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After a period of relative calm and harmony in federal-provincial relations, thewaters of the Canadian federation are about to become very choppy, writes GeoffNorquay. He sees three reasons for the change: health care financing, theenvironment and equalization. In attacking the Alberta oil sands for their GHGemissions, he adds, Ontario and Quebec touched a “third rail” of Canadianfederalism — equalization.

Après une période de calme relatif sur le front des relations fédérales-provinciales, voicique la fédération canadienne se retrouve en eaux troubles, observe Geoff Norquay,qui voit trois raisons à ce changement : le financement des soins de santé,l’environnement et la péréquation. En s’attaquant aux émissions de GES causées parl’exploitation des sables bitumineux de l’Alberta, ajoute-t-il, le Québec et l’Ontario ontpar le fait même touché au « troisième rail » du fédéralisme canadien : la péréquation.

W hen Manitoba’s rookie premier Greg Selingerhosts the annual meeting of the Council of theFederation this summer, he may be in for a bit

of a surprise. The friendly and productive sessions of thepast few years are likely to be replaced by some serious out-breaks of acrimony.

The council was created in December 2003 to providean ongoing structure and focus for the annual meeting ofprovincial and territorial leaders, who agreed to “promoteinterprovincial-territorial cooperation and closer tiesbetween members…, foster meaningful relations betweengovernments based on respect for the Constitution andrecognition of the diversity within the federation, and showleadership on issues important to all Canadians.”

Council meetings have been pretty tame affairs in thepast few years, and for several good reasons:l The Martin government’s 2004 10-year deal with the

provinces and territories on health care financing estab-lished steady and predictable increases in federal trans-fers, essentially taking that contentious issue off thetable for a decade.

l Stephen Harper’s 2007 budget took a number of steps toaddress the fiscal imbalance within the federation,increasing transfers by a total of $39 billion in addition-al funding over seven years for equalization, the CanadaSocial Transfer, labour market training, infrastructure,and Canada ecoTrust for clean air and climate change.

l There’s been progress on interprovincial trade. Premiers

have finally reached the conclusion that since free tradeis working so well for Canada internationally, it mightactually be worth a try within our borders! In 2007,Alberta and British Columbia reached their Trade,Investment and Labour Mobility Agreement to easeaccess to each others’ internal markets, and otherprovinces have been looking at similar arrangements.In 2009, the council made additional progress inaddressing internal trade barriers, outlawing technicalmeasures to diminish trade in agricultural products andenhancing labour mobility between provinces.

l In February 2010, the premiers held an apparently suc-cessful round of meetings in Washington with theNational Governors’Association to focus on commonborder issues, energy and the environment.

S o what’s changed? And why might Premier Selinger facesome rather surly guests when he hosts his August meeting?The answer is because of three separate issues: health

care financing, the environment and equalization. Thehealth care issue is pretty straightforward, and features theclassic federal-provincial challenge of trying to match fiscalresources with program responsibilities. That one won’tdrive the premiers apart, but the other two issues likely willbe a lot more explosive. They have the potential of pittingprovince against province, with the federal governmentpotentially cast in the role of peacemaker. And some of theunfortunate linkages that are developing between the envi-

THE GATHERING STORM INFEDERAL-PROVINCIALRELATIONSGeoff Norquay

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ronment and equalization mean thatmaking peace will be a tall order.

The coming battle over healthcare financing is a movie we have allseen before, but not for a while. Thereason is that Paul Martin’s 2004Canada Health Transfer deal bought adecade of peace with the provincesover the funding of this country’s sig-nature public program. The operativeword here is “bought,” because theagreement reached in 2004 actually setthe cash levels to be transferred in leg-

islation through an automatic escala-tor that established a growth rate of 6percent annually over the life of theagreement. That formula will provide$25.4 billion to the provinces in thecurrent fiscal year, rising to over $30billion in 2013/14. In addition, there’sa tax transfer for health care that growsin line with the economy, which thisyear will provide an additional $13.1billion to support provincial healthcare programs.

