Published in the Telegraph Journal on October 2, 2010
By William Robson
Demographic change affects government budgets only gradually. In the mid-1990s, some advocates of a relaxed attitude toward aging-related increases in Canadian health-care costs compared them, not to an avalanche, but to a glacier. Intended to be soothing, the image is apt in a way those authors did not intend.
Even at a glacial pace, such a mass of ice grinds with tremendous force. The impacts of demographic change on Canada's fiscal landscape will be profound, and as we enter the second decade of the 21st century, they are no longer far away.
The net public debts of Canadian governments get keen attention. Figures on the unfunded obligations of the Canada and Quebec Pension Plans (CPP/QPP) are available for those who want to look. The implicit liabilities governments face in their demographically sensitive programs - future services and transfers that Canadians appear to expect, but have made no provision for - are less well known, but much larger.
If current patterns of spending in age-sensitive public programs - health care, education, elderly and children's benefits - persist as the population evolves, Canadians will divert more of their incomes from other public and private purposes to fund them.
Discounted over 50 years, that increase amounts to an implicit liability of $2.8 trillion for governments, with essentially all of the burden falling on the provinces and territories rather than on Ottawa. Spreading this cost evenly over the period with CPP-style level funding would require immediate annual levies ranging from 2.9 per cent of GDP - $1,800 per person - in Saskatchewan to 7.7 per cent of GDP - about $2,700 per person - in Nova Scotia and New Brunswick, and more than 10 per cent of GDP - $5,700 per person - in Yukon.
These figures underline the need for rapid budget balancing, with measures to contain costs and fund these programs from sources that will support, not slow, future income growth.
What's at stake?
Summing projected program costs across the country shows that, if existing age-related spending patterns stay the same, demographic change will raise their total claim on GDP from less than 17 per cent this year to more than 24 per cent in 2059. Because most public discussion anticipates neither cuts in these programs nor increases in tax rates, they create implicit assets and liabilities on government balance sheets.
One way to quantify those is to calculate the present value of changes in these programs' claims on GDP over the next half-century. Programs whose claim on income will fall create implicit assets: governments could carry equivalent additional debt and still meet their other obligations without raising tax rates.
Programs whose claims on income will rise create implicit liabilities: governments would need equivalent income-earning assets to meet their other obligations without raising tax rates.
The national net liability of these programs - $2.8 trillion when discounted at 4.5 per cent - measures the gap between the expected benefits of public programs to recipients and their apparent cost to taxpayers from now through the approximate life expectancy of the average Canadian.
This fiscal glacier will grind unevenly across Canada. The only programs creating implicit assets are child and family benefits - and, except for Ottawa, their relatively small size limits the fiscal benefit. Elderly benefits are a liability, but are also relatively small, since the interaction of growing real incomes and clawbacks will contain their rise. Rising servicing intensity and cost makes education spending a modest liability for the provinces and territories.
Health care dominates the numbers: a $2.8 trillion liability for the provinces and territories in aggregate, with tallies in some eastern provinces and in the territories equal to more than double estimated 2010 GDP.
The cost of "Steady-state" funding
The mid-1990s reforms to the CPP and QPP aimed to protect future contributors from the mounting cost of benefits to retired babyboomers with a one-time hike in contributions that, by partially prefunding the plans, would make further hikes unnecessary. That example suggests another way to quantify the demographic glacier's effects: the immediate tax hike needed to preclude future ones.
Even in the provinces from Ontario west, the levy would be large: averaging 4 per cent of GDP, or about $21,000 per person. In the eastern provinces and territories, it would be huge: at least 6 per cent of GDP, and typically about $30,000 per person. Only the federal government faces no demographically driven tax increase. [....]
While prefunding the entirety of these demographically sensitive programs combined is not practical or desirable, some programs with predictable cost increases - such as drug subsidies for elderly patients - might lend themselves to this approach. Short-run spending restraint and longer-run reforms, both in financing and in cost control, are needed to deal with a challenge on this scale. Ultimately, provinces will levy higher consumption taxes - perhaps even death taxes - as they seek revenue sources that will support, rather than hold back, the income growth that will let Canadians pay their demographic bills.
The most important message from this calculation, however, may simply be that those who advocated a relaxed attitude toward the interaction of demography and public programs lulled too many Canadians into a false sense of security.
The fiscal glacier that was once decades away is almost upon us. The time is now for fiscal and service delivery reforms that make these services sustainable at tolerable cost.
William B.P. Robson is president and CEO of the C.D. Howe Institute.
