Ontario’s Stagnating Economy: First Decade of 21st Century Sees Decline – by Livio Di Matteo

Livio Di Matteo is Professor of Economics at Lakehead University in Thunder Bay, Ontario.  Visit his new Economics Blog “Northern Economist” at http://ldimatte.shawwebspace.ca/

“Ontario’s net public debt was 1.6 billion dollars in 1965 and has risen to reach an estimated 245 billion in 2010.  The debt is the sum of accumulated deficits plus interest.  Given that Ontario’s net debt was 132 billion in the year 2000, it means that nearly half of Ontario’s net debt was acquired over the last 10 years…. In 2010, Ontario’s debt-to-GDP ratio actually surpassed that of the Federal government for the first time in living memory.” (Livio Di Matteo, Jan/31/11)

I was invited to present to the Ontario Standing Committee on Finance and Economic Affairs as part of the pre-budget consultations and did so via video-conference on January 31st, 2011.  Below is the text of my address.  Please note that actual delivery may have varied from the prepared text.  Slides used for the presentation are available on my university web page.

Ontario: A Province in Decline

Good morning Mr. Chair and Committee Members of the Ontario Standing Committee on Finance & Economic Affairs.

My name is Livio Di Matteo and I am Professor of Economics at Lakehead University in Thunder Bay.

Let me being with a quick summary. Ontario’s economy was severely hit by the recent recession particularly in its resource and manufacturing sectors.

While the recession is ending and both employment and output are beginning to recover, we still need to address the long-term performance of the Ontario economy.  Even without the impact of the recession, the fact is that Ontario has been performing poorly over the last decade when compared to many of the other provinces in the Canadian federation.  Productivity and income growth has lagged.

Fiscal sustainability is having the resources necessary to provide the public goods and services that as a province we have decided we need.  When lagging productivity and income growth is combined with fiscal indicators that point to rising deficits and debt, the sustainability of Ontario’s public finances is called into question.

Poor economic growth, low productivity and lagging per capita incomes will result in a decline in Ontario’s standard of living and ultimately also result in poorer public services.

The basic economic indicators I wish to highlight are simple.

First, as a basic output measure I will use real per capita GDP – the value of provincial output per person adjusted for inflation.

Second, I will present evidence on employment – an indicator of economic activity as demonstrated by the number of jobs in the economy.

Third, I will present a simple productivity measure: real GDP per employed person.

The data sources are from Statistics Canada and the Government of Ontario

The first decade of the 21st century is a decade in which Ontario’s economy stood still.

While the overall output of Ontario’s economy has grown over the last 20 years, when you adjust that output for inflation and divide by population, provincial output per person has essentially stagnated since the start of the 21st century.  While the drop since 2008 can be attributed to the severity of the recession, the fact remains that the period from 2000-2008 also saw little in the way of growth.

Notwithstanding the 2008-2010 recessionary period, if real per capita GDP (1997 dollars) from 2000 to 2007 had grown at the same average annual rate as it had from 1993-2000 (about 3 percent), then per capita GDP in 2008 would have been approximately 42,000 dollars or about 23 percent more than it actually was in 2008.

This represents foregone output from Ontario’s economy equal to about $7,000 per person.

Ontario’s economic performance is also poor in relative terms.

Ontario’s poor performance would be more tolerable if it was accompanied by other poor performances but Ontario’s real per capita GDP performance has stagnated while that of other provinces has continued to improve.

Ontario’s real per capita GDP has recently been surpassed by Saskatchewan, and Newfoundland and Labrador.  While Ontario still has a higher GDP than many other provinces, they have continued to grow while Ontario has stagnated.

As a result, Ontario has begun to slip in the rankings of per capita output within the federation. In 1990, Ontario was second only to Alberta in its real per capita GDP while today it has slipped to fourth place. Since 2000, Ontario’s real per-capita GDP has gone from being 25% above the provincial average to being barely at the provincial average.

As Canada’s largest province and largest single provincial economy, the health of the Ontario economy has long been an important driver of prosperity for the Canadian economy.

Ontario has traditionally accounted for about 40 percent of the nation’s output and a similar share of its population.  Ontario’s economy has traditionally been a diversified performer rooted in manufacturing, resources, and services and served as a powerhouse for the Canadian economy.

However, the powerhouse is waning and its performance become less electrifying.

During the course of the first decade of the 21st century, Ontario has seen its share of Canadian output decline steadily.

From about 42 percent of national output in the late 1990s, Ontario’s share has dropped to below 36 percent.

Over the period  2000-2010, Ontario has indeed  been the worst provincial performer in terms of growth in real per capita GDP.

Over the first decade of the 21st century, eight out of 10 provinces experienced an increase in their real per-capita output, while only Ontario and New Brunswick saw declines.

Even Quebec, which has been the historical poor economic sibling to Ontario, saw its real per-capita GDP grow 6% during the decade.

Given this performance, it is perhaps no surprise that Ontario has come to qualify for equalization payments.