W hen Paul Martin opened theSeptember meeting with the

premiers that led to the 2004 deal, heplaced a number of issues on the table,notably the need to reduce wait timesfor diagnostic procedures and treat-ments, family and community carereform, better planning for healthhuman resources, greater access tohome care, and improved Aboriginalhealth. Clearly some progress has beenmade. As the Canadian Institute forHealth Information reported at theend of 2009, strategies to reduce waittimes have demonstrably improvedaccess in a number of areas.Innovations in surgical techniques areleading to less invasive surgery, andnew therapies for a number of condi-tions can now be tailored to patients’genetic characteristics. Heart andstroke care is more effective, and sur-vival rates are going up.

Another key area of health carereform has not proven to be nearly assuccessful. For years, the federal andprovincial governments have pouredbillions of dollars into health informa-tion infrastructure with the objective ofreducing paper, creating electronichealth records, enabling more real-timeanalyses and developing templates thatmake information available in variousformats. These efforts have had disap-pointing results, and in Ontario and BCthey have been accompanied by damag-

ing spending and contracting scandalsthat have set back the process andthreatened public support. Economistshave been warning for years that healthcare expenditures growing at a mini-mum of 6 percent per year are unsus-tainable in the long-term, and that’swhy the failure of the health infrastruc-ture investments to produce efficienciesis so disappointing.

The 2004 Martin health care dealand the tremendous growth in federaltransfers it has fuelled were both madepossible by the expansion of thenational economy, which continuedthroughout most of the first decade ofthe 21st century until the fall of 2008.At that point the international reces-sion hit with a vengeance, and the fed-eral and provincial governmentssuddenly found themselves in deficitsdue to plunging revenues and the ris-ing stimulus spending needed to sup-port their economies.

While Canada is clearly movingout of the recession, even if the March4 budget’s forecasts are borne out, therewill still be a federal deficit of $8.5 bil-lion in 2013/14, when the next healthcare agreement must be negotiated.That’s not necessarily a deal- breakerfrom the federal point of view — we are,after all, talking about the singular pro-gram that has come to define Canadiancitizenship — but it’s likely to be a prac-tical constraint. Equally so will be the

provincial debt situation in 2013/14.With total provincial deficits that CIBCrecently estimated to be in the $70 bil-lion range, the federal government willbe watching provinces closely over thenext two to three years to see if they aremanaging down their deficits.

T he real wild card in the next feder-al-provincial health care negotia-

tions, and the one likely to strike themost fear in the hearts of provincialfinance ministers, is the looming

demographic challenge.The Parliamentary BudgetOffice (PBO) recently docu-mented the coming rise inthe share of Canada’s popu-lation that is 65 years of age

and older, beginning in the next cou-ple of years as the younger members ofthe baby boom generation begin toreach retirement. Given that maxi-mum demand on the health care sys-tem rises with age, the real crunchfrom this demographic juggernaut isstill some years away, but it isinevitably coming. Equally importantis this projection from the PBO:

the old age dependency ratio,defined as individuals 65 years ofage and over divided by the popu-lation between 15 and 64 yearsof age, is projected to increase sig-nificantly in the coming decaderising to 26.7 percent by 2019, a7-percentage point increase,which is roughly equivalent to thetotal increase observed over thelast four decades.In other words, we are facing a

future with not only a rising propor-tion of elderly Canadians makinggreater demands on health care, butalso a decline in the population ofworking age Canadians who will becalled on to meet those rising costs.That’s not a scenario designed to bringa smile to any finance minister’s face,federal or provincial.

What are the preconditions for asuccessful health care deal in 2013-14?First, that the economic recovery nowunderway continues and matures intosteadily growing government revenues.

The gathering storm in federal-provincial relations

There’s been progress on interprovincial trade. Premiers havefinally reached the conclusion that since free trade is workingso well for Canada internationally, it might actually be wortha try within our borders!

