EVIDENCE

[Recorded by Electronic Apparatus]

Tuesday, September 19, 1995

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[English]

The Clerk of the Committee: Order.

Honourable members, I see a quorum.

[Translation]

In accordance with paragraph 106(1) and (2) of Standing Orders, the election of a chairman is the first item of business and I am ready to accept motions to that effect.

[English]

Mr. Fewchuk (Selkirk - Red River): I move that Jim Peterson be made the chairman of the committee.

The Clerk: Are there other motions?

Mr. Silye (Calgary Centre): Do we need a seconder?

The Clerk: We don't need a seconder in committee.

Motion agreed to

The Clerk: Mr. Jim Peterson is the chairman.

Some hon. members: Hear, hear!

The Chair: Thank you very much, members, for your confidence. I look forward to working with all of you throughout the next year.

Our next item of business is to elect a vice-chair.

[Translation]

Mr. Discepola (Vaudreuil): I move that Mr. Barry Campbell' name be put forward as a candidate.

The Chair: Is it agreed?

Motion agreed to

[English]

The Chair: Congratulations, Mr. Campbell. You've been elected vice-chairman.

Some hon. members: Hear, hear!

[Translation]

Mr. Brien (Témiscamingue): I move that my colleague, the outstanding and hard working member of Saint-Hyacinthe - Bagot, be maintained as vice-chair of this committee.

The Chair: Is it agreed?

Motion agreed to

The Chair: Congratulations, Mr. Loubier.

[English]

I take it, then, that we may commence our ordinary business.

Welcome back, members. Today we are commencing our order of reference.

Mr. Silye: Mr. Chairman, why can't the Reform Party put forward a name for a vice-chair? Why are we pre-empted from having a vote here for the second vice-chair?

The Chair: I could be wrong, Mr. Silye, but I understand that the Standing Orders provide for one chair and two vice-chairs.

Mr. Silye: That's true. I understand that. I also understand that by the Standing Orders they're elected positions, as well. How can we have an election if we don't even get to...? We don't mind the chair and the vice-chair being from the government. We think that's fair. But in terms of the opposition, why can't we have an election on the opposition? Perhaps there are some Liberal members who would choose to vote otherwise.

The Chair: What are you suggesting? Are you making a motion?

Mr. Silye: I just think, from my experience of having been whip and going around last year, that each committee has different ways of electing the chair and vice-chairs, especially the latter. I believe that after the chair has been picked, which method to adopt and accept is up to them.

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What I would like to see, or would appreciate, is a choice between a Bloc member as a vice-chair for this committee and a Reform Party member as a vice-chair.

I would recommend that they put their name forward and we put our name forward. I would move that Mr. Grubel be the second vice-chair of this committee. Mr. Loubier has been put forward as a second vice-chair of this committee. Then the members of this committee could vote for whomever they liked to have as the second vice-chair. I think that's democratic, it's fair. We would then live by whoever gets voted as second vice-chair. If we have it, then we will not complain any more on this committee for the rest of this year about the election of the second vice-chair.

I have to complain in the House of Commons.

The Chair: On that point, I'm not sure what the Standing Orders provide, because we have already elected the two vice-chairs, but...

Mr. Silye: But I'm objecting to the way it was done, because you didn't give us an opportunity to speak.

The Chair: I understand. In order to respect your point of view, I would be pleased to have a vote on whether the second vice-chair should be Mr. Grubel or Mr. Loubier.

Mr. Silye: Okay.

The Chair: All those in favour of Mr. Loubier? Those opposed?

Mr. Loubier is the second vice-chair.

Thank you very much for your suggestion, Mr. Silye.

Mr. Silye: Thank you, Mr. Chairman.

The Chair: We now commence our pre-budget hearings. Our first witness is Mr. Don Drummond, the Assistant Deputy Minister, Fiscal Policy and Economic Analysis Branch, Department of Finance. Welcome, Mr. Drummond.

Mr. Loubier.

[Translation]

Mr. Loubier (Saint-Hyacinthe - Bagot): Mr. Chairman, I would like to congratulate you on your election. I would like to take this opportunity to propose a motion to the committee which I would like us to vote on immediately, since this motion will be the starting point for the pre-budget consultations. Let me read it out loud, Mr. Chairman.

I move that the members of the Finance Committee ask that the Minister of Finance appear before the committee to explain, within the next few days, his priorities within the framework of the coming pre-budget consultations.

Mr. Chairman, I would like committee members to vote on this motion but first, with your permission, I would like to explain it before a decision is taken.

The Chair: Certainly.

Mr. Loubier: So you agree that we settle the matter today.

The Chair: Yes.

Mr. Loubier: This is the reasoning behind the motion. Last year, unless I'm mistaken, on October 17 and 18, the Minister of Finance officially launched the pre-budget consultations. His first mission was to assess the situation and give us, the members of the Finance Committee, certain benchmarks, regarding the direction the pre-budget consultations should take. So we would have used that opportunity to go back in time and review the state of public finances, how it changed over the years, and to study the general state of the economy in the preceeding year. This year, if we are to believe several sources, including yourself, Mr. Chairman, since you told the Hill Times that you would not call upon the Minister of Finance to testify before the Quebec referendum, and if we are to believe what we were told by the office of the Minister of Finance, that the Minister would not appear before this committee before November 1st or 4th, and if we are to believe what the clerk's office told us, the Minister would not begin his pre-budget consultations at this point in time, as oppose to last year. Given what you said about the absence of the Minister of Finance and given what you said to the Hill Times, I get the impression that you do not want to give the official opposition a forum allowing it to score points in the referendum debate. To which I reply, as I asked the Minister of Finance today, that we want real answers. We want to talk about real issues and real problems. If the Minister of Finance is ashamed of his performance last year which is marked by, among other things, 0% economic growth and 0% job growth in Canada since November 1994; therefore, he is afraid of being confronted with his performance, that's one thing, but we deserve better reasons than those we were given. In any case, Mr. Chairman, in my opinion it is very important that the committee receive answers from the Minister to its many questions, and that the Minister tell us what direction be intends to give the pre-budget consultations, as he did last year.

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He has to tell us what his priorities are, what he intends to do with pension funds, what he intends to do with the pensions of senior Canadians, and why he wants to wait until after the Quebec referendum to provide us with answers.

What does he intend to do with social programs which have already been cut back in the last two years, since he took over as Minister of Finance? What future cuts does he plan to make to social programs? Does he intend to change Canada's student loan policy?

I would have liked to ask these questions of the Finance Minister and to review his performance which, in our opinion, has been very poor in the last year. That is the reasoning underlying my motion, and I am aware that your government is very sensitive to the issue of job creation and economic growth, since we've seen all kinds of publications entitled jobs and economic growth.

I would therefore ask the Minister of Finance, as stated in my motion, to appear before the Committee and answer our questions if he has the courage of his convictions. If he wants to talk about real issues, as the Prime Minister suggested yesterday, that is, about job creation, economic growth and the fight against poverty, he should do so before we begin pre-budget consultations.

I have nothing against the Deputy Minister of Finance, Mr. Chairman, but certain decisions will be taken over the next few weeks. The pre-budget consultations will have certain priorities, and believe the minister should provide us with answers to our questions. He is accountable to the people. He was elected. He should face up to his responsibilities and stop evading them as he has been doing for quite a while by launching trial balloons, right, left and centre, and then disappearing before hearing what people think.

So, that's the purpose of my motion. I hope the members of the Finance Committee wish to hear the answers to the real questions which we must ask of the Minister of Finance, who has not delivered the goods in the last two years, as much as the members of the Official Opposition wish to hear them.

[English]

Mr. Walker (Winnipeg North Centre): I'll keep my remarks equally brief.

We're very happy to have the opportunity to start this consultation process again, on schedule. Last year was a real learning process for all of us, for the minister and for ourselves, about what was required to do the consultations properly. You'll notice that last year our first day of hearings was September 27 with officials - one of those officials is here again today - and we're starting about ten days earlier than we did last year. So I'm very happy that we've been able to present the committee with officials on schedule so that we can begin on these consultations right away.

As does Mr. Loubier, I think all members of the committee have some very important questions to discuss, from job creation to economic growth, and to hear about from a variety of people. As I said, that's why we're starting today.

The minister obviously plays an important part in this process, and last year a lot of time was dedicated to making sure that the perspective of the government was heard not only in this committee but across the country. As the minister indicated in the House today, he is convinced - and I think I would share that conviction - that the country understands the fiscal framework we have to work into and that his own work is now more precise than it was a year ago, and consequently our own work here at the committee is more precise.

It's incumbent upon us to begin the work. The minister will appear, as he did last year, but I think he also would feel strongly that valuable time was lost last year in the close to five weeks that we waited, until after Thanksgiving, for the minister to appear, during which no witnesses were heard.

The interest groups across the country now are much more familiar with what we want to hear from them, the structure of our debate - not only the people making their own presentations but also the round tables we've had.

I think, Mr. Chair, you'll find that the minister will appear and will give us notice. Last year he gave us a couple of weeks' notice. I'm sure that we'll also get a couple of weeks' notice when the government feels that it is prepared to respond to some of the things it has heard from the committee and through the questioning that we'll present.

Mr. Loubier has given us a good list to start with. We have some other questions of our own. But I think the minister will of course appear and will make a contribution to this pre-budget consultation.

[Translation]

The Chair: Mr. Brien, would you like to say something?

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Mr. Brien: Mr. Chairman, I would like to say something since I was involved in the entire process last year. This is the third time we are holding major consultations, and the public will want to see results sooner or later.

The first consultations were on the GST. May I remind you that the GST has not been changed yet and we still don't know what's going to happen. In any case, we studied the issue for a very long time and travelled across Canada.

Last year, we held pre-budget consultations. We made recommendations, but people aren't sure they really have had any influence. This year again, we are undertaking another consultation process and the minister isn't even showing up to give us the broad outline.

The minister did come last year. You probably remember the TV screens. It was a big show. For starters, he talked about his three year estimates and scenarios. Time flies, but we still don't know what his objective is. Where does he want to go after his 3% of GDP deficit we heard about so often?