Employment is another indicator to consider.

Despite the poor per capita output performance, employment has continued to grow in Ontario and indeed since 1991, employment in Ontario has grown by 32 percent despite the recent losses from the recession.

However, when the employment growth is taken alongside the output stagnation, it means that more workers are producing less output per worker – a problem in productivity.

Labour productivity has declined.

Real GDP per employee rose from the early 1990s to 2000 but has since taken a steep drop.

Real output per worker from 2000 to 2010 fell from 71,000 to 65,000 dollars – a decline of about 8 percent.

This decline in productivity was also recently noted by Andrew Sharpe and Eric Thompson, of the Centre for the Study of Living Standards.  They noted that while there has been a labour productivity slowdown in Canada since 2000, Ontario was the province that contributed disproportionately to the slowdown because of the concentration of manufacturing in the province and the fact that manufacturing was a major source of the low productivity.

Ontario was responsible for nearly two-thirds of the decline in Canadian labour productivity since 2000.  Keep in mind that Ontario only accounts for about 36 percent of national output.

What does declining productivity and low growth really mean?

Productivity is important because cumulative slowdowns in the rate of economic growth result in the long term erosion of our standard of living.

For example, if your real per capita GDP is growing at 2% per annum, then you could expect your per capita income to double in about 36 years,  At 4 percent, it would take about 18 years.  At 10 percent, incomes would double in a mere 7 years.

While real per capita GDP in Ontario grew at just over 3% a year over the period 1995 to 2000, over the period 2000 to 2010, it shrank at an average rate of about 1/3 of one percent per year.

The long term implications of low or declining economic growth are stark.  Low growth means that the tax base is also not growing which means that to increase or even maintain public spending you will require either higher tax rates or deficit financing.

Since 2000, government expenditure in Ontario has grown by 96 percent while government revenues have grown by 62 percent.  The result has been a deficit in six of the ten years since 2000.

Fiscal sustainability is government having the resources to do what the public  wants or needs.  Growing deficits and debts mean that Ontario’s public finances have a sustainability problem which puts the vital public programs we all  need at risk.

Ontario’s public finances over the long-term can be neatly summarized by an examination of revenues and expenditures and their difference –the deficit.

Since 2007, expenditures have rapidly outpaced revenues resulting in even larger deficits. Part of the recent deficit gap is the result of increased spending during the recessionary period, while part of it is also due to the slowdown in revenues because of the recession.

Nevertheless, longer term factors are also at work.  Slower long-term economic growth is also a factor given that the ratio of provincial government revenue to GDP  was 14.6  percent in 2001, reached 16.6 percent in 2007 (just before the onset of the recession) and in 2010 was at about 17.6  percent.  Revenue has grown slower than expenditure but has grown faster than GDP meaning that the revenue burden on the economy has also grown. 

Maintaining current levels of spending has required a rising revenue burden as well as large deficit.  Large deficits in turn have accumulated into a growing debt.

When deficits and debt are combined with the power of compound interest over the long term, the results can be astounding.

Ontario’s net public debt was 1.6 billion dollars in 1965 and has risen to reach an estimated 245 billion in 2010.  The debt is the sum of accumulated deficits plus interest.  Given that Ontario’s net debt was 132 billion in the year 2000, it means that nearly half of Ontario’s net debt was acquired over the last 10 years.  Indeed, while Ontario has been a province in the Canadian federation for 143 years, over 80 percent of its debt has been acquired in the 20 years since 1990.

A debt means interest costs to service the debt and debt service costs in Ontario have only been as manageable as they have been because of historically low interest rates – rates that will inevitably have to rise given inflationary pressures in the growing economies of India and China.

Of course, the ability to carry debt is also a function of your GDP and in Ontario, the debt to GDP ratio has also risen dramatically and now stands at nearly 40 percent.

By way of comparison, the Federal debt-to-GDP ratio has always been larger than Ontario’s.

However, as the federal government got its finances under control, its debt-to-GDP ratio began to drop dramatically while Ontario’s has continued to rise.

 In 2010, Ontario’s debt-to-GDP ratio actually surpassed that of the Federal government for the first time in living memory.

The debt situation in Ontario has been compounded by a weak economic performance that was aggravated by the recession period from 2008-2010.  Even with recovery from the recession, Ontario will also need to boost its productivity and growth rates to make sure that its debt-to-GDP ratio does not worsen.

Ontario is an economy facing many challenges.  Ontario’s economy as evidenced from its output and productivity performance has been on a low growth trajectory with long-term implications for the province’s public finances and its public services.  Rising deficits and debt have been tolerable up to this point because of a fiscal dividend afforded by the lowest interest rates in 40 years but should interest rates begin to climb – the combination of a large debt and the power of compound interest will be devastating.

The long-term implication of poor economic growth and productivity is a lower standard of living and reduced public services in health, education and other programs we hold dear.

Ontario must improve its economic growth record, its productivity performance and bring its public finances under better control.

Thank you.