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Second, that the federal and provincialgovernments get their current deficitsunder control, and get firmly on a tracktoward budget balance. Those are fairlysignificant “ifs,” but they are just thestarting point. Given the demographicrealities facing them, the provinces andterritories will likely see renewal at a 6percent growth rate as a starting pointfor the negotiations. But a federal gov-ernment that since 2007 has been inthe process of transferring $39 billion tothe provinces to address the fiscalimbalance may see that growth rate asthe best it can do. Either way, thereremain some serious questions on thefiscal sustainability of health carespending to be resolved in the long run.

Let’s leave the last word on thisquestion to the Minister of Finance. Inhis postbudget interview with PolicyOptions in April 2010, Jim Flahertyaddressed the growth of health careexpenditures at the provincial level:

I tried to deal with it in Ontariowhen I was finance ministerthere, and it’s a tremendous chal-lenge, because regardless of thedegree of economic growth,health care costs will marchalong growing at 6 percent, 7 per-cent, 8 percent, 9 percent per yearin the absence of any rationalcontainment of health care costs,and it would be not good for thefederation, for the provinces to

just try to dump excess healthcare costs on the federal govern-ment, because the federal govern-ment doesn’t have the tools tocontrol health care costs becauseit’s not our direct jurisdiction.

T he second growing flashpoint infederal-provincial relations is the

environment.The Harper government came to

office unsure of its position on globalwarming and unclear on how to pro-ceed. Their first discovery was that theyhad been left an empty vessel by theLiberals. Despite brave promises to meetthe Kyoto targets, there was no real planfor how to achieve those objectives. The

Geoff Norquay

Quebec Premier Jean Charest tells a news conference in Rivière-du-Loup on January 12 that he takes back none of his stinging criticism of thefederal government at the climate change conference in Copenhagen last December. Standing beside him as he said this was Prime Minister

Stephen Harper, who declined to comment but was reportedly furious.

CP Photo

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necessary industry-by-industry negotia-tions had not taken place, and there wasno agreement on the market mecha-nisms essential for managing downGHG emissions. There were other com-plex questions to resolve: should targetsbe “intensity-based” or “true reduc-tions,” and would the reference year beKyoto’s or a more recent date?

In 2007, the federal government for-mally abandoned the Kyoto target of a 6

percent reduction from 1990 levels by2012, and established new targets for areduction of 20 percent below 2006 lev-els by 2020 and 60 percent by 2050. Itthen set to work to develop the marketmechanisms and the sector-by-sectornegotiations necessary to set regulations.Meanwhile, with their economies boom-ing and public opinion calling foraction, several US states and Canadianprovinces became restive at the apparentlack of action on climate change by theirrespective federal governments, anddecided to move on their own:l First up in 2007 was the Western

Climate Initiative, involving sev-eral western US states and theprovinces of British Columbia,Manitoba, Ontario and Quebec,which collectively committed towork toward a functioning cap-and-trade system by 2012.

l In 2007, Ontario announced a 6percent reduction target (based on1990 levels) by 2014, a 15 percentreduction by 2020, and 80 percentby 2050, and British Columbia setits targets at 33 percent below2007 by 2020 and an 80 percentreduction by 2050.

l In 2008, Alberta established thelong-term goal of stabilizing emis-sions and beginning reductions by2020, and then reducing emis-sions by 14 percent below 2005levels by 2050.

l In late 2009, Quebec adopted theEuropean Union standard of a 20percent reduction from 1990 emis-sions levels, the original Kyoto target.

As it turns out, most of these targetswere little more than public postur-

ing — attempts by the various govern-ments to convince their electorates thatthey were “really really” serious about tak-ing action on climate change. Real and

measurable results have been few and farbetween. And given its popular reputa-tion as the “bad boy” of GHG emitters, it’smore than a little ironic that Alberta is theonly administration in North America tohave put in place a regime with realrequirements for reductions (albeit inten-sity-based) and workable market mecha-nisms to achieve them. A year ago,Alberta was able to report that it hadreduced GHG emissions by 6.5 milliontonnes in the first 18 months of its pro-gram, and that Alberta emitters had paid$122.4 million into the province’sClimate Change and EmissionsManagement Fund, which supports inno-vative emissions reduction technologies.