What will people do? Were are we going? What's the objective? Nobody knows. All we hear are generalities like improving finances and creating jobs. There are no specific guidelines and nothing about what the consultations will deal with. We don't know which items the minister will be making more specific or more important recommendations about and, at the end of the day, we could waste a lot of time with this consultation.

Last year, the minister even suggested questions for us to ask the witnesses appearing before us but this year we have no starting point. We're told: here is our framework. The people coming before us will just say: I'm coming here to talk to you about public finances in general because the minister said he was consulting; so I'm here to tell you what, in my opinion, is good or not. People might contribute far more significantly if they felt we were going in a concrete direction.

In my opinion, it has to start with the minister coming here to express his point of view, tell us what conditions exist at the present time, is, what he is expecting and where there might be zones of possible influence. If we don't start with that, we're wasting our time, we'll be marking time and we're going to have to make a lot of adjustments in the area of participation. November is coming up soon and we won't have much time because decisions have to be made around the end of November. So there is a very important problem of coordination right there.

The object of the motion is to have the minister appear soon. I'm not asking you to have him here in the next 15 minutes, but some time in the next few days. I would hope the Liberal member of this committee - you all have that power - will vote to have the minister appear. You have the power to do that. You don't have to ask for his permission. I'm sure he won't mind if you vote with us on that motion.

[English]

The Chair: Mr. Campbell.

Mr. Campbell (St. Paul's): Thank you, Mr. Chairman. We all look forward to the minister coming before the committee to continue his appearances, but I suggest it is premature to have him at this time, or even in the next few days. I look forward, as I'm sure my colleagues do, to the presentation by officials today, because there is a great deal of background information we need to have to make the most out of the minister's appearance. It would seem to me to be a waste of our time, and indeed the minister's time, to go through some of the detail officials are prepared to walk us through...to do that with the minister. We need to prepare the groundwork so we can take advantage of the time we have, and the minister has, and make the most of it.

I've just been glancing through this - I hope officials will permit me - in advance of their presentation, and there's a lot of very useful information here. It will set the stage for those discussions in due course. It doesn't hinder us in our work. Indeed, it gets us right into our work.

I would suggest we proceed as planned, Mr. Chairman, and get right into this. There's lots of work to do.

The Chair: Thank you, Mr. Campbell. Ms Stewart.

Mrs. Stewart (Brant): Thank you, Chair. I was just going to say I find it interesting that the member talks about his history with the consultations and doesn't remember that last year in fact we did start with representations from the Department of Finance as background and information, and we all felt at that time that was quite appropriate.

The other thing I'd point out is I don't view that our committee takes its direction solely from the Minister of Finance. We're a committee of the House of Commons and we are, through these consultations, providing advice to the minister. We're listening to Canadians. If we go in and say this is the structure we want, Canadians aren't going to listen to that. They want to tell us to tell the minister what they feel and what they believe, and quite frankly, that's the appropriate direction. We'll hear the minister as a witness. He'll give us his perspective and tell us where he thinks he's come out, given the last couple of budgets. But we're the committee. We are consulting to provide information to the minister. From that point of view, I think our strategy and our direction here are appropriate.

The Chair: Thank you, Ms Stewart. Mr. Loubier.

[Translation]

Mr. Loubier: Mr. Chairman, I'd like to say a word because I'm not going to dwell on this much longer.

I can tell you one thing. Last year, let's do away with the fairy tales - the consultation process got underway on October 17 and 18. The minister of Finance appeared before us; he described the state of the economy and of our public finances and gave us guidelines for our consultations during the following weeks.

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This year, the Minister - and you said so yourself, Mr. Peterson, in a statement you made to the press - won't be there before the referendum because you don't want us to talk about real problems here. You don't want us to go back and look at the performance of this Minister or at economic growth or job creation. You don't want him to indicate the direction he wants to take in the area of public finance management and the design of the next budget. I think that's too bad.

Contrary to what the Parliamentary Secretary, Mr. Walker was saying before, if people know where the Minister is going, if people know the guidelines the Minister gave us last year, why do we want to consult them? Why hold consultations if they know what the Minister wants and the direction he's dragging us into in the area of public finance management? Just ask yourselves. Don't take people for fools. If you already know where you're going, why consult us?

Second, we elected responsible people. I have nothing against the Deputy Minister as I was saying before. I have nothing against him, but he is not accountable to anyone. We're going in a direction where very hard decisions have to be made to regain control of public finance management and the Deputy Minister is going to dictate the direction we'll be taking for pre-budget consultations.

Last year, we started off by meeting the Minister of Finance who indicated what direction he wanted to take and he also guided us through this consultation. He even suggested three questions we should put to our witnesses. Don't treat us like fools.

[English]

The Chair: Mr. Loubier, if you will look at our record of last year, we started the pre-budget consultations on September 27, 1994 with the Department of Finance, Mr. DeVries and Robert Henry. It was not in the first week or on October 11 that the minister appeared before us; it was on the 17th and 18th. So we are not changing the pattern we had developed last year. As a matter of fact, we're respecting that same pattern.

Could we have a vote? All those in favour of the motion?

[Translation]

Mr. Loubier: Hang on a second! I have certain rights as a parliamentarian. The motion is there.

The Chair: You can do anything you want.

Mr. Loubier: Hang on a second! You've put a bit of a spin on reality.

Last year, we had technical meetings with the senior officials. The official launch of pre-budget consultations was done during the showmanship appearance, the one-man show the Minister of Finance put on. That's when the real launch happened and that's when we were able to start our pre-budget consultations.

Today you yourself are telling us as Chairman of the Finance Committee that he won't appear on the 16th or 17th or the 18th of this year but after the Quebec referendum. Are you denying you said that, Mr. Chairman?

The Chair: No, I'm not denying it.

Mr. Loubier: You're not denying what you said. The Minister of Finance said today that if the members of the Finance Committee decide he must appear and when he must appear, he'll go with that. He said it during a scrum.

I can see you're looking at your watch, but I don't mind. What problem is there with the members of the Finance Committee asking the Minister of Finance to appear here and explain the difference between last year's objectives and today's results? There was no job creation and our economic growth was zero. He has to come and explain those things and answer our questions about his intentions and his ideas for the next budget. That's all I'm asking you for, Mr. Chairman.

We can debate dots and titles, but last year the process was put in motion with the statements of the main person responsible for finance policy and that's the Minister of Finance and I don't see why it would have to be different this year for reasons other than those you are advancing. Maybe the Minister doesn't want us to talk about the real problems here. Maybe he is afraid we might talk a bit too much about Quebec's political and constitutional future, but I'd remind you that its future is also linked to yours. Those are the real problems.

[English]

The Chair: Mr. Harper, we welcome you to our committee.

Mr. Harper (Calgary West): Thank you, Mr. Chairman. I will be brief.

We seem to have a bureaucratic shuffle here. I read in the paper that the minister said that he didn't want to impose himself on the committee, and now apparently Liberal members of the committee are saying that they don't want to impose themselves on the Minister of Finance. So I guess he or the government doesn't want him to come here, for some reason or another.

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I would suggest that this is a very reasonable motion to have the Minister of Finance tell us where he intends to take the framework of the next pre-budgetary consultation.

This is one of the reasons, we were told, why we're back here. This is one of the pressing issues that the government tells us it wants Canadians to see it addressing, so I support this motion.

[Translation]

Mr. Loubier: I request a recorded vote, Mr. Chairman.

[English]

Motion negatived

The Chair: May we now commence our difficult and critical and important task of ourselves as a finance committee undertaking the pre-budget discussion so that, having consulted Canadians from coast to coast, from all strata of society, we will be in a position to recommend to the Minister of Finance what he should put in his budget next February.

That is the difficult task we undertook last year. I suggest that we had some degree of success, because our consultations resulted in a study that was probably at least 90% accepted by the minister in his budget. I know that if we work with the same degree of dedication this year, then we will have that type of important impact in these difficult times.

Our first witnesses kicking off our pre-budget consultations are from the Department of Finance, as last year: Mr. Peter DeVries and Mr. Don Drummond.

Welcome, gentlemen. Thank you for being with us. Do you have a presentation before we start our questions?

Mr. Don Drummond (Assistant Deputy Minister, Fiscal Policy and Economic Analysis Branch, Department of Finance): Yes, I do, Mr. Chairman. I hope a copy has been distributed to everyone. It's entitled ``Structure and Evolution of Federal Expenditures and Revenues''.

I'm in your hands, Mr. Chairman, and those of the committee, as to whether you would like me to proceed through the presentation or, certainly, take any questions of clarification as I go along.

The Chair: Why don't you just very quickly do that.

Mr. Drummond: Okay.

Last year one of the important pieces of background you used for your deliberations was the so-called ``grey book'', which gave a snapshot of the structure of federal spending and revenue. It was pretty much literally that, a snapshot. It tended to focus on spending and revenues in 1994 and 1995. Of course, subsequent to that we had the February 1995 budget, which not only changed the level of spending but also quite dramatically changed the structure of spending.

So I want to go through with you a little bit of, again, background to your deliberations on how the structure of spending has changed. I thought you also might find it relevant to your deliberations to look at that in a bit of a longer-term perspective, rather than look at just the coming three years.

If I could begin to recall for you the targets that were put out in the 1995 budget - and that was a deficit of $32.7 billion in 1995-96 and $24.3 billion in 1996-97, the latter representing 3% of our gross domestic product - I tend to think of certain striking features of the 1995 budget.

The first one that made it really unique, certainly in the history of Canadian budgeting, was that it was the first time we actually lowered the level of program spending. Many budgets have been introduced in Canada before that described spending cuts, and what they were quite literally doing was slowing the positive growth rate of spending. For the first time, in the 1995 budget the actual level of spending was reduced, and that has a lot of implications, as you will see when I shall come back in a moment to the various different levels.

It was not reduced across the board, as you well know. There were deliberations for the program review, and in accordance with various different priorities certain areas were cut much more deeply than others.

It also incorporated into the budget the parameters and certainly the principles for some upcoming reforms of the major statutory programs, including elderly benefits and unemployment insurance. An important feature of it was that it did not include any personal and corporate tax rate increases.

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Page 4 shows you how the federal deficit has evolved in the context of the targets that were put out. I'll just go to the fairly recent years.

