FEBRUARY 1994

FEBRUARY IS HERE, AND with it, spring (on the West coast), the annual arrival of the T4 slips, and the 1993 RRSP deadline. Of course underlying all these events and deadlines is the imminent arrival of the dreaded "tax time."

We dread tax time so much because we can actually see just how much of our money the government takes. We get used to living on our wages, and for those of us in salaried positions, the amount we take home never varies much from month to month, so we can bury our heads and forget about taxation, except when we make purchases. And in those cases, the shock of the sales tax and GST is partially softened by the joy at now owning the newly-bought item.

But there is no such joy at tax time. We have worked and scrimped and saved and paid our bills and held off making those big purchases until we saved some more--only to find that Revenue Canada has already taken the equivalent of a brand new car from us! The tax grab, when calculated clearly in black and white on our T4 slips and again on our tax returns is so substantial as to truly take our breath away. The most galling part, of course, is that Revenue Canada invariably wants more.

In this month's issue of Forum, none of our authors complain specifically about taxation, but rather about the government's insidious encroachment on our lives in the form of wealth taxes, Unemployment Insurance payments, and the poor management of taxpayers' money. We also have some comments on the political correctness issue. Our feature article this month is a summary of a new Institute book called The New Federalist by the eminent American scholar Gordon Tullock. It examines the ways in which government can operate most efficiently and be truly an instrument of the people, rather than the uncontrollable parasitic Leviathan it now seems.

Enjoy your February read. And for those of you who must live in other parts of Canada, don't worry, spring is coming, and it looks wonderful!

February's solution: how to get efficient government

Filip Palda

COMPETITION BETWEEN governments can force them to be efficient. If people and investments can move freely between regions, the government of each region will have to deliver value for money. If any government charges taxes that are too high for the services it delivers, resources will move to the regions where the taxes are lower and the services better. By voting with their feet, citizens force their leaders to be efficient or to risk losing the region's tax base.

Competition is for governments

These ideas are well known among researchers of political economy, but they have not made it into the public debate. Competition is a word that most people place in their minds next to private enterprise. Michael Porter, who is the best known popular authority on competition, dwells on the conditions under which businesses best compete. To date no authority has emerged who could describe in non-technical language the sort of environment in which governments can best compete with each other.

In several weeks The Fraser Institute will publish a book which tries fill this gap. The book, by Gordon Tullock and entitled The New Federalist, explains that power is too centralized in Canada. If spending and taxes were decided at lower levels of government and if resources could move freely around the country, Canadians would get more efficient and responsive government.

Public choice

Gordon Tullock is a founder of the intellectual movement known as public choice. Students of public choice believe that economics should be applied to politics. Forty years ago, when Tullock was beginning his career in economics, this was not deemed to be the best way to understand government. Many scholars put government on a pedestal and considered it an instrument for good. Government could fix things where the market failed. Impartial bureaucrats could be trusted to adjust the money supply, government spending, and taxes in the best interests of voters. Regulations were viewed as the means by which impartial representatives of the people could curb the excesses of private entrepreneurs. Gradually, due to the efforts of a few pioneering scholars, this rosy view was challenged. Tullock and others suggested that taxes, government spending, and regulations were shaped through bargains and conflicts between interest groups. This idea goes back several hundred years. But the public choice school produced the first evidence that government could be understood as a marketplace where people make claims on property which is not their own.

Rules of the game

Several sophisticated insights came from this original idea. The first insight is that the rules which govern the political market will determine how efficient government is at delivering essential services. If a government faces no competition from other political parties, and is able to prevent citizens from leaving, it may allow itself to be inefficient. The Soviet Union was an example of such a government.

The second insight is that large governments encourage wasteful lobbying by interest groups. The feeding frenzy of professional lobbyists around national capitals is the most visible part of this waste. Tullock called such waste "rent-seeking." Rent-seeking is easier in large than in small governments because it is difficult for ordinary citizens to see who is preying upon them. Few people have the time to learn how much more they pay for milk because a marketing board has convinced government to give it monopoly rights to the production of milk. Local governments are less plagued by rent-seeking than higher levels of government because citizens have a better idea of what is going on at the local level.

Small is good

The forthcoming book by Gordon Tullock uses these insights to explain what type of government would be best for Canada. He suggests that we need a weaker central government and that we should give more power to local communities.

