Wikileaks - Canada 2010 as the U.S. Department of State Saw It

Remember Wikileaks and their treasure trove of United States Department of State documents?  The mainstream media seems to have become rather bored with the daily releases and pays them little heed.  Every so often, I check the latest releases and, in light of the recent election in Canada, I found this interesting one.  Notice that it's classification is "CONFIDENTIAL/NOFORN" meaning that it is not to be seen by non-American eyes.  The cable was created on January 4th, 2010 and was entitled "Canada; Top Five Policy Priorities in 2010".

Here are a few of the high points:

1.) Stephen Harper's main goal for 2010 was to remain in power, preferably without an election however, if need be, "...to force the weak opposition parties to bring on another election and bear the political consequences...".  Then comes the fun part quoted here:

"The Conservatives will need to demonstrate slow by steady progress on the economy and to claim credit even when it is not necessarily due to them." (my bold)

I laughed out loud when I read that one!  It is particularly humorous when taken in context with Canada's recent federal election where Mr. Harper continuously reminded Canadians that electing anyone but him (most particularly the dreaded "separatist coalition") would lead to financial catastrophe and fiscal ruin.  Even the Americans seem to have our Prime Minister's tactics figured out.

2.) The Government’s carefully babysitting of Canada’s economy was a high point.  Here are more quotes from the cable on that subject:

“The Conservatives have touted their careful pre- and post-recession stewardship of the economy as the main reason Canada was less battered by the global recession than their G-8 partners as well as other key economies. The jury is still somewhat out on whether long-standing monetary and fiscal policies were the main factors, or whether Canada's huge resource base and openness to international trade were not at least as much factors; our view is that both elements were part of the serendipitous mix. The Conservatives have in any event pretty much succeeded in convincing the public that they are more trustworthy on this issue than the Liberals would be (no one even bothers to contemplate what the NDP or Bloc might have done) - but they know they need to do more in 2010.” (my bold)

Yup, we're a pretty gullible lot when it comes to believing what our politicians tell us!

3.) Stephen Harper’s “somewhat grudging” appearance at the United Nations Summit on Climate Change at Copehagen did not go unnoticed by the Americans as noted here:

“PM Harper somewhat grudgingly went to Copenhagen for the UN Summit on climate change, but only after President Obama announced that he would attend. PM Harper's participation was virtually invisible to the Canadian public, and there was considerable negative coverage of his failure to play a more prominent role - or even to sit in on the President's key meetings with world leaders. Environment Minister Jim Prentice was sent out to do the media scrums and to insist that Canada was a helpful participant and would work closely with the U.S. on a continental strategy on climate change. Now he must come up with some proposals that make Canada not seem merely to be going slavishly along with whatever its American "big brother" decides to do - which will not be easy. At the same time, a substantial proportion of the Canadian public and industry (as in many resource-rich industrialized countries) are opposed to Harper taking a leading role and are even opposed to him following any likely leads set by the Obama Administration. In that respect, given Canada's role as a major petroleum and natural gas producer, he will have an even more difficult political balancing act than will the U.S. or the Europeans. No big, sexy initiatives are likely from the Conservatives, however. Luckily for the government, the Liberals also do not have any great ideas up their sleeves, having especially been burned in previous Liberal leader Stephane Dion's "carbon tax" campaign platform in 2008.” (my bold)

I like that - "no big sexy initiatives are likely from the Conservatives".  How about rephrasing that to say that no climate change strategy initiatives are likely period?

4.) Lastly, the cable looks at Canada’s proposed pull-out from Afghanistan in 2011.  Here’s the section:

“PM Harper has insisted over and over that, in according with the bipartisan March 2008 House of Commons motion extending Canada's military presence in Afghanistan only through 2011, the Canadian Forces will indeed pull out NLT December 2011, and planning is underway on how to do so. Diminishing public support for the mission, a sense that Canada had done more than its share, and unspoken relief that the U.S. surge will let Canada off the hook all argue against any Canadian political leader rethinking Canada's strategy, at least for now. Absent a federal election in which the Conservatives win an actual majority, a significant and positive change in the conditions on the ground in Afghanistan, and/or a formal U.S./NATO request for Canada to remain post-2011 in some military capacity, the likelihood at present is that Canada will withdraw on schedule, as gracefully as possible. The government has been deliberately vague on post-2011 plans, apart from pledging -- without specifics -- a robust "civilian, developmental, and humanitarian" role, and will have to come up with an ambitious plan sometime in 2010. Some Conservatives as well as defense officials and media commentaries have already begun to express concern that the Canadian military pullout will diminish whatever special attention and consideration Canada has received from the U.S. and NATO as a result of its sacrifices in Kandahar.” (my bold)

That sounds rather threatening to me.  Canada pulls out and loses all of the good karma it has created for itself over the past 10 years just like that.  Gone and forgotten.

Further to the section referring to a Canadian election:

“Winning a Parliamentary majority in a new federal election and/or significant changes on the ground in Afghanistan could arguably enable the Conservatives to change course.” (my bold)

Now that Stephen Harper has his majority, the Afghanistan file will be an interesting one to watch.  Will he change his mind yet again?

I realize that most of this cable isn’t particularly newsy, but I always find it interesting to see how our neighbours to the south of the forty-ninth parallel regard Canada, particularly when they work for the United States Department of State.

How Big is Your Tax Wedge?