I magine Alberta’s surprise, then, as itfound itself the subject of drive-by

attacks over the oil sands during the lastsix months from Quebec and Ontario.First, Premiers Jean Charest and DaltonMcGuinty met last September to warnthat they would not stand for the federalgovernment capping manufacturingemissions in their provinces in order to

allow lower emissions reduction targetsfor Alberta’s oil sands. Then inCopenhagen in December, the environ-ment ministers from Quebec andOntario repeated their criticism, warningthey would not shoulder the burden ofGHG emissions reductions on behalf ofthe oil sands. While their ostensible tar-get was the federal government, the over-all message was not lost on Alberta.Alberta responded with ads in major

Canadian newspapers with anot-so-subtle reminder forQuebec and Ontario of theeconomic benefits they real-ize from oil sands develop-ment: “No one should ignorethe economic stakes of thisdebate. Slowing our economy

is a guaranteed way to reduce emissions.But if Alberta’s economy stops growing,all Canadians will feel this pain.”

The pièce de résistance for Albertacame in February, when the QuebecDepartment of Economic Develop-ment’s Web site urged Quebec business-es to get in on the coming bonanza inthe oil sands. The Web site explainedthat Suncor, Encana and Imperial orwere going to be spending $200 billionon oil sands development in the comingyears, and invited businesses to join aQuebec-government-sponsored trademission to Edmonton to get in on thegoodies: “This is a unique opportunityfor (Quebec) businesses to positionthemselves to establish ties to the bigdecision-makers of Alberta’s energy sec-tor.” To many Albertans, this seemed tobe the height of hypocrisy.

Premiers Charest and McGuintymay not have realized it when they tar-geted the oil sands, but they had justtouched the “third rail” of Canadianfederalism. And that third rail travels awell-worn path through…equalization.

The gathering storm in federal-provincial relations

Given its popular reputation as the “bad boy” of GHGemitters, it’s more than a little ironic that Alberta is the onlyadministration in North America to have put in place aregime with real requirements for reductions (albeit intensity-based) and workable market mechanisms to achieve them.

Prince Edward Nova New Island Scotia Brunswick Quebec Ontario Manitoba

Equalizationpayments ($ millions) 340 1,391 1,689 8,335 347 2,063

Per capita (dollars) 2,429 1,529 2,314 1,107 29 1,794

TABLE 1: EQUALIZATION PAYMENTS, 2009-10

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Equalization was created in 1957 toaddress fiscal disparities amongprovinces by enabling the less prosper-ous provinces to provide “reasonablycomparable levels of public services atreasonably comparable levels of taxa-tion” (table 1). The program is gov-erned by a series of rules and formulas,and grows in line with the economythrough a three-year moving average ofGDP growth. The federal government

acts as banker, by applying the formulasand distributing the funds from thetaxes it has collected across the country.

For years, there have been sporadiccriticisms that equalization results inhigher levels of public services in theprovinces that receive the paymentsthan in those who make the payments.A recent study on the impacts of equal-ization promises to add a lot more fuelto this debate. In February, the FrontierCentre for Public Policy released “TheReal Have-Nots in Confederation:Ontario, Alberta and BritishColumbia,” by Ben Eisen and MarkMilke, which has been adapted forthese pages. The study compared theavailability of 10 separate public servic-es in have and have-not provinces andreported some startling findings:

