Your taxes are going up, like it or not

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John Rapley is an author and academic who divides his time among London, Johannesburg and Ottawa. His books include Why Empires Fall (Yale University Press, 2023) and Twilight of the Money Gods (Simon and Schuster, 2017).

When the federal budget lands on Tuesday, Canadians will once again turn their attention to taxes and spending. Whether or not this budget broaches the topic, higher taxes are likely coming eventually, because of demographic and economic trends that will inevitably raise the cost of government.

Start with the big one, an aging population. That people live longer than ever is one of the great achievements of the postwar social contract. But it entails a new expense. After several decades of remaining fairly stable, the economically inactive share of the population began rising earlier this century. But whereas previously the inactive population comprised mostly schoolchildren, today it is mostly pensioners.

Even though both groups are net consumers of resources, spending on children ultimately produces workers who contribute to output, and so can be regarded as an investment. However, few retirees will ever re-enter the work force in a significant way.

So while output won’t grow as it did in the past, spending on such things as social care, pensions and health care will grow more than ever. Of course, one could try to limit such expenditures by revamping the health care system, using more private services to supplement the public system, as is already happening. But while this restrains government spending, because it amounts to turning public taxes into private ones, it won’t really save any money.

Consider, for instance, our southern neighbours. Canadians sometimes complain that we pay more in taxes than Americans, but that’s mainly because the U.S. doesn’t have a universal health care system. Instead, Americans either go without health care – which helps explain why they die an average four years younger than Canadians – or they have to buy health insurance. Once you add their premiums to their tax bill, Americans often end up paying more for these services than Canadians do. So we’d be robbing Peter to pay Paul if we profoundly altered our health care model. The issue, therefore, isn’t really whether we can create a leaner state to keep taxes from rising, but whether we want to create a less generous one.

A magic bullet, which is to say a rebound in economic growth that swells tax revenues, won’t likely save us. That’s because the very aging of society that is driving up demand for public services is also driving down the average rate of economic growth, since more of the economy’s output must be sustained by consumption.

It’s widely accepted that if Canada’s growth, which has nearly come to a halt, is to be rebooted, business investment will need to rise. But how? One school of thought believes that tax cuts, by raising private investment and thereby the long-term growth of the economy, pay for themselves. Recent evidence doesn’t support this faith, though. The Trump tax cuts in the U.S. led largely to share buybacks and dividend payments, which juiced the economy but also raised the deficit. A 2020 study by the International Monetary Fund suggests that’s because corporate concentration in developed economies has dampened the investment impact that tax cuts previously had.

So Canada will probably have to do as the U.S. is now doing, and use public investment to pull in private investors. In any event, Canada has skimped on public investment for decades, the result being that the country’s public net wealth is now negative. In particular, Canada needs to invest in housing, infrastructure and possibly even the subsidization of new industries – if only because all our major trading partners are doing it and will kill off our nascent industries with their cheap exports if we don’t. But unlike the U.S., which has the luxury of holding the world’s reserve currency, Canada won’t be able to borrow all the money to do it (and it’s not even clear the U.S. will be able to do it much longer).

Finally, there are the growing external demands of what economic historian Adam Tooze has called the era of the polycrisis. The world has become more risky and volatile. Our allies are quickly ramping up their defence spending to hit the agreed NATO target of 2 per cent of GDP, and won’t tolerate Canada’s flying below the radar for much longer. In addition, pandemic preparedness – COVID-19 wasn’t a one-off – and the multiplying shocks of climate change – forest fires are just the start – will make mitigation and rehabilitation costs a regular feature of life.

If we keep our heads in the sand, these costs will only rise. For instance, the huge run-up in debt during the pandemic was arguably the price we paid for our lack of preparedness – you could call it our complacency premium. So we can pay now or pay more, possibly much more, later. It’s either that, or renegotiate the social contract among citizens and the state. Canadians would do well to confront these trade-offs sooner rather than later.