Have you ever wondered how much your income would be taxed if you lived in another nation?  Fortunately for all of us, the Organization for Economic Co-operation and Development (OECD) recently released its annual Taxing Wages publication which examines the tax and social security burdens on employment incomes throughout the 34 nations that comprise the OECD.

To summarize, the OECD found that the tax burdens on wages and social security charges increased in 22 of the 34 countries in the study over the past year.  Overall, the average tax on employment income was 24.8 percent for all 34 countries.  The most significant year-over-year drops in taxation were found in Denmark, Greece (rather ironic, don’t you think?), Germany and Hungary.  The largest tax increases were experienced by workers living in Spain, Iceland and the Netherlands.  The highest taxes on employment income were experienced by single earner, two children couples in Belgium, France and Italy.  The same family type had the lowest taxes in New Zealand, Chile and Switzerland. 

The report notes that the total tax package on wages, which includes the social security program charges that are shared by both employer and employee, affect the hiring decisions of employers and the willingness of employees to spend their days working.  An interesting portion of the study is dedicated to the concept of the “tax wedge”.  The tax wedge is basically the difference between “…the total labour costs to the employer and the corresponding net take-home pay for single workers without children at average earning levels in 2010…” defined as a percentage according to the OECD definition.  In simplest terms, from the employee’s perspective, the tax wedge is basically the difference between before-tax and after-tax wages.  It measures how much the government receives as a result of taxing the work force.  The OECD study then compares the 2010 tax wedge to the 2009 level to see how tax levels are changing.

Here is the summary chart showing the tax wedge for each of the OECD nations and the percentage change from the previous year for both income tax and employer and employee social security contributions.  Note that the chart is in order from the highest tax wedge to the lowest tax wedge (i.e. from the most taxed workers to the lowest taxed workers):

Let’s look at one example to ensure that we’re all on the same page.  In the United States in 2010, the tax wedge was 29.7 percent.  From 2009, the tax wedge increased by 0.11 percentage points overall with income tax rising 0.15 percentage points, employee social security contributions staying level (0.00 percentage points) and employer social security contributions dropping by 0.04 percentage points.  Remember that these statistics are for a single worker with no children, working at the average wage.

Now let’s look at the overall results.  Belgium is by far the highest taxed country with their workers paying 55.4 percent of their total labour costs (total wage package) in taxes.  Workers in Chile have the lowest taxes on wages at only 7.0 percent.  The tax wedge for workers in the United Kingdom (at 32.7 percent), Japan (at 30.5 percent), Canada (at 30.3 percent), the United States (at 29.7 percent) and Australia (at 26.2 percent) fall in the lower third of all OECD nations.

Some nations saw a rather massive tax wedge drop over the year; the workers in Hungary saw their tax wedge drop by 6.65 percentage points, Germany by 1.84 percentage points and Greece by 1.58 percentage points.  Workers in Iceland saw their tax wedge rise by 3.29 percentage points, Spain by 1.36 percentage points and Japan by 1.35 percentage points.  Overall, the tax wedge increased in 22 OECD member nations and fell in 11 member nations.

Here’s an interesting graph showing the breakdown in the tax wedge as a percentage of labour costs for each nation.  Total labour costs are divided into income tax, employee social security contributions and employer social security contributions.  Note the OECD average in the lower middle of the grouping:

This graph gives us an idea of the composition of the tax wedge.  In Chile, employee social security contributions are 100 percent of the total labour costs with personal income tax at a wonderful zero percent.  Denmark has the highest personal income tax rate of 27.9 percent, followed by Iceland at 22.8 percent and Belgium at 21.6 percent.  Canada comes in at 13.3 percent, the United States at 13.9 percent and the United Kingdom at 14.7 percent.  The highest employee social security contributions are experienced by workers in Slovenia at 19 percent, followed by Germany at 17.2 percent and by Poland at 15.5 percent.

To summarize, I’ll take a brief look at the tax information for three of the nations where most of my readers reside.  Note that the graphs show the changes in the level of taxation on employment income from 2000 to 2010 as well as the OECD average:

1.)   The United States: The United States levies relatively low taxes on labour income with single tax payers taking home approximately 70 percent of what they cost their employer.  For all family types, the tax wedge is well below the OECD average.  From 2000 to 2010, the tax wedge decreased for all family types as shown in this graph:

2.)   Canada: Canada has a relatively low tax and social security burden on labour income with the average tax wedge being lower than the OECD average for all family types.  Interestingly enough, according to the OECD data, a single parent family with low earnings and two children actually has a negative tax wedge since they receive more in government transfers than they pay in taxes.  The difference between Canada’s tax wedge and the OECD average has increased over the 10 year period as shown in this graph:

3.)   The United Kingdom: The tax and social security burden on labour income in the United Kingdom is very close to the OECD average.  Single, average earning taxpayers take home 67 percent of what they cost their employers on average.  One earner families with average earnings and two children actually pay slightly more tax than the OECD average.  In most cases, the tax wedge rose over the 10 year period as shown in this graph:

If you wish to look up your nation, here is the link for the remaining OECD nations in the study.

It will be interesting to see if the trend of taxation on employment income continues to rise as OECD nations experience a trend of high and rising debts and deficits, reversing the trend of the past decade.  It will also be interesting to see if governments try to sell us on the idea that lower corporate taxes are a necessity to keep economies growing, resulting in individuals shouldering a heftier share of the revenue necessary to achieve sovereign fiscal balance.

