First, do no harm
What role for ACOA in Atlantic Canada?


“Direct Investment in Business or Indirect Infrastructure and Business Support:
Finding the Right Balance”


Ladies and Gentlemen,

Thank you for the invitation to be here today.

The title of our panel today suggests that there is a choice to be made between, on the one hand “Direct Investment in Business”, and “Indirect Infrastructure and Business Support” on the other.

A role for government – but which role?

LET ME CLEAR the air right away by saying that it is perfectly clear — to me, at any rate — that there is a key role for government in promoting economic growth, but that the policy options available to governments include a great many destructive possibilities as well as a more limited range of positive helpful ones. The trick is to distinguish one from the other. What I intend to do in my talk today is to give you a series of reasons for thinking that, if you truly wish to promote economic growth, then genuine infrastructure investment is vastly preferable to direct investment in business by governments. But I also intend to say that this is not the only choice available, and that in fact there are other things governments can do that are more positive than either of these possibilities.

Let me start my remarks by noting that I am not so cynical as to suggest that either politicians or non-elected officials are driven solely by political motives, but I am not so naïve as to think that public administration is a purely rational affair either. And I would venture to say that the economic evidence on how governments can best foster economic growth is so clear and well-established that the fact we continue to debate the wisdom of direct business subsidies or other forms of support to individual enterprises leaves me in little doubt that we are dealing with political imperatives that have little or nothing to do with economic development.

Direct subsidies to business?

LET ME GO through some of the reasons why I think that the old justifications for direct business support don’t hold water, and then we can get to the policy tools that would be preferable.

Reason Number One: Everybody else is doing it

This claim is patently untrue, or else needs to be severely qualified. The constitution of the State of Georgia forbids it to pay subsidies to business, and yet its economy has thrived more than almost any other state in the union, despite the fact that its neighbours, Mississippi and Alabama, pay some of the largest subsidies in the western world – literally over $300,000 per job created in the case of the Mercedes-Benz plant.

In Ireland, the Irish Development Agency, the equivalent of ACOA, does exist, but you will not find a single person in Ireland (not even within the IDA itself) who thinks that the IDA was a cause of Ireland’s phenomenal growth. The subsidies they pay are purely defensive – that is to say that no one invests in Ireland because of subsidies, all the subsidies do is to neutralise subsidies offered by others, so as to leave companies to do what they should be doing in the first place: choosing where they invest and expand on the basis of the economic fundamentals. No serious business locates anywhere because of government subsidies, they seek out open markets, stable or falling taxes, stable or falling public debt, a well-trained and plentiful labour force, good quality infrastructure and a good cost-benefit balance between taxes paid in services received.

Subsidies, in other words, are a mug’s game. They impoverish society, because they make companies invest where they would not otherwise want to go, and make taxpayers pay for business risks that should be shouldered by investors. By definition, they leave society as a whole worse off.

Reason Number Two: Subsidies help attract the right kind of companies.

No, subsidies help attract precisely the wrong kind of companies. There are only two logical possibilities in thinking about whether subsidies should be paid:

a) the company cannot be profitable unless it is subsidised, in which case by definition it is unsustainable in its primary object in life: to make goods or services that people actually want at a price people are actually willing to pay. In this case, the subsidy is a waste.


b) the company would make the investment in any case, and is only getting taxpayers to pay for part of it, in which case the subsidy has achieved nothing except to impoverish taxpayers to enrich investors. In which case the subsidy is also a waste.

Reason Number Three: There is a shortage of capital in the region that government must make good.

Nonsense. I want to make the politically unpopular point first. One of the great strengths of western market economies is that we give the stewardship of our scarce investment resources to institutions and individuals with a proven track record in husbanding those resources so as to make them productive and grow. Banks, insurance companies, corporations, wealthy investors all get to control capital because they’re generally good at putting it to work in productive ways.

And one of the key functions of these gatekeepers of capital is to ensure that only people who represent really good risks get a share of society’s scarce capital. In other words, they’re quite good at saying no to people. They have to be, and they do society’s bidding when they do so.

Thus if there are many people in Atlantic Canada who want to start marginal businesses, or who lack adequate managerial expertise or the business track record to justify investment by private capital, it is to be celebrated that they do not receive it when there are other better opportunities elsewhere. The fact that some people are disaffected by this is a political problem, not an economic one.

But there is another side to this equation as well, a side that is summed up by the following three stories:

1) I know someone who, not so long ago, was in the office of a venture capitalist in Toronto. On his wall was a map of Canada, with pins representing the locations of each of the companies where he had invested. There were no pins on his map in Atlantic Canada. Why? Because, he said, potential investment targets here shrank from the loss of control that such capital represented when “free” government money was so available.

2) RoyNat, a national company with money to invest in local businesses, advertised for investment opportunities here, and got no take up, for the same reason.

3) When the former Dean of Commerce at Saint Mary’s University, Dr. Scott Carson, originally came here from Ontario, he was stunned by the nature of debate in his business case discussions at the SMU business school. At the Ontario business school where he had previously taught, one of the most hotly debated topics among students was how their proposed corporate plans would be financed. When he put the same question to his students in Atlantic Canada, all he got was puzzled looks. The students thought that the obvious course was to turn to ACOA for the money.