The traditional argument in favour of a large central government is that there are "economies of scale" in the production of government services. This means that to provide services like public sanitation, roads, a military, and national health, government needs to be big to be efficient. Tullock questions the notion that bigger is better and that we need big organizations to deal with big problems. He guides the reader through many real world examples of small communities which provide most of their needs on their own. Tullock does not deny that there are some services that large governments can provide efficiently, but he notes that these services are a minor part of the business governments have taken on. Today, big government mostly takes income from part of society and gives it to another part.

Voting with your feet

Once we accept the notion that bigger may not be better we can start to ask what might happen if we scattered political power throughout local governments. The main benefit of decentralizing government power would be to force politicians and bureaucrats to provide services at a cost acceptable to the middle-of-the-road voter. Local governments are forced to be efficient because citizens who do not like what they are getting can leave. These departing citizens can move to neighbouring communities which offer a package of taxes and services more to their liking. By voting with their feet, people put continual pressure on governments to perform. This is democracy at its most direct. It is also informed democracy, because the deals that politicians strike with interest groups are easier to spot at lower levels of government. Knowing what your representative is up to is half the game in bringing him to account.

Tullock discusses the merits of privately-provided local services such as water, schooling, and fire protection. He suggests that the private market can work well but that local governments may be able to provide these services almost as efficiently. What is crucial is not so much who owns and operates the service, as the competitive pressures that the providers face.

Low taxes, high social services

The message in his book is one Canadians are not used to hearing. We have been told since Confederation that a strong central government built this country. We continue to be told that we need a strong centre to assure that all Canadians get the same high standard of medicine, schooling, and social programs. Tullock asks us to think about a Canada in which Ottawa, and even the provinces govern less, and in which local communities govern more. More generally he asks us to consider what the best or "optimal" size of government should be. Large governments may be efficient providers of certain services, but they may leave many people dissatisfied. Small governments have a better chance of presiding over a community of like-minded people, but there may not be enough of those people to justify a police force or public sanitation; projects which are only cheap if done on a big scale.

While stimulating us to think about these topics Tullock also gives us an easy-to-understand tour of the major issues in public choice, a field which he has done much to shape over the past forty years.

What's in the book

Chapter 1 of The New Federalist asks the basic question "what do we want out of government?" Tullock explains that we want a government that is responsive to people's desires yet one that also provides services efficiently. These are contradictory aims and later chapters explain the tensions between them.

In Chapter 2 Tullock introduces the Sunshine Mountain Ridge Home Owner's Association, a community to which he refers throughout the book. This private community of homes provides itself with many of the basic services that we are accustomed to believing only a large government can provide. Tullock does not argue that this is the only form of government we need, but instead that we need a mix of different governments. This chapter challenges common notions about what governments can do and points out that they are very flexible and that many of the tasks of higher government can also be taken on by lower forms of government.

Chapter 3 explains what the right size and mix of governments is. Some things should be done by the central government and others should be left to local councils. The projects to be directed by government depend on the economies of scale involved, and upon how different people view the need for those projects. We need large centralized governments only to look after undertakings which it would be too expensive for small governments to look after.

Chapter 4 suggests that governments need not have a geographic monopoly on all aspects of human relations. That is, the same area should have different governments doing different things, none of which is subordinate to the other. This is already a fact of life in most democracies, but Tullock proposes an original twist. He proposes that citizens living in the same community should be allowed to choose which government will guide them in certain areas such as marriage, education, and family relations. Catholics could follow the rules of a Catholic government which administered schools, questions of property, and so on. Jews, Muslims or any other group, be it religious or sociological, should be allowed to govern themselves. The reader's first reaction is one of surprise. What if a Jew and Catholic ran their cars into each other? How would they resolve this dispute if they do not follow the same government? Tullock shows us why the scheme he proposes could work. The advantage of a system of "sociological" governments is that it gives individuals greater choice, and reduces strife between groups.

Chapter 5 explains how democracy, as most people know it, works. Democracy is a mix of trading and ignorance. The trading that goes on in legislatures allows interest groups to help each other out on very different issues. Politicians who represent farming interests will support, say, proposals for inner city building projects, provided inner city politicians support farms subsidies at a later day when subsidies become an issue. The types of deals politicians of differing camps can strike with each other depend on how well ordinary voters are informed about politics. The less informed voters are, the easier it is for small, well-organized interests to trade in government property. Tullock does not pass judgement on whether the activities of interest groups pressuring politicians to make such bargains are on the whole good or bad. Instead he concentrates on understand how different types of government structures will influence the role of interest groups.