Ten Billion of us in 2100 - U.N. World Population Prospects

A very lightly covered recent story was the release of the United Nations "World Population Prospects: The 2010 Revision" report in early May.  This fascinating study gives us some insight into how our world will look in the future and how population distribution will change over the next 90 years.

On with the data.  Over the short term, the United Nations projects that the world's population will reach 7 billion people by October 31st of this year.  Using their medium variant of population growth, the United Nations projects that the world's population will reach 9.306 billion by 2050 and 10.124 billion by 2100.  Here is a chart showing their population projections using the medium variant which is defined as the variant where the fertility rate in all countries of the world converges to the replacement level:

Much of the population increase is projected to come from high-fertility countries, 39 of them in Africa, nine in Asia, six in Oceania and four in Latin America.  According to the study, very small variations in fertility rates can produce major changes in population over long periods of time.  For example, in the high projection variant where fertility increases to a mere one-half child over the medium variant (the replacement level of fertility), the world's population will reach 10.6 billion in 2050 and 15.8 billion in 2100.  In the low projection variant where fertility decreases to just one-half child below the medium variant, the world's population will reach 8.1 billion in 2050 and will decline over the next 50 years to 6.2 billion in 2100.  I find it rather amazing how having one-half child more or less can have such a massive impact on the world's population over a 90 year period.

Today, 42 percent of the world's population lives in low-fertility countries where women are not reproducing enough to ensure that they have at least one daughter that survives to the age where she will procreate.  An additional 40 percent of the world's population lives in intermediate-fertility countries where, on average, women have between 1 and 1.5 daughters and the remaining 18 percent of the world's population lives in countries where an average woman has more than 1.5 daughters.

Low-fertility countries include (among others) Japan, Canada, Russia, Australia, China, Japan, Brazil, Chile and all of the European countries except Iceland.  Medium-fertility countries include the United States, India, most of South America, northern and southern Africa, India, Turkey and Saudi Arabia among others.  High-fertility countries include most of the countries in central and sub-Saharan Africa, Pakistan, Afghanistan, Syria, Palestine, Syria and Yemen.

Here's an interactive map that you can use to see how fertility rates change with time.  I've taken one time slice from the present to show how sub-Saharan Africa has by far the highest fertility rates in the world today:

Obviously, the highest population growth potential in the future is in the high-fertility countries.  Between 2011 and 2100, using the medium variant projections, the population of the high fertility countries will more than triple from 1.2 billion to 4.2 billion.  Over the same time period, the population of the intermediate-fertility countries will increase by only 26 percent from 2.8 billion to 3.5 billion while the population of the low-fertility countries will decrease by 20 percent from 2.9 billion to 2.4 billion.  Here is a graph showing the population projections for each fertility group of countries:

Note that the populations of the low and medium-fertility countries peaks before the end of the century and then declines while the population of the high-fertility countries continues to rise well past the year 2100.  A prime example of population decline is found in the case of China.  China's current population of 1.33 billion is expected to rise to a maximum of 1.4 billion people around the year 2030 and then decline steadily because of their low fertility rate.  On the other hand, India which is a medium-fertility country, will see its population peak at 1.718 billion in 2060, making it the world's most populous nation in history.    By the year 2100, the low and medium-fertility countries will see their populations decline at about 0.3 percent per year in sharp contrast to the high-fertility countries which will still see population expansions of approximately 0.5 percent per year.

The growth in population will have a massive impact on the world's economy, especially among the world’s developing nations.  Much of the unrest in the Middle East in recent months can be attributed to a very high birthrate and declining child mortality rates in the 1970s and 1980s.  A large cohort of young adults in their 20s and 30s are now unable to support themselves because they cannot find meaningful employment.  This is certainly the case in Egypt where, despite the fact that many younger adults are university educated, they cannot find jobs that will allow them to start their own families.

As well, many people are skeptical of the very idea of "peak oil" and are most certain that the world's oil explorers can keep finding, developing and producing ever greater quantities of oil.  If the United Nation's medium variant projection is, in fact, correct, the 80 to 100 million barrels of oil per day that the world may produce over the next 25 years, will be insufficient to satiate the needs of nearly 9 billion people unless alternatives are found.  On top of the energy issue, the world has a finite area of arable land; should the population reach the 10 billion mark, more than 40 percent above today's level, my suspicion is that without massive scientific intervention, the production of food will have long past fallen short of meeting everyone's need.  It will be interesting to see if Malthus is proven correct and that increases in food production are arithmetic meaning that eventually the world's population will reach the point where it can simply no longer be fed.

The world is going to be a very different place in 2100!

CEO Compensation - How the Other Half Lives

The Wall Street Journal and Hay Group released its annual study of Chief Executive Officer compensation in early May.  The Hay Group is a "global management consulting firm", headquartered in Philadelphia, with 85 offices in 49 countries developing managers and executives.

In their 2010 CEO Compensation Study, the Hay Group examined the various elements that comprise the compensation packages of CEOs working for the 350 largest United States corporations.  The data used in the study is sourced from the proxy statements filed with American securities regulatory bodies between May 1, 2010 and April 30, 2011.

American corporations are now facing the impact of "say on pay", the rule adopted as part of the Dodd-Frank Wall Street Reform and Consumer Protection Act.  "Say on Pay" allows shareholders to vote on executive compensation packages for all public companies.  This is a step in the right direction as the original laws meant that "say on pay" was either non-binding or for companies that received funding from the Troubled Assets Relief Program.  Apparently, a very small percentage of shareholders are appear to be concerned about CEO compensation, especially in years where stock prices are in positive territory.  While that may be true among institutional shareholders that generally hold the lion's share of any publicly traded company, my suspicion is that the same cannot be said for many of the smaller volume "mom and pop" shareholders who hold a few hundred shares out of hundreds of millions floating out there in the ether.  Their voices against excessive CEO compensation are simply not heard and appear as a minor statistical blip on the proxy voting radar screens.