In fact what we have is a culture in which bureaucratically controlled and directed money is preferred by many companies to private capital because the money can be made to flow for political reasons and not business and economic ones. Yet not only does that mean that the money too often flows for the wrong reasons to the wrong places, but that new companies don’t get what they most need. What they most need is not just money, but they need smart money, they need the kind of money that comes with business, not bureaucratic strings attached. There is too little of such money here because it has been to a large extent crowded out.

If I had time I would also like to explore the two other most common arguments, namely that people have a right to live where they like and government has an obligation to bring employment to them, and the argument that it is morally justified to take people’s money compulsorily through taxation and then to invest it in risky business ventures, but I don’t have time to get into that here.

Infrastructure is better, but easily captured by politics

FOR THE MOMENT, let’s talk about infrastructure. By infrastructure in this context, I mean investments that improve the productive capacity of society, but whose benefits cannot be fully captured by private investors, and therefore these goods will be undersupplied in society. We therefore use the public sector to make these productive investments and use taxation or other charges to recover the costs over time. Such investments must be based on a genuine and stringent cost-benefit analysis (i.e. we look at the real cost of them, which must be more than compensated for by the extra value society derives from the investment). Where these conditions are fulfilled, and the private sector cannot undertake the risk, there is a good argument for such infrastructure.

It can take the form of good quality roads, ports and airports, top flight education, extension of certain kinds of public utility to the whole territory, etc., etc. It does not, by the way, take the form of skating rinks or unused playgrounds in the forest, or boardwalks built on private land without the owners’ permission. It does not take the form of more nurses for the health system, or enriched welfare or UI benefits. These are not “investments” in this sense.

The problem, however, is that attempts to build genuine infrastructure through political means too often get captured by political interests. The most blatant example is Dave Dingwall hijacking money for real highways to pave some back road in his riding. But there are other kinds, such as when public sector unions come to control, for example, the schools, so that fresh money going into education is captured by these powerful groups and creates no improved educational outcomes for students. Or when money supposedly destined for genuine job training in fact offers a mere fig leaf of justification for passive income support programmes, such as hairdressing courses for fishermen under TAGS, or for getting workers on UI, as under many of the HRDC grant programmes that have caused such a scandal.

The most successful public infrastructure programmes are the ones that strive to get the politics out and thus ensure maximum benefit for the economy and taxpayers. Here there is a role for government and Ireland is the best model I know of how it’s done.

Beyond subsidies and infrastructure

BUT THE POINT is that there are many things that are just as useful as this, if not more, all of which government controls directly, that would have at least as big an impact on both growth and employment as infrastructure investment, yet which never seem to find powerful champions within government. I will mention just three:

Taxes, and especially capital gains tax. Ireland shows the way here. Through a strategy based on cutting taxes and building corporate profitability, the Irish government unleashed an investment boom that continues to reverberate throughout Europe. But the taxes that they cut were all related to investment. Consumption taxes remain very high.

If we are concerned that there may be some shortage of risk capital, the most effective way of helping is to reduce the return that capital needs to earn in order to be productively employed. Remember that the capital gains tax in Canada is 4 times that in Britain, twice that of the US, and infinitely higher than the zero rate in places such as Hong Kong, the Netherlands, Singapore and Switzerland.

Finally, by lowering the tax burden on business overall, you automatically let the benefits flow to the economically successful rather than the politically successful. That means that no official has to pick winners – consumers do that, and those who win get to keep and re-invest a bigger shore of the fruits of what they do. Analysis by the Beacon Hill Institute in Boston of five states showed that in every case cutting taxes was a lower cost job creation strategy than any form of business subsidy.

Free trade, including an end to subsidies. Subsidy wars are hugely destructive, and can only be eliminated by over-arching rules that eliminate the possibility of the subsidy tool being used. Internationally we are moving in this direction, and Canada has signed on to WTO rules that allow Brazil to challenge our subsidies of aircraft makers, just as we can contest subsidies by others that hurt our interests. The EU is struggling, with some success, to eliminate subsidies internally. And yet here within Canada provincial and federal governments continue to pay them on the grounds that they have to instead of making binding rules not to use them.

And despite the rhetorical commitment to internal free trade, governments continue to honour the rules more in the breach than in the observance. PEI has just announced that it would rather withdraw from the Internal Trade Agreement than to honour its own undertakings and allow a NS company with a PEI subsidiary to import milk to the island – in spite of the fact that the island’s dairy industry lives from large exports of cheese and other products to other provinces. We still see cases of Nova Scotia crews being put off offshore industry vessels so those vessels can work in Newfoundland, bringing tit-for-tat retaliation against Newfoundland crews in NS. Federal leadership on this issue, in my view, is just as important as getting infrastructure right.

Finally, governments really committed to free trade would allow in any financial institution that cared to come, allowing some real competition for our cossetted banking sector.

Welfare reform, and especially UI. If you spend a lot of time talking to business people, as I do, you will quickly discover that one of the greatest obstacles to their growth is not shortage of capital, but rather shortages of workers, especially reasonably well-trained workers actually willing to work full-time, full-year. This is one of the great ironies of Atlantic Canada, that we have, through a poisonous policy mix, created labour shortages that co-exist with large pools of unemployment. And it is also clear, including from the federal government’s own empirical studies, that the chief explanation for this apparent paradox is that the UI system continues to reward too many people for not working. The fact that the Prime Minister is now making speeches threatening to undo the tiny progress that the last UI reform represents in this respect makes me deeply sceptical of any claim by any agency of that government that it is interested in any serious schemes to build business, employment and investment in this region.

Thank you.