The Structure and Presentation of Provincial Budgets

  • Bev Dahlby University of Calgary
  • Michael Smart University of Toronto

Abstract

Provincial governments seem to consider it only natural to finance public infrastructure using debt. There is a standard arsenal of arguments used to justify the practice, to the point where there are scarcely any political voices willing to dissent from the tradition. Financing a bridge or school with debt is like a family buying a house, goes one common rationalization, or like a business taking out a loan for equipment. Others argue that infrastructure investment can stimulate the economy and pays for itself over time. Another justification insists that it is only fair for future generations to shoulder some of the burden of infrastructure purchased today, since they will continue to enjoy it after living generations are gone. Still another holds that debt financing infrastructure offers the necessary smoothing of the tax rate over time. These arguments are widely repeated and accepted as these arguments are, but under closer scrutiny they hold almost no water at all. On the contrary, the economic analysis casts doubts on financing infrastructure using debt. If provinces want to build more roads, bridges, schools, airports, hospitals, and other infrastructure, they would do taxpayers a much bigger favour by financing it through current income. Building a government hospital is not the same as a couple taking out a home mortgage; that couple cannot increase its revenues the way a government can through higher taxes, and that couple has an earning life cycle (rising until the earners are in their mid-50s, and then declining until their income is largely comprised of public and private pensions and savings). Businesses primarily fund new investments using retained earnings; their use of debt is motivated largely by tax incentives that allow interest deductibility. Neither of these are reasonable comparisons for a government’s financing rationale. The fiscal stimulus argument is weak to begin with, as the timing of infrastructure spending is often too slow to be effective during a recession. It is a particularly so in Alberta, where unemployment rates are low and skilled labour is already at a shortage. And the idea that it is somehow fair to saddle future generations with paying for infrastructure they did not vote to build is problematic and permits current generations the ability to be more reckless than they might otherwise. But more to the point, most of the benefits of infrastructure is enjoyed by the generations who are living when it is built; less than 20 per cent of its utility accrues to unborn generations. Furthermore, the tax-smoothing argument implies that taxes should be increased (or other current spending cut) to finance an infrastructure program so that the present value of fiscal surpluses cover the debt incurred in financing construction — the key to satisfying the condition of debt solvency. Some infrastructure does “pay for itself” — when user fees or tolls are applied — and in those cases debt financing can be justified. But this almost never happens. Despite claims to the contrary, the cost of a school or a hospital can never be recouped in the higher productivity and wealth it might bring to the jurisdiction, since income taxes (particularly in Alberta) are so low. Therefore, when a province announces that it plans to build things, it should also indicate how it will raise the necessary funding to pay for it, rather than borrowing. This is not a message that provincial politicians will want to hear; indeed, their entire budgeting model — based on accrual accounting and capital budgeting — is predicated on the assumption that infrastructure is an asset rather than an expense, despite the fact that maintenance costs make every infrastructure project an ongoing obligation. This model — in part the result of balanced-budget rules — is the primary reason why the public finds provincial budgets to be notoriously incomprehensible. The self-imposed balanced-budget rules adopted by provincial governments are often only a symbolic gesture. If provincial governments want to be truly accountable to taxpayers, they should be prepared to finance a significant portion of the actual upfront cost of infrastructure out of current revenues and provide a more transparent cash-based accounting of revenues and expenditures in their budgets.

Published
2015-05-27
Section
Research Papers