The deficit in 1993 was about 6% of the gross domestic product. So the target set on a fairly steady downward trend to the objective of 3% by 1996-97. So there is roughly one percentage point of GDP reduction per year.

In Canada, as you know, our problem is not just with the flows on the fiscal side; i.e., the deficit. We also have a stock problem in which we've had a fairly major build-up of debt. So it's important to look at the debt side as well.

Achieving the 3% deficit target by 1996-97 will, by a fairly small magnitude, reduce the ratio of debt to GDP. It roughly stabilizes it in 1995-96, and then it will start it on a downward path.

It's important, particularly as we evolve toward more international financial markets, to look at how our fiscal position has stacked up relative to those of other countries, and this is what I want to turn to now.

One thing that makes it a little bit different is that a number of countries tend to use a different fiscal measurement. We tend to focus on the budgetary deficit in Canada. Many other countries - for example, the United States and the United Kingdom - use a concept that is equivalent to our financial requirements, which is lower than our deficit, but, because it includes the current surpluses in our public service superannuation account, the equivalent of our 3% deficit target, if we were to measure the deficit in the way the United States does, there's a 1.7% deficit.

So if you can imagine our being in the United States right now, we would be thinking about heading toward a 1.7% deficit rather than a 3% deficit. If you look at the budgets of all the G-7 economies that have been delivered in the last year, that is, by a fairly substantial margin, the lowest objective of those of any of those countries.

So the story is, on a flows basis, on a deficit or financial requirements basis, vis-à-vis other countries, that we are getting a fiscal improvement at a fairly rapid pace.

The story has lagged a little bit on the debt side, of course, because we've had a more prominent build-up in debt. I've shown you on page 7 how our debt-to-GDP ratio compares to those of other countries. To avoid any problems of accountability, I've done it just using Canada's debt-to-GDP ratio as an index of 100 and shown how other countries compare with us. You'll see that we are, by a substantial margin, above the G-7 average, and in fact above each of the G-7 economies with the exception of that of Italy, which is well above ours.

If I can move from the deficit and the debt side to the evolution and composition of program spending, I'm going to focus my remarks on program spending, which no doubt is where you're going to focus your deliberations, because there's very little discretion about what we can do on the public charges. They're what are due based upon our prior debt build-up. I'll just provide you with a context of that.

There was a time when talking to you about program spending would have meant that I was literally speaking to you about the total budgetary expenditure. Unfortunately, that is no longer the case. If we go back 20 years, 90% of what the government spent went on programs and only 10% went on interest on the public debt. That has shifted fairly remarkably to where 70% of our spending now is for programs and 30% is interest on the public debt. It's on that 70% that I'm going to turn my focus now.

Before coming to Canada, where do we stand vis-à-vis other countries? There are two things that are interesting in this chart. First, our spending levels are relatively high compared to the G-7 average if you look at the total spending; that is, program spending plus public debt charges. If you look at it at one layer below that, then you can see where we are standing out as being relatively high, again with the exception of Italy, because we have high interest on the public debt.

Our program spending is not out of line with the G-7 average. Particularly relevant, of course, when one does these international comparisons, is where we are vis-à-vis the United States. They are, after all, our closest physical neighbour and certainly our closest in terms of being on a competitive basis. You'll see there that our program spending is somewhat higher, but, as I pointed out on the next chart, to a large degree that is because we have a higher public sector involvement in both health and education. Our expenditures from the public sector on those two areas vis-à-vis the United States are a little bit more than three percentage points of GDP higher.

I will skip to page 13. I should have prefaced that all the numbers I show on an international comparison are for the total government sector, i.e., the federal government plus the combination of the provinces. With a different set of relative roles between federal and state governments in other countries, it's not really relevant to compare it for one jurisdiction alone.

Now I'm turning to the federal program spending. This shows a long-run evolution of federal program spending relative to the size of the economy. You can see that we hit a peak in the mid-1970s.

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One thing I'll explain right now, because it comes up in a couple of different places. In 1977-78 the federal government made a major shift in its transfers to the provinces, which granted additional tax points to the provinces and correspondingly lowered the program spending. So in a number of these charts you'll see a bit of a break in 1977-78. Aside from that break, you'll see that we hit a peak of the federal government sector relative to the economy in the mid-1970s, and then again in the mid-1980s, and it has been dropping off very sharply since then.

If you will cast your eye to the very right, you'll see that in 1996-97 the federal government relative to the economy is back to where it was in the 1950s, i.e., about 45 years ago.

We will also have lower federal program spending in Canada than in the United States, as page 14 points out: 16.2% versus 17.2%. Again, on an international basis the objective of financial requirements of 1.7% is the lowest. We are also unique in the sense that we're the only country that's budgeting an absolute decline in program spending. I'm not referring here just to a decline relative to the size of the economy, but to an absolute decline in the dollar level, from $120 billion to about $108 billion.

There is another perspective on program spending. I've looked at it relative to the GDP. You might argue that it's not always necessary that the federal government should grow in step with the nominal growth in the economy. If you look at how much the federal government spends per person - and I'm using this in constant dollars or real dollars in order not to get an inflation effect mixed in here - you'll see that there was a growth trend in federal spending until the mid-1980s. That too has been declining very rapidly, particularly with the budgets of three years setting that on a very prominent downward course.

I'll now move from the total level of program spending to the composition of program spending. We really have three blocks of spending. There are the transfers we give to persons, transfers to other levels of government, predominantly the provinces, and then what I'm calling for the moment an aggregate of departmental spending. In a moment I'll look inside each of these boxes in a little bit more detail.

There have been some interesting trends. You'll see that total program spending has been shifting progressively to the major transfers to persons. It has been fairly stable, with a minor increase in the transfers to other levels of government over the last ten years but a fairly prominent drop relative to the total in our departmental spending.

I'll now say a few remarks on the major transfers to persons, which consist of elderly benefits and unemployment insurance, and there are a number of supports built into the tax system that go to individuals.

I'll start with retirement income, which is the major component. That of course includes the old age security, the guaranteed income supplement, and the spousal allowance, and also the age credit and pension income credit on the tax side, for a total of $22.3 billion. In the retirement income system, of course, is the facilitation the government gives to individuals to save for their own retirement, and you can see the amounts there, which are the combination of the deductibility of contributions to your pension plans and non-taxation of the investment income that builds in those plans minus the income that comes out when the plans are withdrawn.

I mentioned just a moment ago that relative to total spending the government has been shifting its allocation towards the transfers to persons, predominantly because of the increase in the old age security payments. If you will look at page 19, in the mid-1960s old age security was 1.6% of GDP. That has risen by a full percentage point, to 2.6%, on a fairly steady upward trend.

If we look at that from a different perspective, what portion of the federal government's resources are going to the elderly benefits, you'll see that that also has been on a prominent upward trend. In the mid-1960s, 13% of program spending was allocated to elderly benefits, and that's now up to 20%. As I'm sure you're familiar with, looking at any of the demographic projections on a status quo policy basis, that will continue to go up.

Looking behind the detail, though, I'll pass up a few relevant factors, I think, for consideration of elderly benefits. That's how they're distributed across income.

One sign of this is that of course elderly benefits are taxable and there's a special tax rate that applies on an individual income basis that's now set roughly above $53,000. So an individual gets taxed on income above $53,000, so the old age security is taxed back entirely by $84,000. That brings in $400 million for the federal government. It's often believed that it's more than that, but it's about $400 million.

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If you look at the income distribution of the elderly benefit, 40% of what I referred to as the $20 billion goes to people who receive the guaranteed income supplement. That's on a single basis to a person earning less than $16,000 and for a couple earning less than $26,000. Seventy percent of elderly benefits would go to households with $30,000 or less of income.

The other major component of the transfers to persons is the unemployment insurance benefit. Again, you will see, until quite recently, a fairly strong upward trend, and there's no doubt that was connected with the liberalization of the program in the early 1970s, but it's also a trend increase in the unemployment rate that we've seen since the 1960s. You also see a fairly sharp downward path at the end. I'll come to what has been leading to that in a moment.

Looking at it in the same way I presented on the elderly, you can also see that there's been an increased allocation of federal government resources towards unemployment insurance. I've referred to this downward path at the end, why unemployment insurance benefits are coming down. Part of it is the strengthening of the economy, but that is just one part of it. The more fundamental reason is there has been a successive series of reforms in unemployment insurance benefits, and that started in December 1992. There was even a further step in the February 1994 budget. You will recall that there was a commitment to further reform the UI benefits that was given in the February 1995 budget. So we'll see those even above the improvements in the economy. We'll see the allocation towards unemployment insurance benefits coming down.

On the tax side there's some major support, the largest being the child tax benefit. I mention that in particular because for many purposes it is very similar to an expenditure program, which would give support to lower income families with children. There's the married credit, the low-income GST credit, and an item I won't comment on because I think the committee looked at that quite a bit last year, the non-taxation of private health plans and workers' compensation payments.

So when looking at the total support for individuals that is provided by the government, one really needs to look at the tax side as well.

I'll move now to the transfers to other levels of government, which involves three major programs: equalization, what used to be established programs financing, and the Canada Assistance Plan. These are now being combined in the Canada health and social transfer and the transfers to territories.

The transfers to other levels of government are comprised of two different components. There's a cash grant and a tax point transfer. Looking at the total, you get what is called entitlement, and you can see until recent years that was held fairly stable at about 5% of the economy. Don't misinterpret that to mean that they haven't been growing. That means exactly the opposite. They've been growing with the pace of growth at a nominal size of the economy. With the budget initiatives, that will tail down at the end for both an entitlement basis and on a cash basis.

In terms of what's in this envelope, you can see - I will now call it the Canada health and social transfer, which amalgamates the two previous transfers - $29.4 billion, the total entitlement, which is split between $17.3 billion of cash and a tax point transfer at 12.1 billion.

There are equalization payments, which at the moment go to seven provinces, of $8.5 billion; transfers to the territories are at $1.2 billion. That brings the total federal government involvement in transfers to other levels of government to $39.1 billion, cash alone being $27 billion. This is obviously a very substantial portion of roughly $120 billion of program spending.

On page 27 I set out some of the highlights of what happened in this area in the budget in terms of the entitlements going down from $29 billion in 1993-94 to $25.1 billion in 1997-98, with the cash falling as well. In the context of that cash falling, you may have seen references since the budget to a commitment on the part of the government to stabilize the cash transfers in the future.