Despite statistics that show that the massive increases in CEO compensation is wearing thin amongst shareholders, boards of directors still approved pay levels that were substantially higher in 2010 - 2011 than they were in 2009 - 2010.  This could be due, at least in part, to improving profitability among the 350 companies in the study; on average, corporate net income was up 17 percent on a year-over-year basis and shareholder return averaged 18 percent.  Hey, it's a lot easier for shareholders to digest a big pay raise for a CEO when the stock value is climbing than when it's falling!  The major change in compensation was in the emphasis on performance related long-term incentives rather than just stock options.  As well, a smattering of companies eliminated some of the perquisites that seem to accompany compensation for those who dwell at the top of the ivory tower.  After all, without the "toys", how are we going to attract the "boys"?

Here is a summary of what 2010 looked like on average for the "big guys" living in the plush corner offices:

Average Base Salaries: $1.1 million

Average Annual Incentive Payments: $2.2 million (up 19.7 percent)

Average Long Term Incentives: $6.2 million (up 7.3 percent)

The biggest gains were found in the Basic Materials sector which saw a pay increase of 27.7 percent with Health Care bringing up the rear (sad pun) with a tiny pay increase of only 0.2 percent.  By the way, if you take the measly $1.1 million that an average CEO is receiving as their base pay and divide that into a 40 hour work week, it works out to only $528.85 per hour.

A further breakdown of the compensation package shows that 41 percent of the long term incentive value was comprised of performance awards.  Stock options declined from 39 percent in 2009 to 34 percent in 2010.  Many corporations are now using a number of financial vehicles when assessing long term incentives.  Rather than strictly using stock options, many are now using long-term performance plans and time-vested restricted stock.  Restricted stock has its advantages; once the stock is vested, it belongs to the CEO and is worth something whether or not the price has fallen.  On the downside, restricted stock is taxed in the year that the stock is vested and tax is paid as income rather than capital gains.  Ah, the poor CEO.  They just cannot win.

Let me rephrase that last sentence.  Sometimes they just cannot win...but that excludes last year.  With the rising stock market, many CEOs have seen the value of their long term incentive awards climb rapidly; in combination with the equity granted as part of their compensation during the market lows in 2009, most CEOs are sitting on a very tidy sum of "in the money" stock.

Lastly, let's take a quick look at CEO perquisites.  Of the 350 companies in the study, a whole 55 disclosed that they had eliminated at least one of their perks.  Tax gross-ups on perquisites were eliminated by 28 companies followed by 10 companies that eliminated country club memberships.  On the upside, if you happen to be a CEO in the study group, there are still 219 of your pals out there who are still using the corporate aircraft for personal use.  Hey, why fly in cattle class when you can take the company bus!  I just love this quote from the press release for the study:

"By the end of the year, many companies decided that these items weren‟t worth the attention they were getting, forcing executives to bite the bullet and pay their own way on many of these items."

Poor, poor babies.  Apparently even a whiff of the lifestyle of the sweaty masses is distasteful to their sensibilities.

In closing, I'd like to make one brief comment on CEO compensation in comparison to the wages earned by those who sweat for a living (and by that, I don't mean sweating on the country club tennis courts).  Back in September 2011, the Institute for Policy Studies released their "Executive Excess 2010: CEO Pay and the Great Recession" study.  In that study, they show that in 2009, the average American CEO made 263 times the compensation received by their workers.  This is up from less than 30 times in the 1970s.  In 2009, the compensation for an average CEO was $8.5 million, up from $1.8 million in the years from 1980 to 1989 (adjusted to 2000 dollars).  In February 2011, the Congressional Budget Office released their report entitled "Changes in the Distribution of Worker's Hourly Wages between 1979 and 2009".  Between the years 1979 and 2009, the median wage for men rose a massive 8 percent after inflation to $18.50 per hour.

I wonder if personal use of the corporate jet is included?

Property Taxation - Taxing Your Wealth

As we are all aware, governments around the world are awash in their own sovereign debt.  Fortunately for all of us, the Organization of Economic Co-operation and Development has released their Tax and Economic Growth Economics Department Working Paper Number 620 by Asa Johansson, Christopher Heady, Jens Arnold, Bert Brys and Laura Vartia.  This paper examines the design of tax structures across the 21 OECD nations over the past 34 years and suggests how taxes can be "tweaked" (raised) without interfering with economic growth.  The authors note that high corporate taxes are found to be the most harmful for economic growth, followed by personal income taxes and lastly by consumption taxes.  They also note that recurrent taxes on immovable property (what we in North America call real estate property taxes) have the least impact on economic growth and suggest that if nations wished to remain tax revenue neutral and still grow their economies, they should shift their tax base from income taxes to recurrent taxes on immovable property.  Just in case you missed what the authors are getting at, they are suggesting that governments could raise extra revenue to reduce their debts without hurting economic growth by increasing property taxes.  That's what I'm going to focus on for this posting.

