Is Canada the World's Best Place to Invest?
Is Canada really the worlds best place to invest? The Economist Intelligence Unit (EIU) a division of The Economist magazinethinks so. According to a recent survey by the EIU, Canada ranks first out of 60 countries in terms of business attractiveness over the next five years. Our southern neighbour, on the other hand, fell in the rankings from first to fifth. Canada leading the world in business investment is however, a prediction unlikely to become reality unless certain steps are taken by Canadian governments.
And thats not just our opinion: several other organizations would take exception to the EIUs optimism. The Organization for Economic Co-operation and Development (OECD), for example, ranks Canada 12th of 30 countries in forecasted economic growth for 2003 and 2004. TD Economics latest forecast claims, Canadas streak of good luck has run out. U.S. economic growth to outpace Canadas through 2004. Even the Bank of Canada predicts the United States will outperform Canada over the coming years. With such wide disagreements, it is hard to have confidence in the EIU model suggesting that Canada is the most attractive place for businesses to invest.
Another problem with the EIU report is that it is a ranking of countries based on factors such as the level of political stability, quality of infrastructure, openness to foreign trade, and favourable market opportunities. While these factors are undoubtedly important, they are not typically regarded as leading or primary drivers of investment. A jurisdictions tax regime and regulatory burden are the key drivers of expected rates of return on capital, which in turn affects business investment. A recent paper by Jack Mintz, one of Canadas leading tax authorities, concluded that the effective corporate tax rate on capital in the United States in 2003 is 20.1 percent compared to 31.8 percent in Canada. Even if Canada holds to its planned business tax reductions over the next 5 years, its effective corporate rate on capital will be 27.4 percent, still substantially above the current rate in the United States. As a result of high business taxation, Canadas accumulated inflation-adjusted, net investment per person in machinery and equipment lagged that of the United States by 18.3 percent over the last decade.
Canadians need not look beyond our own borders to understand the factors that drive business investment. The growing gap between business investment in Alberta and British Columbia provides overwhelming evidence of the importance of tax and regulatory policy. Albertans accumulated $34,784 per person (adjusted for inflation) in business investments in plants, machinery, equipment and new technologies between 1991 and 2001. British Columbians accumulated $22,098 per person or 63.5 percent of that recorded in Alberta over the same period. In addition, while Vancouver experienced an 8.9 percent decline in the number of top 500 Canadian companies headquarters between 1990 and 2000, Calgary experienced a 13.6 percent increase. In fact, Calgary remains the number one corporate headquarters for Canadas largest companies when population differences are accounted for.
The indictors used by the EIU suggest that the opposite should be occurring: British Columbia should be attracting more capital and corporate headquarters than Alberta. British Columbias geographic location and climate are superior to that of Alberta. British Columbia has the largest port in Canada and the second largest airport. In addition, British Columbia has better access to the US and Asian markets, greater population, and an equal, if not more educated, workforce.
Why then does Alberta continue to attract more capital and outperform British Columbia? British Columbias regulatory and tax burden continue to be the leading cause of the lack of business investment. Albertas strengths are numerous: lower effective business tax rates, single personal income tax rate that doesnt penalize workers for being productive, no provincial sales tax, and a regulatory regime focused on outcomes rather than process. Couple this higher tax burden with a more onerous regulatory regime in British Columbia and the answer to why Alberta attracts more capital becomes obvious.
Economic policies must create the right incentives for individuals and businesses to invest and actively engage in productive activities. Our government needs to reduce business tax rates and the regulatory burden in order for Canada to remain competitive with the United States and the rest of the world. Without these reductions, business investment in Canada will continue to lag that of the United States and many other industrialized countries, regardless of what the Economist Intelligence Unit predicts.
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