Equalization payments, although assessed on a fairly complex formula, tend to grow and pay for the nominal size of the economy. That's how it was projected in the budget. It's renewed every five years, with the last renewal beginning in 1994-95. So that is set for a number of years into the future.

I got a little bit ahead here. I said the territorial financing was renewed as of April 1, but an agreement is going to be signed very shortly on that to renew it on the basis of a reduction in entitlement beginning in 1996-97.

I'm just taking the rest of program spending as a block right now. What I'm calling departmental spending here in aggregate is total program spending less the transfers to individuals. It is what the Department of Finance, Human Resources, all of those departments, would spend, other than on those direct transfers.

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In here you can see a downward trend that is fairly prominent relative to the size of the economy. It bounced around 9% to 10% from the mid-1960s until the mid-1980s, but it has come down very sharply since and is set on a sharp downward trend through the actions in the 1995 budget.

If you will look at our relative program spending, you will see that in the mid-1960s departments used to spend about 65% of all program spending, relative to only 35% on the transfer payments. That balance has changed rather remarkably, and departments now account for just over 40% of the total spending, whereas almost 60% of it is going to the transfers.

On page 31 I've aggregated the departments into their sphere of influence on the economy and on society, in part to cut down on the details and present a bit of a picture. I've given you three points to see how the trends are in the various different spendings. Certainly one of the most prominent evolutions you'll see is in the natural resource sector.

To clarify what these are, they are taking the shares of departmental spending. So these columns add up to 100%. To clarify, in 1984-85 natural resources spending accounted for 18.9% of total program spending. Of course that was the last full year of the national energy program, and that is down to 7.9%. It was already down through 1994-95, and the budget sets it on a further downward track.

Transportation is another area where there have been dramatic changes in the evolution of government involvement. The government is really shifting from being a direct provider of transportation to being a policy-regulatory authority. Relative to total departmental spending, the contribution is down to almost one-third of what it was just ten years ago.

Industry and regional was an area that from 1984 to 1994 was increasingly taking the departmental allocation, but with the budget it also has been put on a downward track.

You can see that social spending is on a fairly prominent upward track. This includes larger departments such as Health, Human Resources, Indian Affairs and Northern Development, and Canada Mortgage and Housing Corporation.

Heritage is roughly flat; Justice and Corrections have been on a fairly prominent upward trend; Foreign Affairs and international assistance had been on a strong upward trend, but roughly flattened out with the actions in the 1995 budget; Defence is increasing somewhat in its share; and the share for general government services had been increasing, but roughly flattened out by the 1995 budget.

Page 32 provides a bit of a different perspective on that. I've looked at the percentage reductions in these program spending areas from 1994-95 to 1997-98. For your information, the average is just below 20%. So you can see that, relative to the average, the largest cuts came in the natural resources, transportation, and industry areas and the relatively lighter cuts came in the justice and social programs areas.

I would like to go to a different set of aggregations. Page 33 looks on it on a departmental basis. As you can see, I have arrayed this from the smallest amount of reduction from 1994-95 to 1997-98 to the largest amount of reduction. One stands out as being unique. The only area in which spending will be growing after the February 1995 budget over the next three years is in the Indians Affairs and Northern Development area. Every other department is going to see a shrinking of its budget. I emphasize again that this is not relative to the total spending; this is not relative to the size of the economy; there will be a shrinking in the level of spending in actual dollars.

Certainly for some, like the Department of Industry and regional agencies, it is pretty dramatic. Over three years it is almost a 70% reduction in the budgets they will have.

If you wanted to see the actual dollar amounts that went with that chart, I will leave page 34 for your reference point, but that really just provides the same information.

I would like briefly to go through each of these areas and point out some of the particular evolutions in them. I will start with the economic departments.

What stands out to me as a main feature of the budget was a very large-scale reduction in the subsidies to business. It would have to be one of the major themes of the budget. In fact, between 1994-95 and 1997-98, in just three years, the business subsidies will be cut by 60%. You can see those reductions on page 36, starting with total grants and contributions going in the form of business subsidies of $3.8 billion in 1994-95, cut to $1.5 billion in 1997-98.

In all areas, some of them more than others, certainly transportation with virtually the elimination of the subsidies, as I mentioned, moving from a provider of transportation to a policy regulatory authority has brought that down very sharply.

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Energy, again, virtually came down to zero. With the end of the granting to Hibernia, very little will be left there.

What is left is predominantly in Agriculture. That's about 60% of the total. It's basically the safety net programs and the dairy subsidies.

Just as I have mentioned about transfers to persons, there is federal government support in the economic development area through the tax structure. I have listed some of the major tax expenditures. Certainly by far the biggest one is the small business tax rate, which for your first $200,000 of income takes the tax rate from 28% down to 12%. I won't go through the rest of them. You can see there are a number of what I would call tax expenditures... others at the bottom, which are more like a tax deferral, in the sense that that money does come in but at a later point.

In the social departments, certainly the largest and the one that, as I pointed out, was unique in the sense that it was the only one with a growing budget is aboriginal spending. If you have an opportunity at some point to look at the tables, you will see the level of spending was $3.7 billion in 1994-95. That is the Department of Indian Affairs and Northern Development. If we look at the total support for aboriginals, it is in fact a little more than $5 billion, because other departments are involved in this area as well.

Although it is still growing, it is another area in which the growth was slowed in the budget. It had been growing at a pace of about 8% a year over the last decade. The budget set the growth rates for the next three years at 6%, 3%, and 3% respectively.

CMHC has the second-largest budget in this area. It is declining from $2.1 billion to about $1.9 billion.

You have to be a little careful in the interpretation of CMHC's budget. It looks like a large budget, but I would point out to you that virtually all of their budget - in fact, 98% of it - is subsidies on mortgages that are associated with existing social housing. In fact, with the budget levels that have been set, particularly with the declining level of the budget, virtually no budget has been allocated for new social housing.

You may recall that with the structure of CMHC in the past, when they were involved in a social housing unit there was a commitment to thirty years of subsidies. We are now seeing the tail-end of that. When some of those come due and are not renewed, that budget will go down. But it's largely locked in from the existing social housing we have.

Veterans Affairs, you will see, is on a slight downward trend right now. Of course that trend will evolve as the population of veterans ages.

Human Resources is the next largest, administering the UI program and the various different programs, such as the Canadian Jobs Strategy.

The defence department is almost one-quarter of that entire departmental spending. It also is coming down fairly sharply relative to the total of the economy. It had been coming down since the late 1980s. This budget set it on a more sharply declining track.

Similarly, international assistance had been 0.4% of GDP in the second half of the 1980s. It is heading down to 0.3%. That is still above the average of the G-7 economies, however.

On general government services, what looks like a fairly large block of money... I should just spend a moment to show you what's in that. That is going from almost $5 billion down to $4 billion, the largest chunk of that being for Revenue Canada, with a budget of almost $2 billion. Relative to other budgets, that tends to look fairly large, but I point out that is the department that does collect $133 billion of revenues for us, so obviously it is performing a very vital function.

Public Works Canada has a budget of $1.9 billion. It is going down to $1.5 billion, a good part of that being facilitated by the cutbacks in other areas of government, because about 60% of its budget is for real property management; in other words, the accommodation needs of the federal government. Of course, with the downsizing in other departments, those needs will decline over time.

I'll finish up on the revenue side. You can see on page 44 it shows the total budgetary revenues of the federal government relative to the size of the economy. Again, I should caution you. Looking right across, we have to keep in mind that, again, there was an additional transfer of tax points to the provinces in 1977-78. After that there has been a slight increase in the revenue-to-GDP ratio, and it obviously has a cyclical pattern, but it is more or less 16% to 17% of GDP.

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Page 45 shows the composition of how the government collects its revenues. I'll start at the top. You can see there's been a bit of a trend of increase, certainly until quite recently, in the composition of revenues coming from the personal income tax system. Sales tax revenues have been fairly flat over the last fifteen years in their contribution to total revenues.

Corporate income tax has a downward trend. In a moment I'll explain why that has occurred. Non-tax revenues have been fairly flat as well.

The reason I want to clarify this is that looking at this type of graph has led to a misinterpretation - I've seen it a number of times - that the government is increasingly relying upon personal income taxes, raising those tax rates and increasingly having less of a reliance on corporate income tax.

If you look at the next chart, it provides a bit of a different perspective on that. Of course corporate income taxes are levied on corporate profits, they're not levied on GDP. Personal income tax is levied on personal income, not total GDP. If you look at the corporate income tax relative to corporate before-tax profit, which is the base for that tax, in fact you'll see there's been a bit of an increase recently. Most notably that came in the late 1980s, with the introduction of some tax measures such as the large corporation tax.

You can see in the personal income tax field there's been a slight increase as against the early 1980s, but roughly over the last seven years, more or less, it's been fairly stable relative to the personal tax. So in a sense it has not been an increase in the effective taxation in that area.

I'll close on another international comparison. Again, in the international comparisons I'm looking at the total government sector, so this involves the provinces and the municipalities as well.

You can see we're a little above the total tax burden for an average of the G-7 economies. Certainly we are below some of the European countries, Italy, Germany, and France in particular. You can see we're somewhat above the U.S., but again, we always have to keep in mind that we have about 3 percentage points of GDP in an additional public sector contribution to the health and education system. Obviously that has to be financed. In part, you see here how that is financed. It's financed by a somewhat higher tax burden.

How does the composition of tax revenue look? To save you trying to look at all the boxes on the bottom and figure out how to read this.... The black part is the personal income tax. On top of that are social security contributions, which are basically payroll taxes, in our case unemployment insurance and Canada Pension Plan. There's the corporate income tax. Then there are indirect taxes, which include property taxes.

Where we are in the G-7 economies is we're similar in our reliance on the personal income tax system and we have much less reliance on the social security contributions. We are similar in the total for indirect taxes, including property taxes, but that's a little misleading. If you look one layer below that, you'll see we are fairly light in our reliance on indirect taxes and quite heavy in our reliance on property taxes.