Here is the opening paragraph of the paper:

"Tax systems are primarily aimed at financing public expenditures. Tax systems are also used to promote other objectives, such as equity, and to address social and economic concerns. They need to be set up to minimise taxpayers’ compliance costs and government’s administrative cost, while also discouraging tax avoidance and evasion. But taxes also affect the decisions of households to save, supply labour and invest in human capital, the decisions of firms to produce, create jobs, invest and innovate, as well as the choice of savings channels and assets by investors. What matters for these decisions is not only the level of taxes but also the way in which different tax instruments are designed and combined to generate revenues (what this paper will henceforth refer to as tax structures). The effects of tax levels and tax structures on agents’ economic behaviour are likely to be reflected in overall living standards. Recognising this, over the past decades many OECD countries have undertaken structural reforms in their tax systems. Most of the personal income tax reforms have tried to create a fiscal environment that encourages saving, investment, entrepreneurship and provides increased work incentives. Likewise, most corporate tax reforms have been driven by the desire to promote competition and avoid tax-induced distortions. Almost all of these tax reforms can be characterised as involving rate cuts and base broadening in order to improve efficiency, while at the same time maintain tax revenues."

The paper focuses on how changes to various taxes affect GDP and not specifically on the actual level of those taxes.  The authors attempt to determine how countries can best ensure continued maximum economic growth by fine-tuning their blend of various taxes and state that it is important to "…disentangle the revenue raising function of the tax system from its other objective, e.g. equity, environmental or public health matters.".  I'd say that most governments strictly look at taxes as means of maximizing their ability to grab cash in a desperate attempt to balance their ledgers, particularly in this time of massive deficits and mounting sovereign debt, but that’s just my opinion.

The authors note that in many OECD nations, governments have adopted a flatter personal income tax structure.  This has resulted in a reduction in the top statutory tax rates with average workers seeing a far smaller cut in their level of taxation.  As well, cuts in corporate tax rates have taken place in many countries with these cuts being  accompanied by a drop in taxation on dividends.  Once again, increased deficit spending means that these decreases in revenue need to be filled in some way.  The authors suggest that the best way to grow tax revenue is to increase the taxes on residential or immovable property and other properties such as net wealth, inheritances and legal transactions.

Property taxes are normally not collected by national governments.  Instead, it is often left up to state, provincial or municipal levels of government to collect these highly unpopular taxes.  Among OECD nations, the revenue share of property taxes has remained relatively constant except in France, Ireland, Korea, Luxembourg and Spain where the share of total revenue has risen by 2.5 percentage points since 1980.  For some OECD nations including the United Kingdom, Canada, the United States and Korea, at least 10 percent of their tax revenue (in 2005) was collected from property taxation.  These include taxes on immovable property (again, what we think of as real estate property taxes - paid by both individuals and corporations), taxes on net wealth (again, paid by both individuals and corporations), taxes on gifts and inheritance and taxes on financial and capital transactions.  Annual taxes on immovable property that are collected at the subnational level account for half of all property taxes with taxes on financial transactions accounting for about one-quarter.  Here's a graph showing how property tax revenues as a percentage of GDP have changed over the past 35 years noting the gentle rise in taxes on immovable property:

The authors observed that owner-occupied housing is taxed at a particularly favourable rate.  In some nations, imputed rental income (see below for definition) is taxed under income tax (Belgium, Netherlands, Norway and Sweden), in other nations, mortgage interest payments are deductible from personal income taxes (United States) and in Belgium and Spain, even principal repayments are deductible.  As well, capital gains on the sale of owner-occupied homes are not subject to capital gains taxes although in all countries but Canada and Sweden, if the home is sold as part of an inheritance, the capital gains are taxable.

Here is a table showing how residential property taxes vary across several OECD nations:

The authors feel that recurrent taxes on immovable property are more efficient than other forms of taxation since their imposition has a less adverse impact on the economy.  Unlike corporate taxes, they do not impact the decisions of producers to invest in human or mechanical capital (i.e. create employment) and they do not impact the plans of businesses to produce more goods.  The immovable property tax base is stable and predictable since there are generally less cyclical fluctuations in real estate values.  An obvious exception to this would be for those who happen to have lived in the United States over the past 5 years; many municipalities have seen their property tax bases severely eroded as house prices have fallen and homes have been vacated although it is important to note that this had generally not been the trend until the Great Recession.  Most importantly to those who will collect these taxes, evasion is very difficult since the physical nature of the taxable asset (i.e. your house and lot) make it basically impossible to move or hide.  As well, governments love these taxes because they are easy to assess and very cheap to collect.

Property taxes on land and buildings can also be used to affect how underdeveloped land is used.  As the system stands now, low taxes on vacant property and undeveloped land can encourage the owners to keep the land undeveloped which keeps the assessed value of the land at a low level; this is seen to be an inefficient use of property since, from a government’s perspective, it generates far less tax revenue than it could.  This is already becoming an issue in some municipalities.  I can recall a friend telling me that a several acre plot of land that they owned outside of a major city was being taxed as though it were fully developed since it was their choice to retain it as an acreage surrounding their house rather than selling it off as a residential development.  That strikes me as more than a bit unfair.

I found it interesting that the authors are concerned that the preferential tax treatment of housing has distorted "capital flows".  This means that since owning a residence is taxed at a lower rate than other forms of investment that "investors" will prefer to buy real estate rather than invest in stocks or bonds because any gains on these investments are taxed at a higher level.  The authors feel that this has and will continue to result in the creation of housing market bubbles.

