Is Newfoundland a Petrostate? Part Two

It is instructive to use gross domestic product (GDP) as a means of evaluating whether Newfoundland and Labrador (NL) has become a rentier state. Let us compare across countries with firmly established rentier economies and analyze what share of GDP oil development constitutes: Saudi Arabia and Oman with 55 and 42 per cent, Venezuela at roughly 30 per cent, and Russia with close to 20 per cent. In NL, oil production accounts for 37 per cent of GDP. One additional characteristic of rentier economies is the small proportion of the labour force involved in the rent-generating industry, which, in NL, accounts for 5.4 per cent of all jobs.

Revenue derived from a particular rent-generating industry is another metric that one might use to analyze whether rentierisme has afflicted a particular jurisdiction: rentier governments depend heavily on resource revenues to fund programs and institutions. Indeed, the rapid influx of revenue from the rent-generating industry often encourages governments to adopt generous policy platforms. In the four rentier economies listed above, oil royalties as a share of total government revenue is 93, 45, 45, and 52 per cent, respectively. In NL, the provincial government derives 37 per cent of its revenue from oil royalties, reflecting the provincial government’s dependence on natural resource royalties.

These metrics seem to suggest that NL has become a rentier state, however, there are other elements that help determine whether that is the case.

The most common economic phenomenon associated with rentierisme is the deleterious “Dutch Disease,” which I described in an earlier blog post about NL’s experience with resource extraction. According to Kimble Ainslie, however, NL is not necessarily experiencing a “crowding out” of other industries or a decline in manufacturing employment. “Dutch Disease” typically occurs in an economy with a large non-resource sector, but NL’s agricultural and manufacturing industries are relatively small, and much too small in scale to export in significant quantities. (Non-resource sectors in NL account for 15.7 per cent of all provincial exports and 3 per cent of GDP.) Nevertheless, one could argue that NL’s persistent dependence on singular, direct sources of rent has suppressed non-resource growth in the first place.

If NL is suffering not from “Dutch Disease,” it could be suffering from a “resource curse,”–chronic political underdevelopment and corruption associated with resource dependency–which has retarded the province’s political environment over the years. Although the “resource curse” typically affects poor, developing countries, some aspects of it appear in NL. One consequence of lucrative resource rents, for example, is excessive, irresponsible government spending and NL is no exception: government after government in the province is guilty of increased spending habits and expensive social programs, not to mention public sector wage increases, etc. Furthermore, rentier states will earmark large, often dubious, public projects (read: Muskrat Falls).

Crowd-pleasing spending policies are commonplace in populist, single-party resource-rich states. Although a far cry from the petro-populism of Venezuela, the continuous rule of the NL Progressive Conservative Party, whose electoral victory roughly coincides with the beginning of the province’s oil boom, is intriguing. According to Reid and Collins, for example, former Premier Danny Williams used the oil issue in NL for political grandstanding and the demonization of his opponents.

Further to the aforementioned aspects of rentierisme, the most important long-term consequence of a rentier economy is a lack of incentive for diversification and long-term thinking, both of which result in economic vulnerability. Many Gulf countries have found it difficult to diversify away from the oil and gas industry, and with dwindling supplies in many of these states, in addition to the plummeting price of oil, the future looks grim. Thankfully, NL is less dependent on oil revenues, but, in the words of Finance Minister Ross Wiseman, recent budget shortfalls have one reason “… and that reason is oil.” Moreover, the provincial government has paid little attention to establishing a sturdier, more diversified source of revenue and it has had to make serious spending cutbacks.

In essence, although NL is heavily dependent on oil, and historically, single sources of revenue, it is not quite a textbook petrostate. The share of revenue and GDP resulting from resource rents is very high, but the effects of “Dutch Disease,” high levels of corruption and (serious) mismanagement, dysfunctional or authoritarian politics, and other ills commonly found in less-developed countries are less apparent.

Yet, the provincial government walks a fine line. The economy, albeit growing, does not seem to be diversifying. In addition, spending fell to reflecting falling oil prices, but per capita public debt remains the highest in Atlantic Canada, and as soon as rents begin flowing anew, spending will likely rise. In that case, and if government fails to encourage economic diversification–thereby continuing to place all of its proverbial eggs into one oil-slicked basket–the provincial economy faces the serious risk of economic decline.

As a matter of common economic sense, establishing a form of sovereign wealth fund (SWF) would benefit the provincial government in NL, and most importantly, the taxpayers who reside there. Liberalizing certain industries would also help them diversify and a more reserved approach to the oil and gas industry would eliminate the excessive emphasis on offshore oil. Finally, and perhaps most importantly, fiscal discipline is necessary and the provincial government must adopt measures that embrace it.

The future of NL’s aging population, and the younger generation there to support them, depends on the long term sustainability of NL’s economy. There is a lot to learn from the experiences of other countries with undiversified economies and the provincial government should take them seriously.

Leo Plumer is an AIMS on Campus Student Fellow who is pursuing an undergraduate degree in economics and political science at McGill University. The views expressed are the opinion of the author and not necessarily that of the Atlantic Institute for Market Studies

Government Assistance and Unintended Consequences: Scotsburn Dairy

Nova Scotia’s Scotsburn Cooperative Services Ltd. announced recently that they are in the process of selling their fluid milk operations to Montreal’s Saputo Inc. for $61 million and purchasing Quebec’s family-owned Ailments Lebel Foods Inc., which produces ice cream and other dairy products.