I point that out in particular because it is relevant to a debate one hears quite often on the fiscal side, about whether Canada should have an inheritance tax. Countries that do have an inheritance tax basically get their revenues from real property. We already, as the chart will show if I show the property tax, have very heavy taxation on the property level - not, of course, from the federal level, but from the provinces.

Mr. Chairman, that concludes my presentation.

The Chair: Thank you very much for a very comprehensive overview of our economy.

[Translation]

Mr. Loubier would you like to be the first to ask a question, or will it be Mr. Laurin's turn?

Mr. Loubier: I leave it to Mr. Laurin.

The Chair: I would first to welcome back all the members, in particular Mr. Loubier, who used to be a member of the committee. Mr. Laurin, you were not a permanent member.

[English]

We also welcome back Mr. Grubel.

Mr. Silye, you were a stellar member of committees for many months and we welcome you back.

Mr. Harper, you're replacing Mr. Speaker. Mr. Speaker rendered distinguished service to our committee. We wish him well in his new job. We welcome you.

And of course all of the Liberal members are returned. For this I'm extremely grateful. They are a great group of people.

[Translation]

Mr. Laurin.

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Mr. Laurin (Joliette): Mr. Chairman, given that I have only one short question, if I may I would like to give the rest of my time to my colleague, Mr. Loubier.

The Chair: Certainly.

Mr. Laurin: Thank you.

Mr. Deputy Minister, we see on pages 17 and 18 that unemployment insurance is considered as a transfer to persons which is accounted for in retirement income. Is not unemployment insurance a resource paid by the employer to the employee? How can the government include it in its transfers and retirement income? Why is it included in government accounting, given that there is no contribution by the government?

Mr. Drummond: Since 1986, the Unemployment Insurance Program has been included in the accounts of the government of Canada. Before 1986, it was a variable in the Budget. Now, this revenue is included in budget revenue, as I have shown here at the end, and program expenditures are included in government expenditures. It is true that the program is paid for by employees and employers.

Mr. Laurin: Given that the Unemployment Insurance Account is no longer in a deficit position and even has a surplus of 4 or $5 billion, do you not think that including it in the accounts distorts government figures and wrongly suggests that the deficit is higher than it in fact is?

Mr. Drummond: At present, the account is almost in balance. There was a $6 billion deficit at the end of 1993. You referred to a surplus of 4 to $5 billion. We are not there yet. Perhaps we will be in two years. But this is not the case at present. At present, the situation is simply that that account is in balance.

The reason why it is included in the deficit is that when there is a deficit in the account, the government lends money to it. When there is a surplus, the government borrows money from the account. This impacts on the financial requirements of the government.

Mr. Laurin: Thank you.

Mr. Loubier: When I read the breakdown of federal government revenue, there is something which strikes me on one or two of the charts: namely the share business contributes to the federal tax base. The table on page 45 shows that personal income tax represents over 9% of GDP, whereas the corresponding figure for corporations is 1 to 1.5%. If find that striking. I am also looking at effective tax rates for corporations. On page 46, you stop at 1992-1993 and I wonder why. The effective rate was approximately 23% in 1993. I wonder whether today it might be approximately 20% or perhaps even lower than 20%.

I would have like the minister to be here today because I don't see in the document any concern expressed about corporate taxes, something which is being criticized in many circles. People have the impression that corporations are not doing their share, that they are not making the contribution expected of them to the federal tax base.

Until 1987, your department published some very interesting information, but you have not published it since then. People have been asking you for two years now, to start publishing it again. You have been asked for the figures, which you published until 1987, on profit-making corporations which do not pay any taxes every year.

So as to refresh your memory regarding your own figures, I would point out that in 1987 Canadian corporations made $27 billion in profits without paying any taxes. We do not have the figure for following years, because you stopped publishing that information.

Furthermore, your presentation made no reference to any intention to deal with corporation tax loopholes. Once again, I would have liked the Minister of Finance, to be there to inform us that this subject should perhaps be studied by our committee. We have been talking, for example, about tax havens for two years. Many people are tired of hearing about them, but we go on talking about them because the issue has not been resolved.

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There is some very impressive contained in a study recently published by Michel Bernard, Léo-Paul Lauzon and Martin Poirier. In their discussion of tax havens, they point out for example that Bermuda has 60,000 inhabitants but 9,500 companies located there, 1,300 of which are in the insurance sector. The authors indicate that on a per capita basis, the people living in Bermuda are the most heavily insured in the world. The Cayman Islands have 30,000 inhabitants and 28,000 corporations. Nevertheless, we continue to have reciprocal tax agreements, although these countries have corporate tax rates of approximately 2%.

My question is to the Assistant Deputy Minister, but I would have liked to put it to someone accountable to the Canadian electorate. Does the Department of Finance intend to move quickly to consider what can be done so as to achieve a more equitable contribution to the federal tax base by corporations on the one hand and tax payers on the other, who are being gouged every year by direct and indirect tax increases. And I include here the money being taken out of the Unemployment Insurance Account by the federal government. Do you have any plans in this regard? Can you inform your minister, if you ever see him because we no longer do, of the imbalance or unfairness between the corporate and personal tax systems and also of the existence of these tax havens?

Mr. Drummond: I will start by referring to the portion of total tax revenue represented by corporate income tax, that is on page 48. It could be argued that corporate income tax in Canada is very large in comparison with the G-7 and the United States. That is a very important point for us. It is always difficult when the average corporate tax rate in Canada is far higher than in the United States, because several corporations can report their profits in the United States and their losses in Canada. If such a situation were allowed to develop, we would lose revenue. Whenever the tax rate is changed, we are very careful to ensure that Canadian and U.S. corporate tax rates remain equivalent.

As regards effective corporate rates, compared with personal income tax, we can see from page 46 that the corporate rate is higher than the personal rate.

One of the reasons why it is difficult to interpret the charts concerning corporations and to determine whether a company is not paying any tax, is that a corporation may make a profit one year but if it has incurred losses over a five year period, it enjoys sufficient flexibility to apply the losses for one year against the profits for another year.

It is quite possible that a corporation may be able to make a profit and not pay any taxes in one given year, or not pay taxes for a number of years, until 15 years later. That is why it is very difficult to interpret this information.

Mr. Loubier: You do suggest some ways it could be interpreted. Do you find normal that major Canadian banks pay indirect taxes, but pay no tax on their profits? Do you find it normal that with profits of close to $5 billion, major Canadian banks do not pay minimum corporation tax? Do you find it normal that all these major Canadian banks should be able to set up subsidiairies abroad in locations like the West Indies?

I have here an interesting statistic. Scotia Bank, CIBC, Toronto-Dominion, the Bank of Montreal, the Royal Bank and the National Bank have 57 subsidiaries in the West Indies. This is out of a total of 119 which they have outside Canada, not including the United States. Is that not something we should be looking at, or are we just going to allow that type of situation to carry on? It seems to me that it would be a good area to look into.

Have you thought about a minimum corporate tax? I can appreciate that there are corporations which, given the production cycle for their products or services, may incur losses in the first and even the second year, but in the third year they may begin to make a profit.

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It is abnormal to see situations such as that of the major Canadian banks, which I just described to you, and the fact that since 1987, you no longer publish data concerning the profits that escape the Canadian tax system, the profits that are not subject to federal income tax.

I think that people are entitled to some action in that regard. It is true that you are not the one who has to be accountable to the people, and I would have liked the Minister of Finance to be here so that he could tell me what he intends to do in that regard, but I am asking you the question anyway. Given all the tax havens that even major Canadian banks take advantage of, with 57 branches in the Carribean out of 119 outside Canada and the United States, could we not think of investigating the possibility for corporations to contribute more to the federal coffers, to the improvement and to the rehabilitation of the federal public finances? Could we not also contemplate a minimum tax for businesses, in order to avoid the scandals that we see year after year, even though we can no longer assess them exactly because you have not made those data public for the last 10 years?

Mr. Drummond: Referring to the graphs on page 47, I said that the corporate income tax relative to corporate profits have increased considerably in the late 1980's, and I said that it was due to the fact that the government had imposed a special tax on large corporations.

That tax on large corporations is also paid by the banks in most cases. Because of the way the tax works, it is almost equivalent to a minimum income tax.

If one considers the income tax paid by the banks and the taxes paid by large businesses, one realizes that all businesses pay almost the same average tax rate.

[English]

Mr. Grubel (Capilano - Howe Sound): Thank you, Mr. Drummond, for an excellent presentation.

I would like to turn to page 13, the federal program spending. One of the great criticisms that has been made about the insufficiently rapid decrease in spending is that when we get these numbers as percentages of the GDP, two things are changing simultaneously. One is the dollar value of spending and the other is the growth in GDP at the base. So we have both the numerator and the denominator in that ratio change. Therefore we don't really know to what extent this decrease has been achieved by the decrease in spending relative to the growth in GDP. For that reason, of course, a long time ago economists developed the concept of the cyclically adjusted spending and budget balance.

Have you attempted to make a calculation and shown what has happened to the trend to the cyclically adjusted spending as a percentage of GDP?

Mr. Drummond: I can get into the cyclically adjusted spending, but it strikes me that the more important point, as you mentioned, is to look at the level of spending. You're absolutely right: it could be deceiving to look at federal program spending decline relative to GDP, but, as I mentioned, the federal 1995 budget was unique in the sense that it's the only one that has set the level of program spending on a downward track. Program spending in 1994-95 was estimated in the budget to be $120.9 billion, and to go from that to $114 billion in 1995-96 and $107.9 billion in 1996-97. In the budget we did not give total program spending for 1997-98, but we did give total departmental spending, and that declines again in 1997 and 1998. So you can see that the trend is set normally for declines in 1996-97, but for declines in 1997-98 as well. Over that four-year period the program spending - not relative to GDP, but the level - will come down by about 14%.

As you mentioned on the cyclically adjusted spending, in essence, because we've given departments a fixed budget over that period, the only program that is cyclically adjusted is the unemployment insurance benefit.

I can refer you to page 85 of the budget and you can see that only a fairly small contribution of the total decline of program spending is coming from unemployment insurance benefits. Beyond that, most of the decline in unemployment insurance benefits is coming from the structural reforms to the program. So this is certainly not a case that it's a cyclical bounce-back on the economy as leading program spending. This is a very deliberate policy action that turned that level of spending down.