Chapter 6 continues the survey of democracy begun in chapter 5. The chapter describes and critiques the many kinds of democratic institutions that have been used in both federal and non-federal states. Tullock asks whether legislators should be paid, and what can be done about the political power of government employees. The chapter goes on to consider what effect the threat of losing office has on the performance of elected officials, how different rules within a democracy affect the powers of various interest groups and the ability of politicians to satisfy the wishes of the majority.

Chapter 7 dispels two myths about modern government: that large organizations are more efficient than small ones, and that the modern world is so complex that large organizations are necessary. Rather than arguing from theory, Tullock makes his point with a fascinating list of real world examples. He reflects on how big government should be in order to be an efficient tax collector, a protector against crime and war, and a supplier of education. He shows that traditional arguments for large government units often have a hidden motive which benefits some special interest group. For example, large school districts with a uniform curriculum and teaching standards give parents nothing to compare their children's teachers against.

Groups will quarrel and have differences no matter whether we have a centralized state or a loose federation of small governments. Chapters 8 and 9 ask how these two different styles of government deal with such conflicts. Tullock explains that conflicts arise because jurisdictions overlap or are not clearly defined. This is an important problem with centralized governments but it also plagues federations of small governments. If governments or departments were organized to deal only with problems in their area, there would be no conflicts and no need to appeal to higher authorities to make decisions on each specific task of government. Tullock explains that even in loose federations we can get overlaps simply because all the functions of government usually cannot fit into the same area. Does the existence of such overlaps mean we need a strong central government? Only if the costs of bargaining and coming to a peaceful solution between neighbouring communities is too high. By discussing many examples Tullock gives the reader a feel for when we need strong central government and when we do not.

Chapter 10 summarizes the main themes of the book and repeats Tullock's thesis that decentralized governments are more efficient and able to adapt to local conditions, and that individual citizens have more control when government is broken down into a number of different units.

A guide to better government

Many people talk about more efficient and more responsive government, but few have given us a practical guide to getting this sort of government. Tullock's easy-to-read book is such a guide.

To reserve your copy of this book, call Beverley Horan at (604) 688-0221, ext. 582. Cost: $19.95.

What shall we do about the Newfoundland problem?

Michael Walker

ON MANY OCCASIONS over the past twenty years I have had the opportunity to discuss the "Newfoundland problem" with the mass media. Usually those with whom I have the discussion disagree with my point of view. It was not surprising, therefore, when I found myself on CBC television the other day engaged in a hot debate with another Newfoundlander, Mr. Earl McCurdy, of the Newfoundland Fishermen's Union.

The recent Newfoundland problem is that the pretext for drawing unemployment insurance is gone, and there is a struggle to determine what can be used to replace it. The pretext I refer to is the Atlantic cod stock. While in myth, song, and on the mainland, the cod stocks are the mainstay of an historic way of life, in reality, the stock is the main prop in the annual drama whereby large segments of Newfoundland communities are cycled through a few real jobs in order to qualify the maximum number of people for unemployment insurance. A twelve week rotation is sufficient to secure pogey for the rest of the year. The problem with this little morality play is that children have been an attentive audience now for two generations. The consequence is the long standing Newfoundland problem of welfare dependency.

What do I mean by that? Well, consider, for example, the fact that half of the 19 year olds in Newfoundland are recipients of Unemployment Insurance. Of these, half have grade nine education or less. These young people are life-prepared only for the dependency cycle. What would make a young person choose such a path? Experience. These people have seen, year after year, their parents or an uncle or an aunt work for a few weeks and then receive pogey. They have also been taught that if their relative didn't get enough "stamps" for real unemployment insurance there was always a training program, or a provincially sponsored "works" program which would boost the total number of "stamps" up to the qualifying level.

This brings us to a consideration of the real Newfoundland problem. It is that unlike other Canadians, Newfoundlanders are apparently incapable of independent thought or unable to take responsibility for their own lives. They require a task force, or a Royal Commission, or a human resources planner to decide for them what they should do with their lives. Unlike the hundreds of thousands of Newfoundlanders of previous generations who have spread out over the world and proved themselves in all manner of challenging circumstances, the current 500,000 who inhabit the province are incapable of deciding for themselves what they should do with their lives.

That is why I periodically find myself in these debates. There is an ongoing consideration of what we are going to do about their problem.

Of course, the real problem, as I once again found myself trying to persuade Mr. McCurdy, is the inability or unwillingness to face the fact that the tragedy of Newfoundland is the welfare dependency syndrome which has been induced by a too generous U.I. and welfare system. Facing that reality would mean that there should be no search for a replacement for the cod stocks as a pretext for U.I. entitlement. It would mean that in considering the current situation that the kindest thing that could be done, for those below fifty years of age, say, is to announce that all support programs will terminate as of a certain date.