Narrowing the company’s focus seems like a reasonable strategy for any business that discovers their competitive advantage and seeks to expand upon it. However, considering the amount of provincial funds used this past August to support Scotsburn’s operations in Truro, Nova Scotia, their decision to relocate in another province is troubling.

In March, Saputo and Scotsburn will finalize the $61 million deal, after which Saputo will resume dairy operations as a major distributor of fluid milk to Atlantic Canadian processors. In addition to Saputo’s acquisition of Scotsburn’s distribution network, it will also obtain ownership of some of its capital assets in Nova Scotia and Newfoundland and Labrador.

The details of Scotsburn’s agreement to purchase Quebec’s Ailments Lebel Foods, announced on 22 January, remain confidential, although they will likely finalize them in March. Scotsburn’s acquisition is part of a broader strategy to penetrate Canada’s ice cream market and the deal between Saputo and Scotsburn demonstrate its confidence that it can emerge as an innovator in the dessert industry.

Overall, these developments are business as usual. This includes concerns about employment stability and the subsequent loss to communities dependent on Scotsburn for their livelihood. More important is that Scotsburn received $7.5 million in provincial funds in August 2013 to help support the expansion of its Truro operations. Some of the money came in the form of a forgivable loan, although the province earmarked $2 million for purchasing updated processing equipment.

Consequently, the decision to relocate represents a significant departure, since the province assisted Scotsburn to bolster its operations in Atlantic Canada and secure its presence in the region.

Nova Scotian’s should be questioning the province’s decision to allocate provincial funds to Scotsburn. The province provided nearly $10 million in government assistance to secure Scotsburn’s Truro operations and provided additional employment opportunities and it is hardly conceivable that relocating to Quebec will produce those results. In fact, the company’s current business strategy clearly does not require provincial assistance–it is always good to be in a position to sell. The fact that it received such large sums of assistance already is the cause for concern.

Notwithstanding these developments, Scotsburn is seizing an opportunity to narrow its operations and become more profitable. However, this decision is at odds with Nova Scotia’s government, which provided assistance solely for securing Scotsburn’s presence in the province. Government assistance should help the local economy by generating more economic growth, increasing the standard of living, and producing employment opportunities. Scotsburn’s departure from Nova Scotia shows that government assistance is not always the strongest alternative for retaining industry and bolstering economic activity. Indeed, it is possible for some actors to take advantage of these programs and without proper specifications, the likelihood is much greater.

Rachel Lowe is a 2013-2014 Atlantic Institute for Market Studies’ Student Fellow. The views expressed are the opinion of the author and not necessarily the Institute

Minimum Wage, Minimal Effect

The minimum wage is a classic wedge issue in political discourse and both sides of the argument represent wider philosophical camps. Proponents claim the policy helps exploited members of the working poor and promotes economic equality. Opponents criticize, however, criticize the minimum wage for hampering voluntary exchange and decreasing employment and competitiveness.

Those who value economic equality and fairness should back away from this current discourse and ask whether a minimum wage actually advances their objectives.  In practice, minimum wages poorly targets those it aims to help and has a number of adverse unintended consequences.

The most common criticism of minimum wage laws goes as follows: according to the law of demand, increasing the price of something decreases how much it people choose to consume. When the cost of low-wage labour increases, therefore, firms respond by scaling back their use of said labour through lay-offs or cutting hours. Research conducted by Canadian academics supports this assertion.

Supposing, for a moment, that minimum wage does not increase unemployment in the short-term, it is, in any case, likely to increase unemployment in the long-term. Because employers have invested in employee training costs and because there are costs associated with relieving employees (i.e. severance), for instance, businesses are less likely to cut jobs the day a minimum wage increase is legislated.

If firms are compelled to pay their workers more, they will use more effective means of production as substitutes for domestic labour. Using these substitutes–like automation and outsourcing–means that companies employ less labour.

A decrease in employment, however, is not the only possible outcome. The concept of compensating differentials, for instance, posits that wages are not the only compensation workers receive or, in the very least, consider. Rather, workers may be happier with a lower salary in exchange for something else, such as benefits or a safer work environment.

Faced with higher mandatory wages, firms may be compelled to curb other labour costs. For instance, they could remove training opportunities, stop providing compulsory uniforms, or make the workplace less comfortable by, for example, paying less for utilities like heating and air conditioning.

Let us imagine that increasing the minimum wage boosts the income of those fortunate enough to earn a wage at all. Does the mandatory wage increase help low-income households?

Unlikely. Looking at the profile of Canadian minimum-wage earners, roughly 6% of employed Canadians (most of which are students) live with their families, about 60% work part-time, and half leave their job within a year. These employees, in other words, are largely dependents working temporary jobs and not the working poor who policymakers attempt to target with minimum wage legislation.

If boosting the salaries of the working poor is the objective, looking at policies that address severe underemployment–policies that, for instance, provide basic minimum incomes or increase access to education–is a much more suitable measure. The minimum wage, however, is a distraction disguised as a panacea. Unfortunately, increasing it does little but harm to those it seeks to help.

Michael Sullivan is a 2013-2014 Atlantic Institute for Market Studies’ Student Fellow. The views expressed are the opinion of the author and not necessarily the Institute