Mr. Grubel: I understand your answer, but in my own assessment I've praised the minister for his courage in cutting spending in an absolute level. I repeat: this was a courageous thing to have done, especially by someone from a Liberal party and a Liberal government.

However, there are questions -

The Chair: Is that damning with faint praise, Mr. Grubel, or is that a compliment?

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Mr. Grubel: However, there is criticism that the decrease is not adequately rapid, because it aims only for 3% of GDP. Even with these continued planned spending cuts at an absolute level, if we go from a period of economic growth to one of recession we can easily have a repetition of the pattern we have seen. As you look back on this graph, between 1976 and 1977 we had similar decreases, and then the recession came and that ratio went back up again.

That is why in your next presentation I would ask you to present us with a development of the program spending as a percentage of cyclically adjusted GDP, so we get more of a feel for this fear so many people have - and how justified it is - that in fact while there is a decrease in the ratio of spending to GDP, much of it can be wiped out the moment we have another recession and we are back on the same track where we were in all those periods we see here, up and down, for that crucial figure.

Mr. Drummond: I could just make a comment on that. My concern is that we not in a sense double count in trying to get a feel for the cyclical sensitivity. The first element I would mention there is that we did go with what we felt were prudent economic assumptions. We did take the private sector averages and we did deliberately make them more pessimistic.

It's interesting to get a reading on how well that has fared so far. As you probably know, the growth so far this year is not at the pace we projected in the budget. On the other hand, interest rates are well below what we projected on the budget. So clearly on balance we did set a prudent set of assumptions.

Secondly, included in the 3% deficit target for 1996-97 is $3 billion we have in the contingency reserve, which if it's not needed for some unforeseen economic development will not be used. If it were to be needed for economic development, it could accommodate the combination of a 1% shortfall in revenues and the 1% increase in program spending, above and beyond the numbers that have been presented in the budget. So there already is a fair bit of almost pessimism, prudence, built in there to handle an economic pattern less favourable than is projected in the budget.

Mr. Grubel: Nevertheless, I repeat, this is all correct, these are all the things the finance minister is talking about, but it would be interesting for me to see to what extent we may expect a repetition of these periods of dropping spending as a percentage of the GDP you see on those graphs. To what extent can we expect that to be repeated once we get a recession? That is the question I'm raising, so we have a more informative measure of the true reduction in spending.

The Chair: Mr. Grubel, that is assuming there is going to be a recession, which is a hypothetical question, as you know, which we never answer. But apart from that....

Mrs. Brushett.

Mrs. Brushett (Cumberland - Colchester): Thank you, Mr. Chairman.

I too would like to thank you for a very informative and interesting presentation.

If you turn to page 48 and look at the composition of tax revenues, it is quite outstanding in our personal income tax, where Canada is the highest in the world, and when you look at countries such as Japan, how low they are in personal income tax, something like 5%, while we're at the 40% or above mark. It's such an outstanding comparison. I'm wondering if you, with your experience, have ever made suggestions to the department, through ministers through the years, that if you change the psychology and cut personal income tax...would those revenues come in in some other form of spending, so they would still reach the treasury if people had that money to put into the economy rather than through direct personal income taxation? Have you ever tried that type of reverse psychology, or thought about it over your years of experience?

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Mr. Drummond: First, let me clarify the interpretation of the chart on page 48. Unfortunately, the distinction between the personal income tax and social security contributions doesn't show up in that black mass at the bottom.

What you see as black is the combination of personal income tax and social security contributions. The total of that, which in a sense is the total tax burden on individuals, is not the highest in the world. In fact, it is lower than the average of the G-7 economies.

We are a bit above most other economies in personal income tax by itself, but we are way below other countries in how we tax on the payroll. Our unemployment insurance and Canada Pension Plan, in combination, are about the lowest of those of the G-7 economies. So I don't think it would be an accurate statement to say that we have the heaviest tax burden on individuals.

In terms of your question about what would be the economic and in turn the fiscal effect of a personal income tax decline, it certainly has been thought about before. It certainly has been tried before. I would cite two examples.

Certainly one was the Kennedy round in the 1960s. Massive personal income tax was going to be the engine of growth and was going to come back in great dividends and solve the deficit problem. In fact, it started the deficit problem in the United States.

The second was in Reagan's early budget in 1983, where he tried the same thing. He gave a massive personal income tax and that was the thing that was going to create so much growth that the fiscal problem would be dead forever. It probably contributed to a burst of growth in the United States in 1983 and 1984, but you might remember that at the tail-end, when that was fully implemented, they hit their all-time peak deficit. Looking back on it, you could conclude that they've never recovered from it.

There's probably no doubt that in the short run it gives some additional stimulus to consumption, but certainly on an international basis and a Canadian historical basis there's no evidence that the government more than gets back what it would be putting out.

That probably becomes more and more true as investors, not only internationally but domestically as well, become concerned about our deficit and debt levels. What would be the reaction to the government having the deficit and debt problem and deliberately lowering its revenue?

Mrs. Brushett: Just one follow-up question. When we talk about our international debt - to make this brief - again, in your experience, we see the interest payment increasing, although we're taking all these actions to reduce deficits and debts. Do you have recommendations on how to bring this debt back home and curtail those increases in interest payments in a shorter timeframe that might be more realistic?

Mr. Drummond: Unfortunately, I don't have any simple remedy for that. There are probably various things that the federal government could try in order to get a larger share of the domestic savings, but our basic problem as a country is that we have a net requirement for saving that's above and beyond what Canadians are saving. Be that the debt of the federal government or of corporations or of the personal sector, all of us in combination want to spend more than all of us in combination are saving. So somebody is forced to borrow internationally.

The federal government does some of that. Corporations do some of that. Individuals tend not to do that. However, as long as you have that basic disequilibrium between our savings and our investments, somebody is going to have to acquire savings from another country.

The only solution to that problem, really, is to turn it around so that the federal government and provincial governments won't have such a big borrowing requirement. That's not a snazzy solution, or a painless solution by any means, and it will probably take a while for it to come into full effect, but that literally is all you can do.

Mr. St. Denis (Algoma): Thank you, gentlemen, for an excellent presentation.

On page 12, comparing program spending, a comparison is made between Canada and the U.S., which is an obvious comparison to make inasmuch as we're neighbours. Total program spending is 39.4% of GDP in Canada, compared to 33.2% in the U.S. You suggest that the difference is accounted for by a higher proportion of health and education spending in Canada through the federal purse.

Have you made a calculation of what the percentage of program spending would be on a comparison basis if you could somehow either factor in the expenditures the typical American makes for health and education through private plans or, inversely, subtract in the Canadian case what that extra amount is, so that a comparison could be made on an equal playing field basis?

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Often we are unfavourably compared to the U.S. when it comes to tax levels and so on, but to me it is a hidden advantage, so to speak, to the Canadian taxpayer that these are funded through the public purse.

Mr. Drummond: I could do just a literal translation and say that, supposing that in Canada we had only the same federal type of share of health and educational spending as there is in the United States, that difference between 39% and 33% would be roughly halved.

If you went one step further and said that we had the U.S. type of system, which was all private financing, and it cost us as much as the U.S. system does, then the difference would be almost eliminated.

In other words, I'm making a distinction in that our difference is not only that we have more public and less private, but also that our health in particular costs considerably less than it does in the United States. That's probably because it's in a public system.

So it more or less would account for the difference.

As you mentioned, that certainly makes a difference in how you view it in an individual tax load. Here in some sense you're paying for it through your indirect taxes and your personal income tax. There you're paying for it directly through a private insurance program.

It also makes a big difference on the corporate taxation side and on the business cost side. To use an example, if one looks at the health costs of producing one car, in Canada they are about one-fifth of what they are in the United States. So it comes through in many of the statistics we look at in comparing Canada and the United States.

Mr. Discepola: Mr. Drummond, one of the most frustrating personal experiences I had happened last year. I was attempting to analyse each area of program spending and see how, as a committee, we could get a million dollars here, ten million there, and come up with recommendations for the Minister of Finance, only to see that in the interim we prepared our report but by the time the Minister of Finance's budget came out the interest rates factor had gone up to wipe out tenfold the efforts this committee had made.

I wonder if you could give us an overview, on both the program spending side as well as the revenue projections, of how our forecast fared last year versus the actual projections up to the end of the year.

Mr. Drummond: Clearly, I can provide only a partial response to that for 1994-95. The books have not yet been closed, but that should happen fairly shortly. So the official statistics should be out by some point in October. The end result would appear to be that it will be in line with the budget. It doesn't look to be likely that it will be above the budget in any sense, but that shouldn't be a great surprise, because of course the budget came late in February and the financial year didn't have much left in it.

Probably more interesting is how 1995-96 is shaping up, and there's where I of course can give only a partial response, because we have the financial results only through July. We published those last year, and they suggest that the deficit and the financial requirements are coming in very much in line with the budget forecast. The composition of that is coming in a bit differently, which, looking at what's happening in the economy, I think is what you would expect.

We forecast by using the private sector average forecast and then deliberately making that a bit more pessimistic. We forecast 3.8% growth in the real economy for this year, but clearly, with the pace we've established in the first half of the year, we're not going to be that strong in growth. On the flip side, we took the private sector average interest forecast and we added 0.5% to that, which gave us an average interest rate forecast for this year of 8.7% for our short-term treasury bills. When I left to come here, we were at about 6.6%, and we did go under 6.5% for a number of months. Similarly, we're well under the budget assumptions for our long-term government interest rates.

So, more or less, it appears as if the weaker growth is being offset by the much lower interest rates. So again the evidence we have - and it's not complete, by any means - through the first four months of the year suggests that we're on track for the budget forecast on the bottom line.

Mr. Discepola: To paraphrase the Minister of Finance, come hell or high interest rates, we're going to meet our deficit target of 3% of the GDP.

Mr. Drummond: Yes.

Mr. Discepola: If we don't have to touch the $3 billion that we had in reserve, does the Minister of Finance or does your department propose to recommend to the minister automatically to apply that in order to reduce the deficit?

Mr. Drummond: I think the minister has been very clear that if that is not required for some unforeseen factor on the economic or the fiscal assumptions, then it will go toward a lower deficit, and hence a lower debt. There is absolutely no intention of turning around and putting that to any spending program.