There are substantially more doc-tors and nurses per capita, onaverage, in the have-not provincesthan in the have provinces. NovaScotia has 228 physicians per100,000 people and Québec has217 physicians per 100,000 peo-ple. The comparable ratio in themain have provinces is 176 inOntario, 197 in Alberta and 198in British Columbia per 100,000people…In education, undergrad-uate tuition tends to be lower in

the have-nots. Québec’s averagetuition is $2,167, while tuition is$5,643 in Ontario, $5,361 inAlberta and $5,040 in BritishColumbia…Daycare spaces aremore readily available in have-not provinces; a regulated spaceexists for 25 percent of Québecchildren under five years of age.The equivalent measurements inthe have provinces are 19.6 per-

cent in Ontario, 17.4 percent inAlberta and 18.3 percent inBritish Columbia.The study also found that

Quebec’s social services spending percapita stands at $2,342 per year, whileOntario, Alberta and BC spend $1,398,$1,592 and $1,702, respectively.

The conclusions drawn by theauthors of the Frontier Centre studyraise significant questions for the futureof equalization. As the report argues:l Services are not equitable between

jurisdictions because donorprovinces subsidize levels of gov-ernment services in the recipientprovinces beyond those availablein the have provinces.

l Have-not provinces tend to spendmore freely because their taxpay-ers are not forced to bear theentire cost of richer services,which undermines democraticaccountability.

l Equalization provides a disincen-tive for poorer provinces to controlspending and invest in productivi-ty to raise economic growth.The latter argument goes perhaps a

bridge too far, at least on the productivi-ty side, because effective social spendingactually contributes to overall productiv-ity, but the arguments about equity,

accountability and spending control aredifficult to dispute. And much of theproof for these conclusions can be foundin the comparative percentages ofprovincial revenue that are derived frommajor federal transfers (defined as equal-ization plus the Canada Health Transferand the Canada Social Transfer). Thestudy found that in the have-notprovinces, federal transfers account forbetween 25 percent (Quebec) and 35 per-

cent (Prince Edward Island)of provincial revenue, whilein the have provinces, theproportions are much lower,ranging from 7 percent inAlberta, to 12 percent inBritish Columbia and 13 per-cent in Ontario.

T he problem for Charestand the premiers of the

other have-not provinces is that theeconomic power shifts going on with-in the federation are beginning toweaken the traditional support amongcontributing provinces for the nation-building objectives of equalization.This is a significant shift. Althoughone Ontario finance minister famouslycomplained in the 1880s that Ontariodid not enjoy being the “milch cow”of Confederation, for the past 50 yearsat least, that province has embracedsupport for the poorer regions of thecountry as part of its national duty.

Until recently, it’s been the same inAlberta. Notwithstanding lingeringanger over the National Energy Program,the majority of Albertans adopted a sim-ilar spirit of generosity, as their petro-taxdollars increasingly flowed east to beredistributed to the have-nots throughequalization and other federal transfers.They knew Alberta was booming, andthey were pleased to share the wealthwith those who didn’t share their advan-tages. That all went sideways onceQuebec and Ontario started taking shotsat the oil sands.

N owadays, it’s common to findAlberta spokespersons talking

with a new edge about equalization.They are making the point that in

Geoff Norquay

In Copenhagen in December, the environment ministers fromQuebec and Ontario repeated their criticism, warning they wouldnot shoulder the burden of greenhouse gas (GHG) emissionsreductions on behalf of the oil sands. While their ostensible targetwas the federal government, the overall message was not lost onAlberta. Alberta responded with ads in major Canadiannewspapers with a not-so-subtle reminder for Quebec and Ontarioof the economic benefits they realize from oil sands development.

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2009, for example, Alberta citizens andbusinesses paid an estimated $40.5 bil-lion to the federal government in taxesand other payments, while gettingback only $19.3 billion in federal serv-ices. Not only does that easily fund theentire $14 billion spent on equaliza-

tion every year, but it’s a differencebetween what goes out and whatcomes back of $5,742 for everyAlbertan. And their collective responseto those who question transfers taint-ed by GHG emissions? “Well, if youwant to complain about our oil sands,you’d better expect Equalization to beon the table too.”