The authors state the following:

" The distortion between housing and other investments should be removed by taxing them in the same way: taxing the imputed rent and allowing interest deductibility. "

Here is the definition of "imputed rent":

"The amount (of money) that would have changed hands had the owner and occupier been different persons is called the imputed rent.” 

Imputed rent is just a technical way of describing how much value is in your home based on what you would have to pay to rent a similar dwelling from another person.

Basically, the OECD recommends that home owners be taxed on the value of their home based on what they could rent it for rather than an assessed value most often based on potential market pricing.  While, as noted previously, some countries already assess property taxes based on the imputed rent, many governments underestimate the rental value according to the authors.

To summmarize, the authors of the OECD paper feel that property taxes, particularly those on real estate, are the best way for governments to raise revenue to assist in balancing their deficits and reducing their debts (like that's ever going to happen!).  An increase in immovable property taxes would be least likely to harm economic growth and would have the added benefit of reducing investment in less productive home ownership thereby reducing the upward pressure on prices that has created a housing bubble.  As well, by reducing investment in real estate, investors would be forced to invest in other products which would result in more meaningful increased economic growth.

To say that I'm skeptical of this idea would be a vast understatement.  This appears to be yet another scheme to encourage governments to find a way to help taxpayers part with more of their income.  As part of a “wealth tax” package, governments could ultimately have the ability to tax your real estate assets more heavily as they rise in value or as you accumulate wealth assets of other types.  That would result in a disincentive to save since as part of the “wealth tax”, inheritance taxes would also likely be imposed or raised.  Perhaps, as the authors suggest, such a tax scheme would generate additional economic growth.  My suspicion is that, with our spend and tax governments, any additional tax revenue would simply allow them to overspend even more than they already do.  Rather than tweaking the revenue side of the balance sheet, perhaps more energy needs to be put into controlling the spending side.

Call me a cynic.  An untrusting one.

Rebuilding the Liberal Brand - An Open Letter to Alfred Apps

An Open Letter to Alfred Apps, President of the Liberal Party of Canada

Dear Mr. Apps,

Now that Canada’s 41^st Election is behind us, I thought I’d take this opportunity to contact you and offer a few of my thoughts on the debacle of May 2nd, 2011.

You’ll soon be looking for a new leader.  This time out, I would strongly suggest that you actually hold a full leadership convention with an actual slate of candidates, that is, if anyone actually wants to take the helm of an obviously sinking ship. I realize that it is going to be difficult to attract quality candidates but you and the Executive team of the Liberal Party have to do your best.  Surely it can’t be that hard to find a candidate that is more dynamic and more likeable than Mr. Harper, can it? 

Here are some character issues that are best avoided if you want to have a successful campaign in 2015 (or whenever Mr. Harper decides to allow Canadians to vote the next time):

1.)   You should probably rule out anyone with an academic background since they seem to really have a difficult time actually relating to the “sweaty masses”.  Sure, they get out there, roll up their sleeves, kiss a few hands and shake a few babies but they really don’t look like they are enjoying it.  Canadian voters may be a pretty dumb lot but we know sincerity when we see it...and we certainly haven't seen it for a while.

2.)   Candidates that have more than 4 years of University education are acceptable but only if they have degrees in economics, law or political science so they at least appear to be Mr. Harper’s intellectual equal.  Where possible, degrees should be domestic unless they are from a university that is obviously inferior to the University of Calgary.

3.)   I’d also suggest that you steer clear of candidates with job experience outside Canada.  After all, you found out that anyone that has worked anywhere other than Canada is most likely not really a Canadian and has only their own interests at heart and could pack up and leave at any time because they left their heart "...in San Francisco..." or wherever.

4.)   Former politicians (Bob Rae) with allegiances to another political party (Bob Rae) are best avoided at all costs (Bob Rae).  Any actions, inactions or missteps that they (Bob Rae) took while in office, whether it was their fault or not, are great fodder for the next round of Conservative television, radio and print media attack ads that are sure to start in the next couple of months even while the Liberal Party is leaderless.

For the next federal campaign, I would suggest that you do your best to hire someone who has been trained at the “Karl Rove School of Political Dirty Tricks and Innuendo” to manage the Party’s campaign efforts.  As we all know, the Conservative Party of Canada certainly learned a few tricks from watching the master.  By hiring a person of this ilk, you know that he or she will have no conscience when it comes to fighting back should the CPC use their political propaganda machine to once again attack your candidate mercilessly over something they said, did, inferred or thought decades in the past.  After all, Mr. Ignatieff’s biggest fault was appearing to be the consummate gentleman and perhaps if a “bastard” prodded your next leader behind the scenes, the new leader would be able to stoop to the level of discourse that the CPC is so fond of and that at least some voters appear to swallow without thinking.

While campaigning, stick to one and only one theme.  Mr. Harper was very successful with his use of two, simple words – the dreaded “separatist coalition”.  Even the least intellectual of Canadian voters understands the word “separatist” and knows in his or her heart of hearts that separation is a very evil thing.  Over the past 6 weeks, if Mr. Ignatieff had only stuck to the message of “contempt” and used it over and over again, perhaps it would have stuck to Teflon Steve eventually.  Instead, Mr. Ignatieff entered a verbal battle to the death wearing only kid gloves when faced with a nuclear arsenal of nasty verbiage from Mr. Harper.  This is the New Canada of Stephen Harper; political battles are not a duel between gentlemen any more.  This is political trench warfare and it’s going to get really ugly because, the next time out, you’re going to be trying to unseat a Prime Minister with a majority in the House that he’d been waiting for since he first found himself in Ottawa in the 1990s.