Mr. Discepola: Excellent. Thank you.

Mr. Harper: I have just one question, following from Mr. Grubel's.

I want to draw your attention to page 29. This is total departmental spending as a percentage of GDP, so as you say, we factored out the major transfer programs to the provinces and to persons. What we have left here is more or less a measure of the cost of goods and services the federal government is undertaking. Is that the correct interpretation?

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Mr. Drummond: Actually, it will be much broader than that. For example, that would include all of the training programs for Human Resources Development, it will include postal subsidies, and a few other things.

Mr. Harper: Okay. Of that total, which in 1997-98 is just above $42 billion, less than $20 billion would be what you would refer to as ``goods and services''. So in fact transfer payments, grants, and contributions are more than half that total.

Now, this figure, as Mr. Grubel points out, this chart, should be cyclically adjusted. If it were, just looking at these numbers, I think what we'd see is it was fairly steady around 90% of GDP from the 1960s on until fairly recently, when it begins to fall, and it is projected to fall into the 1990s.

I'm wondering what this means, just to get a handle on this. Is this relative fall in the ratio of departmental spending to the size of the economy reflective of reduced government presence, reduced services, reduced activities, such as in the area of transport, or does it to any extent reflect improved efficiencies in the delivery of various government programs and services? Or does it reflect reduced capital expenditures and deferred capital expenditures? What exactly is the meaning of that trend line?

Mr. Drummond: First of all, let me pick up the bridge from Mr. Grubel's question. I don't think what he was suggesting is that the charge should be cyclically adjusted. When you cyclically adjust something is when you have a statutory program that says in the legislation you will pay on a certain basis - you will pay an unemployed person a certain amount - and if unemployment is higher, you automatically have to pay them higher.

Departmental budgets are given. They are written in stone. The agriculture department has been told in 1997-98 it will have a budget of $1.628 billion. If there is a problem in the agricultural sector or whatever, if they want to hire additional people, tough luck; get used to it; adjust to it. You have a budget of $1.628 billion. So there's no need to adjust this cyclically.

It is coming down -

Mr. Harper: Without cyclically adjusting it, because your GDP fluctuates, you will have a cyclical fluctuation in this ratio, because presumably the theory is that the spending in your department's budget is going on on a long-term trend basis.

In any case, I think the adjustment would actually take out most of the fluctuation and would show a downward trend into the future. So I'm wondering what the meaning of that is.

Mr. Drummond: I think what you're really getting at is you'd probably find it more interesting to look at the absolute level. If we take that total, what you see as a percentage of the GDP...in 1994-95 it's $52 billion. Then in 1997-98 it's going down to $42 billion. So there's a drop of $10 billion over a three-year period.

How are we getting it? As I mentioned in my presentation, the largest cuts in the budget came in the area of business subsidies. That is providing for a very large share of it.

I have no doubt every department - and mine is included in that - is getting some share of its savings through so-called efficiency gains. When you don't have the money, just as any private corporation, you find some way of getting around that problem. You just don't travel as much, or you figure out a more efficient way of doing it. You don't always have the impetus to do that when the money is there. All of a sudden the money is not there and you do it.

You don't get a $10 billion reduction in this thing through efficiency gains, obviously. There are real program cuts here. As I mentioned, predominantly they are in the area of business subsidies. There is a very large element in lower personnel costs. You've seen the figure that there'll be 45,000 fewer civil servants, from a base of just over 200,000. So it's a very large percentage reduction there.

Some of that you can get around by efficiency gains, but there's no doubt there is going to be a lower level of programs. There's going to have to be a lower level of services that comes with that. But that is really the only way to get out of this box that this debt has led us into.

The Chair: Mr. Campbell, please.

Mr. Campbell: Ms Brushett's question about personal income taxes and a possible cut led me to wonder what other modelling you might have done if you pushed and pulled on these various components of the revenue side of the equation. Have you done any modelling of what happens if you raise one and not the other; you lower one and leave the others the same? Have you done that sort of modelling and looked at other scenarios, such as corporate taxes?

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Mr. Drummond: I won't refer just to the work we've done. Certainly if you take the body of work that's been done by the economic profession you tend to find what is somewhat counter-intuitive...there is a popular belief that the largest kick for a tax cut actually comes on the corporate income tax side. And in some sense that makes sense in the context of Canada, in which we have a large number of corporations that are involved in both the United States and Canada, and increasingly in other countries, and if we have a favourable corporate tax environment in Canada, they will locate their activities here, they will locate their investment activities here. So you can get a fair bit of leverage from that.

Mr. Campbell: So just as the voodoo economics of the Reagan era, the so-called ``trickle-down'', didn't work, you're suggesting an increase in corporate taxes might have an outcome opposite to what it is popularly believed would occur.

Mr. Drummond: As I mentioned, one of the things we've always kept an eagle eye on whenever we've done corporate income tax reform.... If one looks at the income tax reform that was done in 1988, I think you want to be very careful not to have your corporate tax rates in Canada out of line with where they are in the United States, particularly in the northern states, but increasingly it's not just particularly in the northern states, it's anywhere, because corporations are increasingly demonstrating they are quite mobile.

If you get those out of line, two things happen. Probably the least damaging is they just change around their accounts. They book their profits in the United States, they book their loss here. More damaging is obviously they don't stay here, or at least they don't do their investment and their plant expansion here.

Our rates I think are competitive with those of the United States, on average. It doesn't apply to all sizes of business, nor does it apply to all types and all sectors. We are competitive with the United States. We tend to be a little higher, but probably not enough that it would trigger a reaction and they would leave. But I would be cautious about changing that balance very dramatically.

The Chair: Mr. Silye, please.

Mr. Silye: Thank you, Mr. Chairman.

On page 42 you have general government services and you show Revenue Canada starting in 1994-95 at $2.2 billion - I am rounding out - having projected a reduction to $1.977 billion by 1997-98. As I understand it, Revenue Canada is also Customs and Excise. Do you happen to have the split on the number of people or the budgets of Customs and Excise versus Revenue and Taxation, such that of 44,000 people, x are with Revenue and Taxation at a cost of...and the other one is x people at a cost of?

Mr. Drummond: No, I don't. In fact, one of the reasons why I don't is a bit of a feature of how program review is done. Typically, in the past, departments were not only told what their budget was and how it was going to change but almost how every element of that budget was going to change. This year program review said, Revenue Canada, you get $1.977 billion. The judgment was that the department was in the best place to figure out how to allocate that.

We will see that allocation as they come out with their business plan, but I don't have that allocation for you. I'm sorry.

Mr. Silye: Is it possible for me to get a copy of that? Is it possible for me to find out what that is now? Not right now this minute, but -

Mr. Drummond: I would have to look into whether that's available. Certainly as far out as 1997-98...I don't know whether that exists.

Mr. Silye: Do we know how many are employed specifically in Revenue Canada Taxation out of 44,000 people?

Mr. Drummond: Oh, yes, most definitely.

Mr. Silye: That's what I want to know.

Mr. Drummond: Certainly for 1995-96 the main estimates contain that information for Revenue Canada and all other departments.

Mr. Silye: And it's split that way?

Mr. Drummond: It's split, and it'll be split down even by the unit branches within the department.

Mr. Silye: Your chart on page 34 doesn't include.... It's entitled ``Spending Levels'', and it goes by certain departments, certain programs, but once again you don't have Revenue Canada there.

Mr. Drummond: No. Obviously to fit that on the page I had to do some aggregation. That's why when I came back to page 42 I did show how that block of general government services, which included Revenue Canada, is disaggregated. You'll see it in the first column of page 34, general government services of $4.967 billion. That's the same total as you'll find on page 42. It shows Revenue Canada has $2.207 billion of that $4.967 billion total.

Mr. Silye: You have talked about the deficit, and you've gone to great lengths to show how wonderfully it is doing as a percentage of GDP. Everything's related to GDP and its performance. I agree the deficit is reducing. In real dollars program spending is going down. I agree with that and that's good. But the debt is going up, and the cost of servicing that debt is going up faster than the cuts that are being made on an annual basis. It seems to me as if the Department of Finance has a problem.

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The Minister of Finance talks in terms of revolving two-year cycles and reaching his target of 3% of GDP. As a businessman, it would seem to me that that target is too soft and that for this committee there has to be a very strong effort to look for ways either to increase government revenues or to reduce program spending even more and faster than is currently the case.

We're adding to the problem, which is the debt. It is going up. With the fluctuations in the interest rate being as unpredictable as they are, it's as if you're treading water and you don't know how long you're going to have to be out there. Your arms might just get tired one day and you might drown. I have a fear that this country might drown in this huge debt, which is continually going up.

Is there any sense that 3% of GDP is too soft and that, to encourage investment and increased revenues for this government, a fully balanced budget with a timetable of three, four, five years out...some definite date by which this government, like every provincial government in this country is starting to do, will have a balanced budget? So my question is on the soft target and what is the view of the Department of Finance on presenting a balanced budget.

The Chair: Please feel free to contradict the minister, if that's what you wish to do.

Mr. Drummond: I'll respect that. I had that in mind when I was thinking about how I'd answer that.

With respect to the committee, rather than giving my personal view on that, I think that's an issue on which you're better placed to deliberate. I would only add, as a civil servant experienced in doing a number of these budgets, that it's much easier to think of an ambitious target than it is to come up with a precise policy that delivers on that target. It is important to marry what the target should be with the feasibility of getting there and the particular actions that are required.

Mr. Silye: Is the target of 3% of GDP too soft, or is it not?

Mr. Drummond: I really don't think it's my position to give you my view on that.

Mr. Silye: A balanced budget is not something the Department of Finance has been given direction to work toward?

Mr. Drummond: I could refer to a number of documents of government, going back to the red book and the February 1994 and February 1995 budgets. I think they made it very clear that their target was a balanced budget and a deficit of 3% of the GDP was only an interim target.

[Translation]

Mr. Loubier: I would like to go back to tax revenue and tax avoidance. In the July issue of the CA Magazine, which is the Canadian chartered accountants magazine, there was an article on legal strategies for tax avoidance. Allow me to quote:

We generally give preference to territories which, like the Cayman Islands, are British colonies rather than independant states. For example, there are no local taxes in the Cayman Islands. The returns on investments, royalties and capital gains are tax exempt.

