it, given the tax situation.”

Harries’s frustration is widely shared. The brain drain, an old, recurring concern of Canadian companies and governments alike, is again high on the policy agenda in the run-up to the federal budget Finance Minister Paul Martin is expected to bring down next month. This time, though, it is just one aspect of an even bigger debate about the country’s lagging productivity, and why Canada seems unable to catch up with the more dynamic U.S. economy. Many economists are blaming the heavier Canadian tax load, not only for the problems companies like Sierra have holding onto mobile workers, but also for the country’s failure to produce more Sierras in the first place. Just 14 per cent of Canada’s manufacturing firms are considered hightech, compared with 24 per cent in the United States. Critics of high taxes argue governments are soaking up money that would otherwise be invested to create those new, innovative Canadian companies—and to boost the lagging productivity of old ones. “Our tax burden sticks out like a sore thumb,” complains David Rosenberg, senior economist at the brokerage company Nesbitt Burns Inc.

High Canadian taxes figure prominently in a spate of recent economic reports that tell a troubling story about Canada’s long-term economic performance. Over the past quarter century, Canada’s productivity—the amount of economic output the country gets from its labour and capital investments—has grown more slowly than in other rich industrialized nations—including, of course, the United States. The federal industry department estimates that Canadian manufacturers are now only about 70 per cent as productive as their U.S. rivals, down from 80 per cent in 1985. The gap has widened during the very period when many Canadians thought they were weathering changes that would turn their economy into a world-beater. First, there was the shift to North American free trade, then a period of punishingly high interest rates to squeeze inflation out of the economy and,

most recently, the war on government deficits. “Now the question is, when is all this going to manifest itself in real benefits in the lives of people,” says one Liberal strategist close to Martin.

Many economists argue that free trade,low inflation and zero deficits are already paying dividends, but the benefits are being partly stifled by those persistently high taxes. Taxes levied by all governments in Canada amount to about 37 per cent of Canada’s gross domestic product, compared with about 29 per cent in the United States.

For a middle-class family, that schism can translate into a big bite out of a paycheque.

According to a recent study by CIBC Wood Gundy Securities Inc., a family earning $30,000 to $45,000 a year in Canada can expect to pay about 17.1 per cent of its income in taxes, compared with 8.8 per cent for the same U.S. household.

As well, a Canadian who manages to make more does not keep as much as an American. The top Canadian tax bracket, 51 per cent, kicks in for every dollar earned above $59,181, an income level at which the U.S. taxman grabs only 32 per cent. International observers have taken note: the Organization for Economic Co-operation and Development, in its latest survey of the Canadian economy, called the gap between U.S. and Canadian taxes a “pressure point,” and urged Ottawa to cut taxes “for competitive reasons.”

Martin appears poised to make a start at doing just that. His top advisers say the government hopes to offer some sort of personal income tax reduction in the coming budget. But they reject the argument that the brain drain means that relief should be targeted at the top income earners—those able to move south most easily. Instead, a tax break targeted at middle-class taxpayers with incomes below $65,000 is in favor in pre-budget planning sessions. Some lobbyists who have been urging breaks for the most mobile—and best-off—professionals will be disappointed. “Attracting and retaining high-end, skilled workers is basically the number 1 priority for high-tech companies,” says John Reid, president of the Canadian Advanced Technology Alliance.

While taxes are dominating the debate about how to catch up to the Americans, they are not the whole story. In a key speech highlighting the government’s concern about lagging Canadian productivity last September, Prime Minister Jean Chrétien stressed the need for a better-educated workforce. He touted his government’s initiatives in the 1998 budget: helping parents save for their children’s education after high school; setting up the new Millennium Scholarship Fund; and injecting more money into the federal granting councils that finance university research. Some business leaders support that emphasis on broadening the pool of well-educated, technology-oriented workers, rather than becoming preoccupied with competing with the United States through tax reductions. “Sure, it’s hard to get Americans to come up to Canada, and easy to get Canadians to go to the U.S.,” says Wolf Haessler, president of Guelph, Ont.-based Skyjack Inc., which manufactures mobile elevating platforms, often used in construction, at factories in Ontario and Iowa. “But a bigger difficulty is simply finding well-educated, qualified technical people, whether it’s in Canada or the United States.”

At first glance, education appears to be a bright spot for the Canadian economy. Canada ranks first in the world in the percentage of 18to 21-year-olds enrolled full time in postsecondary education: 37.9 per cent, compared with 34.7 per cent in the United States and 10.6 per cent in Germany. But a recent Conference Board of Canada study pointed out that Canada lags behind most industrialized countries in the proportion of graduates with highdemand science and math degrees. And the board, an independent economic research organization, also said the high-school dropout rate in Canada remains higher than in Japan, Germany and the United States. Another perennial weak spot for Canada is on-the-job training, in which Canadian companies rank just 13th in the world, behind Japan, Germany and France, although ahead of the United States and Britain.

Canada’s private sector posts a weak performance in some other key areas. Domestic companies are far less likely to adopt new technologies than similar-sized American firms, according to Statistics Canada. And even though Canada offers the world’s richest tax breaks for research and development, U.S. companies spend nearly twice as much on R and D. Foreign firms with branch plants in

Canada seem to perform better than Canadian-owned operations. A recent analysis of Canada’s productivity problem by the federal industry department said that foreign-controlled firms in Canada are, on average, 13 per cent more productive than their Canadian counterparts. Investment in new equipment is one likely reason. In Port Hawkesbury, N.S., Helsinki-based forest products giant Stora Enso Oyj has spent $750 million to turn an aging paper mill into a state-ofthe-art showcase for new papermaking technology. “This investment has a very important message for Canada,” says Jack Hartery, president and general manager of the Port Hawkesbury mill. “This hasn’t been happening in Canada to the extent that it should be; it has been happening in Europe and Asia.”

While productivity is a hot debating point in the strategy sessions leading up to the budget, the word itself may not find its way into Martin’s budget speech. Liberal strategists told Maclean’s they fear that Canadians associate the term with corporate downsizing. “People have some trouble relating to what productivity means,” said one government official. “It could mean their employer is going to give them a computer, or it could mean they are going to be laid off.” Shoring up health care—a safer, more popular theme— will dominate the budget rhetoric. Still, with the reality sinking in that vanquishing the deficit has not meant the end of Canada’s economic worries, Martin is under pressure to send a message—call it what he will—that Ottawa is not willing to let Canadians keep falling further behind their American cousins in the race for prosperity in the global economy. □