In closing, I’d like to offer my suggestion for your next leader.  He was born in Ottawa 43 years ago so it doesn’t get any more Canadian than that.  His father was a former MP, Senator and Governor General so his political credentials are apparently genetic.  This candidate is fluent in both official languages but does not have the Quebec albatross hanging around his neck.  His cultural background is Acadian rather than Quebecois and he hails from New Brunswick, one of the nice, non-threatening provinces where people take their politics seriously but are still pretty polite about it.  He is well-educated with a law degree from the University of New Brunswick and, rather unfortunately, a Masters of Law from the dreaded Harvard, but I’m pretty certain he stayed just long enough to get his degree and get the heck out of the United States.  He was first elected to the House of Commons in the election of November 2000 and has served on many committees over his tenure along with being named as Official Opposition Critic for Justice and the Attorney-General and the Official Opposition Critic for National Defence.  He did take a run at the leadership of your Party in 2008 but backed down in deference to Mr. Ignatieff, your Party’s overwhelming and misguided choice as the heir apparent.

Mr. Apps, I think that you need to do the Liberal Party of Canada and all Canadians a favour, sit down and have a chat with Dominic LeBlanc.

One last thing.  Remember democracy?  After the anointing of Mr. Ignatieff in 2009, Canadians aren’t so sure.   Don’t just appoint someone to the job of Leader.  You know how well that worked the last time.

Oil Scarcity and its impact on the Global Economy

In the latest edition of the International Monetary Fund's World Economic Outlook publication, the IMF dedicates a chapter entitled "Oil Scarcity, Growth and Global Imbalances" to an examination of the world's oil markets and the impact of growing oil scarcity on the world's economy.  In this document, the IMF seeks to answer the current status of oil scarcity, how oil scarcity will impact the global economy and how oil scarcity will impact economic policies around the world.

Now that the price of both Brent and West Texas Intermediate seem solidly positioned well above their lows of 2008, this is a timely study.  Demand for oil has risen and, for some major consumers such as China, consumption levels have reached new records.  Since oil is central to the world's economy, the impact of oil price volatility is key to economic growth and security.  While oil prices have risen and fallen over the past 4 decades, it is only now that the issue of looming oil scarcity is becoming increasingly discussed.

The authors of the report believe that the world is, in fact, reaching a point of increasing oil scarcity.  Demand from emerging economies is acting in concert with decreasing levels of growth in supply resulting in increasing tension in the world's oil markets.  The IMF distinguishes between an absolute drop in supply (decreasing absolute daily oil production level) and a drop in the level of oil supply growth.  If oil supply growth were to drop by one percentage point, annual global economic growth would slow by an annual rate of one-quarter of a point over the medium to long term.  On the other hand, a steady decline in absolute oil supply levels would have a much greater negative impact on the global economy even if there is an increase in substitution of other energy sources in the place of oil.  As well, the pace of the rise in oil scarcity will also affect the level of impact on the world's economy; should there be sudden downward trends in supply, the economic impact will be far greater than if supply constraints were gradual.

Let's start by looking at the concept of oil scarcity and the extent of the issue.  To put the importance of oil to the world’s economy into perspective, oil is a key factor in production and transportation and is the world's most widely traded commodity with world exports averaging $1.8 trillion annually over the years 2007 to 2009, about 10 percent of global exports.  Oil prices generally follow the economic law of supply and demand.  When demand rises, if the supply is steady, prices will generally rise which will ultimately result in both an increase in supply and a drop in demand.  The price of oil generally reflects the opportunity cost of bringing an additional barrel of oil to the market place.  In general and over time, a high price generally implies that oil (or any other commodity) either is (or is anticipated to be) scarce while a low price generally implies abundance.  Short term market fluctuations can occur that will lead to price spikes such as those seen in the 1970s OPEC embargo or the Gulf War in 1991 when the price spiked to just over $40 per barrel from just under $10 per barrel just five years earlier.  Over the longer term, oil price changes generally appear to be relatively smooth with a gentle rise prior to the rapid rise and fall in 2008 - 2009 which reflected issues in the world's economy rather than oil market macroeconomic factors.

The concept of oil scarcity is a contentious one.  Many authorities in the oil industry now acknowledge that the world may well be entering a point of supply constraints.  The decline in oil availability reflects the constraints placed by nature on the ability of the industry to profitably explore for and produce reserves.  When prices are low, the oil industry generally reduces capital expenditures which places downward pressures on supply.  On the other hand, mounting oil prices have resulted in technological advancements that have impacted industry's ability to bring certain reserves to market, for example, the advent of both deep water drilling and multi-stage hydraulic have allowed the industry to invest in higher risk/lower productivity play types.  It is the widespread use of enhanced technology that is now depressing natural gas prices in North America where both horizontal drilling and multi-state fracking have resulted in an oversupplied natural gas market.

The scarcity of oil is also related to the properties of the commodity.  Oil has unique physical properties that make substitution difficult, particularly in the chemical industry where it forms the feedstock for many of the items that we use in our daily lives.  If substitutes for oil for these products were found, oil supply constraints would have less of an impact on prices since rising demand for the substitute would dampen oil price volatility.