Newfoundlanders are no less capable than other Canadians. They must be forced to rely on their capabilities. They must be forced to ask, "what am I going to do about my situation," not, "what is the government going to do next?" Only when such an attitude prevails will there be a possibility of solving "the Newfoundland Problem."

Of course this problem is not manifest just in Newfoundland. It affects other areas of the Maritimes, large segments of the province of Quebec which is the largest pogey recipient, areas of Ontario, and is increasingly prevalent in British Columbia--particularly in connection with the fishery. In fact, it is true that if all of the maritime provinces were to secede, the rest of us would still have eighty-five percent of the social welfare recipients that we have now. Only about fifteen percent of the problem is a Maritime phenomenon.

The not so obvious wealth tax effect

John Robson

IN A DISCUSSION THE OTHER day my colleague Filip Palda summed up the basic rule of taxation: "It it can't move, it gets taxed. If it can move... it gets taxed anyway." In short, everything gets taxed as soon as it occurs to the government to tax it. And one ominous cloud on the horizon of our national and provincial economy is that governments, having apparently pushed both income and consumption taxes about as far as people will tolerate, are starting to think about wealth taxes. After all, citizens' assets are just sitting there, not contributing to any grand national purpose. So why limit oneself to taking a big whack of what they earn? Why not take the big pile of stuff they have?

A variety of answers immediately suggest themselves, such as that government exists for the sake of citizens' private purposes, not the reverse, and that recent history shows unambiguously that higher taxes and bigger government mean worse economic performance.

Unfortunately the purpose of any such argument would be to stop wealth taxes from being implemented, whereas they already have been. For instance, here in B.C. we have a corporate capital tax that is levied on assets, not income or profits or payroll (not that these aren't taxed too). And such formal wealth taxes are bound to increase, unless governments suddenly and unexpectedly join Weight-Watchers.

But in another, more insidious form, wealth taxes are already here, and in a major way. This was driven home to me by a recent Maclean's article that made the point that cars on the road in Canada are now on average almost 8 years old, a post-war record. ^NotePart of this, for instance in B.C. and in Ontario, has to do with changes to the tax code that discourage the sale and purchase of cars in various ways, but part of it has simply to do with the crushing burden of taxes.

The ominous big picture is that individual Canadians are not maintaining their personal wealth, are not covering the ongoing depreciation. This is odd, since our per capita GDP is also at a post-war record, as it is almost every year, a record high. But then, of course, our paycheques go through the shredder called taxation. As a result, as that shredder spits out fewer and fewer scraps back to us each year, money is no longer being set aside, or not nearly as much, to replace the old beater, or put a new roof on the house, or undertake any number of capital improvements many of which are simply combatting depreciation. In other words, not just governments but also citizens are dipping into their capital to meet the current expenses of government. And so long as tax revenues continue to grow faster than the economy, what looks like a tax on income, that is, on your gain over last year, must bite into the component of that income designed to repair wear and tear, and so become a wealth tax. And, of course, all governments are increasingly relying on property taxes--a more obvious assault on wealth.

And if we allow this to continue, it means that when we finally do decide to get our house in order, or we miss our chance and the IMF steps in to do it for us, when citizens are told the party's over and they are being thrown back on their own resources, they will have fewer resources with which to do it.

Every year when we produce our Tax Freedom Day calculations, some smart-alecky commentator will point out that we do get something for our taxes (this person will generally be unaware of the ongoing publication of Government Spending Facts in which we explain to some extent what this is). But we don't just get something, however dubious. We also pay something. And when you count up all the damage that high taxes are doing, all the things we lose, forego, or get in reduced amount or quality, because Leviathan is sitting on our chest, we have to wonder how on earth every four years or so we can be suckered by people who portray government as what Bastiat said 150 years ago it was not, that is, a breast that fills itself with milk and nourishes us bountifully. So every time you see someone suckling on a fat old cheque from Victoria, or Ottawa, or wherever, please see them slurping down new cars, new roofs, renovations to that old bathroom, repairs to the basement, a new suit or dress and all the other things citizens need to replace those that are wearing out. And please ask them, or the politicians, where they will be when the old clunker falls apart, the old roof caves in, or the old suit splits asunder.

The sucklers will be out on the lawn protesting and urging the politicians to milk the suckers further. And the politicians will be in their offices, drafting legislation to impose taxes on wealth, in the mistaken belief that we do not have any.

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Last Modified: Wednesday, October 20, 1999.