At this point, there are more than 28,000 companies incorporated in the Cayman Islands and every year approximately 4,000 more are added.

Further down in the same article - which is part of the study prepared by Michel Bernard, Léo-Paul Lauzon et Martin Poirier that I was mentioning earlier - it is said:

Almost all the major Canadian multinationals use companies domiciled abroad in the conduct of their tax management strategy.

And this was printed in the Canadian chartered accountants' magazine.

I will quote further:

For example, Barbados is a favourable place in order to set up a strategy of active business because the tax agreement between Canada and Barbados allows that income from active business earned and taxed at a reduced rate (to a maximum of 2.5%) in Barbados, be transferred as tax free dividends to a Canadian company.

A little further down in the same article, it says:

Last spring, the federal budget introduced measures that did away with some tax savings enjoyed by Canadian businesses but there are a lot remaining.

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Let me get back to my starting point. If public finances are in such a mess that we lost control on the cumulative debt of the federal government, if we are looking for ways to make money somewhere, would it not be possible to avoid what chartered accountants express so clearly in their magazine, namely to close all loopholes made possible thanks to tax treaties signed by Canada and countries like the Cayman Islands or Barbados? Don't you find it obnoxious that we allow corporations to benefit from such treaties while you are asking all Canadian taxpayers to make sacrifices?

[English]

Mr. Drummond: My answer to that one is that it is somewhat like a more ambitious deficit target: it's somewhat easier to state the objective than it is to figure out the particulars of how to do it. Obviously the objective is to keep tax avoidance to the lowest level we can. How you do that in the complex system of corporate enterprises we have is not so straightforward. I think I would just leave it that we would welcome any advice from you and the committee on that issue.

[Translation]

Mr. Loubier: Mr. Chairman, this is an article from the Canadian chartered accountants which suggests that investors should invest in the Cayman Islands and in Barbados in order to avoid paying any income tax. Furthermore, the Canadian tax system allows this kind of tax avoidance.

You want us to make suggestions. You should rather close any loopholes here. The tax treaties that we signed with 16 countries considered as tax heavens, such as the Cayman Islands and Barbados, should be reviewed by yourself because I am under the impression that the minister is not there to do that kind of job. If the minister does not do it, don't ask me to make any suggestions in that regard. The chartered accountants are making suggestions in an indirect way by telling you that a lot of corporations take advantage of considerable tax shelters by doing business in such countries.

I suggest to you that you should call the chartered accountant who wrote that article,Mr. Elphinstone, and ask him where he took his information. Also ask him to make suggestions to you about the way we could rescind the tax treaties that we signed with these tax heavens, which these corporations take advantage of. It is nonsense that some corporations do their corporate duty while others don't. And those are often big businesses which benefit from these tax heavens I just mentioned. And don't give me any hogwash.

[English]

Mr. Drummond: You quoted a number of things from that article. One of the ones you did quote is that the federal budget did take action in addressing the tax havens. As I mentioned, if there are further suggestions from the committee along the lines we've already taken - we are addressing this - they will be welcome.

The Chair: Might I add to that...

[Translation]

that I would be very happy to hear experts who could offer solutions to the committee regarding tax avoidance and tax heavens. Our job is to find experts who could help us.

Mr. Loubier: There is the Ordre des comptables agréés du Québec.

The Chair: I think that our first witness could help us.

Mr. Loubier: Absolutely!

[English]

The Chair: Mr. Grubel, please.

Mr. Grubel: I know we have other business. I just want to follow up on Mr. Campbell's question and turn it around.

You stated that if our tax rate were higher than the United States' we would lose tax base; it would go to the United States. Therefore we would lose revenue. Would it be true the other way around? If we had a corporate tax rate below the U.S. tax rate, would we attract lots and lots of investment and ultimately, perhaps, end up with higher total revenue from the corporations than we had before?

Mr. Drummond: I think thresholds are involved in this game. If you are just plain uncompetitive with your corporate tax system they won't come to your door. If you are competitive in the sense that you are that much lower....

I don't know if there's a discrete point. I do believe there's a discrete point such that once your corporate tax rates are higher you're just not attractive. How much more attractive you are by having a lower rate I'm not so certain.

Again, in the context of whether it would actually come back and give us additional revenues, I don't know. Again, you would have to look at it in the context of what the response would be, given our high debt levels, to having any type of tax break until we've turned this overall fiscal corner more decisively.

The Chair: Thank you, Mr. Grubel. Nice try.

Mr. Silye: I'd like to find out what the Department of Finance thinks about.... You used the word...I think it was ``complex'' or ``complicated'', or something like that, regarding our corporate system. I use the word ``convoluted''. If the system were simplified and fair in terms of levels of income, extracting the same amount of taxation, do you think the system we have can be made more fair, or is the structure of the current system good enough?

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You know that there is a lot of talk about a flat tax. In that area, does the Department of Finance have a model set up whereby they could see the impact or effect of a different system and a different tax base?

Mr. Drummond: First, with regret, I will have to remove the premise of your question a little bit, because I didn't say that the corporate income tax system is complex. What I said was that our corporate structure is complex. The corporations are complex, rather than the tax system.

By that I meant that we're no longer dealing with Canadian companies. They're always in Canada and they deal only in Canada. Virtually all of our companies, certainly our larger companies, are dealing in Canada, the United States, and, increasingly, many other countries, and they have much more flexibility in how they handle their booking of profits and losses vis-à-vis what would have been the case even ten or twenty years ago. The corporate tax system has to be reflective of that.

I wasn't trying to imply that the corporate tax system is complicated.

Vis-à-vis the flat tax, the first issue, and what most people who have looked at that grapple with, is how you marry a flat tax with the desire, and what we already have in Canada is a fairly progressive income tax system. It is taking a good hard look at the United States, but the circumstance is quite different. The United States has a much less progressive income tax system than Canada has.

By definition, by introducing a flat tax you tend to have a much flatter distribution of the tax burden. I will give you an example of that.

Only 1% of the tax filers in Canada earn $100,000, but they're assessed on 10% of all taxable income and they pay 18% of the entire tax. So it is a quite progressive tax system. When you go to a flat tax, you tend to lose that, and the first thing that happens is you start introducing secondary measures to get that progressivity back. Depending on how far you go down on that slope, you get back to something that might not be very different from what we've got.

Mr. Harper: I can't resist asking a supplementary or follow-up question to Mr. Grubel's last question.

If I understood you correctly, you tried to explain in your answer to him that if we were to have a higher general corporate tax rate than the United States, then that could drive business south, but investors wouldn't necessarily be sensitive to lower tax rates here in terms of coming north. If it's your position that investors can be persuaded to move their businesses south of the border because of lower tax rates in the United States but they can't be persuaded to move their businesses north of the border when there are lower tax rates here, then precisely what do you think it is about this country that would make it such an unattractive place to invest?

The Chair: Without getting into the constitutional issue.

Mr. Drummond: The end of your question really gave me the lead for what I was going to say. It strikes me as if there are a number of objectives on the fiscal front, and certainly ultimately one of those is a lower tax burden, but we have one nasty little piece of business that we haven't quite completely resolved yet, and that is that we have a debt problem. If you ask what might impede a company from investing, it is that debt problem.

A lot of progress has been made on it not just at the federal level but also at the provincial level.

It is fine to enter the hypothetical area of various tax cuts we're going to be doing, but the sequence should be let's tackle the deficit problem. I think that's more in the real, rather than the hypothetical. Once we've got a better deficit situation and are moving toward the balanced budget you mention, we can start entertaining questions about tax reductions. But I'm not sure if we're at the front door yet.

The Chair: In previous hearings, witnesses have suggested that the capital gains tax regime needs changing. You indicate that we have a huge tax expenditure by not including all gains in income. Others have suggested that we have one of the most punitive capital gains tax regimes in the world, far more than in the United States.

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I'm not sure whether we should get into this particular issue in these pre-budget hearings, but I suspect the way we tax capital gains has a major impact on the making of investment decisions and on savings rates. Do you have any studies in these areas that could assist us in looking at it?

Mr. Drummond: First a general remark on the tax expenditures. We put out a book with these, and as I think the book tries to say, one has to be extraordinarily careful how one interprets them, because they can be highly misleading.

The number shown for capital gains is derived purely from a very mechanical calculation. We include in income three-quarters of the capital gains, and it just says if you included 100% there would be additional revenue. But there's a much more complex and, I think, more appropriate way you should look at it.

In Canada we also tax the nominal capital gains. If you're holding a particular asset over a twenty-year period, obviously at the end, with inflation in the economy - obviously there is less of that than there was before - over a twenty-year period you're going to have a lot of inflation, and your gain may largely just reflect the inflation. It's not leaving you better off, but you're taxed on the full amount of that. In some sense the partial inclusion of capital gains is a very rough proxy for putting in some inflation adjustment.

So you can't just look at...oh, there's some additional revenue we should get. I think you have to look at it as more of a structural issue. That doesn't necessarily say we're giving unduly fair treatment on capital gains.

The Chair: I'm glad you pointed that out, because even if only three-quarters of the gain is included in income, in the case you suggested, over a twenty-year period the value of that asset might have tripled or quadrupled, so the person is much poorer even with the lower rate of tax we impose. It can be very confiscatory.

Some experts before us, Neil Brooks for example, who's a very good friend of Mr. Loubier's, suggested we should include all gains in income, but fully indexed for inflation, which in most cases for assets held over a long period of time would reduce the level of capital gains taxation -

[Translation]

Mr. Loubier: I did not say that, Mr. Chairman.

[English]

The Chair: Do you have studies on this we could perhaps take a look at? Have you done work on this area?

Mr. Drummond: I would have to look into that, Mr. Chairman.

The Chair: If you had, perhaps we could have a further discussion with you.

Mr. Drummond: Sure.

The Chair: Are there any other comments?

I want to say this, Mr. Drummond. This is an excellent presentation. You've given us a lot of meat to look at and digest. I note from the interest that all members feel this way. Your answers were very candid. I'm sure we will need you back before our committee again, and I hope you'll have no objection if we return to your wisdom.

On behalf of all members, may I thank you.

We adjourn now until the call of the chair.