One of the fundamental factors that impacts the world's economy is the fact that oil is the world's most important source of primary energy with over 33 percent of the world's total with coal accounting for 28 percent and natural gas accounting for 23 percent.  In recent years, the world has experienced increased rates of growth in energy consumption, particularly from China who is now the world's number one overall energy consumer.  For the foreseeable future, growth in China's economy will be the primary driver of increases in global energy use.  In general, the world's developed economies (OECD nations) expand with little increase in energy usage, however, those non-OECD nations in lower income countries have a one-to-one relationship between economic growth and energy usage.  This means that a one percent increase in real per capita GDP is accompanied by a one percent increase in per capita energy consumption as shown in this graph:

Note that the share of the world's primary energy consumption for the United States, Europe and Japan is dropping while it is rising for India and the Middle East and rising markedly for China (blue line) as shown in this graph:

Given the one-to-one relationship noted above, the IMF forecasts that China's energy consumption is predicted to double by 2017 and triple by 2035 in comparison to its 2008 level.  In 2000, China consumed 6 percent of the world's overall oil consumption, this rose to nearly 11 percent in 2010 with coal accounting for 71 percent of total energy consumption and oil for 19 percent.

The IMF study also examined the elasticity of oil.  Elasticity is defined as "...the ratio of the percent change in one variable to the percent change in another variable. It is a tool for measuring the responsiveness of a function to changes in parameters in a unitless way..."  The IMF found that an oil price increase of 10 percent leads to only a 0.2 percent reduction in demand (low elasticity).  Over a longer term of 20 years, that 10 percent price increase reduces demand by only 0.7 percent, a very insignificant amount.  When looking at oil demand based on income, over the short-term, a 1 percent increase in income results in a 0.68 percent increase in oil demand; this drops to 0.29 percent over the longer term.  This is far lower than the increase in demand for total energy consumption meaning that as incomes rise, over the short-term, people increase their demand for oil but over the longer term, while their demand for all energy sources increases, they substitute other fuels for oil.  It is interesting to note that the demand for oil among the developed nations of the OECD changes very little when the price of oil rises when compared to the demand of non-OECD nations.  This is likely because during the oil price shocks of the 1970s and 1980s, nations such as the United States and France switched from oil to other means of power generation such as coal and nuclear.  The economies of the more developed nations are somewhat more immune from increases in the price of oil since their power generation does not require the use of oil.  The same cannot yet be said for those nations with less mature economies who still rely more heavily on oil.

What impact will increasing oil scarcity have on the global economy?  Strong and increasing oil demand is expected from emerging market economies where rapid income growth is being experienced.  Since oil production appears to have reached a plateau over the past decade, supply and demand could well fall out of balance.  As I noted above, even a drop in the average growth rate of oil production (not a drop in the absolute level of oil production) will have an impact on the world economy.  To put the following scenarios into perspective, oil production has grown at a historical rate of 1.8 percent annually.

Now let's look at two of the IMF oil scarcity scenarios:

1.) Oil production growth drops by a persistent 1 percent annual growth rate: In this case, an immediate oil price spike of 60 percent is predicted by the IMF models.  Over a 20 year period, a 200 percent increase in the price of oil is predicted.  This will result in a massive wealth transfer from consuming nations to exporting nations and will result in a much lower GDP for oil importers that is at least partially offset by a higher GDP for oil exporting nations.  On the upside, increased demand for goods from oil importers results in increased exports of these goods by the wealthier oil exporting nations.  Overall, the IMF feels that global economic growth is slowed by less than one-quarter of a percent annually over the medium and long term if oil production growth slows gradually.  

2.) Oil production growth drops by a persistent 3.8 percent annual growth rate: This scenario is more closely related to scenario anticipated by the proponents of "peak oil". In this case, an immediate oil price spike of 200 percent is predicted by the IMF models.  Over a 20 year period, an 800 percent increase in the price of oil is predicted.  Price changes of this magnitude have never been experienced by the world's economy and the impact would make it very difficult to carry out monetary policy.  The economies of emerging Asia would be highly impacted since their economic growth is at a one-to-one ratio with energy usage.  As well, the economies of those nations that have weak links to oil exporting nations, such as the United States, would be highly impacted.  It is likely that if oil output decreased substantially, oil exporting nations might well reserve an increasing share of their production for domestic use, shrinking the amount of oil available for the world's oil markets.  This could have the ultimate result of shrinking the world's supply of oil far faster than would normally be anticipated.  A persistent decline in oil production growth of this size would result in larger current account imbalances (exports minus imports) among nations with oil importing nations experiencing a 6 to 8 percentage point drop in GDP over the long term.

The state of oil scarcity can be mitigated by changes in government policy toward the development of sustainable sources of energy, particularly among nations that are net importers of oil.  Changes in policy will also be required for nations that use subsidies to keep energy costs reasonable for their citizens.  As oil scarcity results in higher prices, the fiscal cost of fuel subsidies could overwhelm the fiscal situation of these governments.  Removing such subsidies has often resulted in civil unrest, however, on the other hand, the reduction in subsidies would also allow market forces to work their way through the system to reduce demand as prices rise.  In place of subsidies, these governments will need to implement an enhanced social safety network to ensure that their citizens do not face increased poverty.

Governments around the world face a conundrum; by ignoring the issue now, the world's addiction to oil continues to rise unabated.  By acting too soon to curtail oil consumption through the use of policy interventions, the world's economy could be thrown into a premature economic malaise.  Since the scarcity of oil is a global problem, it is critical that governments throughout the world act in a cooperative manner to ensure that the ultimate outcome is one that is advantageous to all of us.  The sooner that action is taken, the better for everyone.