The coming debate about equal-ization will take place in a new nation-al economic environment in whicheconomic power within the federationhas been rapidly shifting west, and isincreasingly concentrated inSaskatchewan, Alberta and BritishColumbia. Meanwhile, Ontario’s econ-omy has suffered mightily from therecession, and Quebec continues topursue a set of economic and socialpolicies that many believe havereached their “best before” date.

It’s not just westerners who arechallenging the status quo. More andmore Quebecers are warning that theprovince needs to reconsider policiesthat enhance its eligibility for equal-ization. Former Quebec Premier LucienBouchard continues to question thetime-honoured “Quebec model.” In2005 he cosigned, with 12 otherQuebec notables, the “Clear-EyedVision of Québec” document, which,among other things, called for lowerpublic debt, an end to the freeze ontuition fees, increased investments inproductivity and innovation, and

higher electricity rates. None of thoseissues have been addressed, and theykeep coming back. In mid-March, theMontreal Gazette called on the Charestgovernment to raise the price of elec-tricity, noting the relationshipbetween low rates and equalization:

One reason for avoiding a realincrease in rates is that thatwould reduce Quebec’s equaliza-tion payout. Provinces’ resourcerevenue is a key factor in calcu-lating how much each provincereceives in equalization. So ifHydro-Québec remits moremoney to the government, thecheque from Ottawa wouldshrink, perhaps by about halfas much...Talk about moralhazard! Economist ClaudeMontmarquette compares this toa welfare recipient refusing toseek work because he would losehis benefits if he found ajob...This state of affairs invitesa considerable backlash fromthe rest of Canada.And respected Quebec journalist

André Pratte recently weighed in withthe following lecture for PremierCharest on the realities of living happi-ly within the federation:

In Quebec, we continue to spiton Albertan oil and gorge our-selves on our supposed greenvirtue. This hypocrisy only cre-ates a fury among Albertansagainst us, while having noimpact on the exploitation ofthe oil sands…Anotherapproach would consist of gen-erating, at all levels, a dialoguewith our Albertan fellow citi-zens. We should be interested in

what goes on there, and try tounderstand it. In short, we needto stop turning other Canadiansagainst us.In fairness, it must be noted that

Quebec's March 30 provincial budgetmade some initial if halting steps

toward addressing thecomparative imbalancesthat cause concern amongthe have provinces. Thebudget raised the provin-cial sales and fuel taxes,promised a 3.7 percentincrease in electricity rates(but not until 2014-15)and announced a stillundefined rise in tuition

fees. On the other hand, it set a goalof providing 220,000 $7 a day childcare spaces by the end of this year,which will not escape notice in otherprovinces. And with a gross debt of$160.1 billion, Quebec now has adebt-to-GDP ratio of 53.2 percent, thehighest of all the provinces.

It’s an axiom of interprovincialrelations in Canada that happinessreigns when the provinces and territo-ries are united against their commonenemy (and benefactor) the federal gov-ernment. At many times in Canadianhistory, an interfering, expansionist ortight-wad federal government has pro-vided the glue that held the provincestogether and created a common cause.That’s the case with health care financ-ing, but the linkage of environmentalissues and equalization is a new andpotentially divisive development. Newdynamics are in play.

And that’s why this summer’smeeting of the Council of theFederation could see some fireworks.So good luck with your first tour onthe national stage, Premier Selinger.And welcome to the NHL!

Contributing Writer Geoff Norquay, aprincipal of the Earnscliffe StrategyGroup in Ottawa, is a former seniorpolicy adviser to Prime Minister BrianMulroney, and was communicationsdirector for Stephen Harper in theoffice of the Leader of the Opposition.

Geoff Norquay

Notwithstanding lingering anger over the National EnergyPolicy, the majority of Albertans adopted a similar spirit ofgenerosity, as their petro-tax dollars increasingly flowed eastto be redistributed to the have-nots through equalization andother federal transfers. They knew Alberta was booming, andthey were pleased to share the wealth with those who didn’tshare their advantages. That all went sideways once Quebecand Ontario started taking shots at the oil sands.