By Charles Lammam
and Hugh MacIntyre
The Fraser Institute
In debates about taxes, some scoff at the idea that people actually respond to higher rates by changing their behaviour. This is despite the mountains of economic research showing higher marginal tax rates reduce the incentives for individuals to work hard, expand their skills, invest, and engage in entrepreneurial activities. Others are also reluctant to accept that tax rates can influence people’s decisions about where to work and live. On this front, the evidence might be surprising.
Historically, Canada has lost highly skilled workers to the United States, a phenomenon often referred to as “brain drain.” For example, a Statistics Canada study found that Canadian emigrants to the U.S. in the 1990s were over-represented among the well-educated, upper income earners, and prime working age population (ages 25 to 44). It also found that, from 1990 to 1997, more Canadian knowledge-based workers (including physicians, engineers, and natural scientists) moved to the United States than the other way around. Most notably, for every American physician that moved to Canada, approximately 19 Canadian physicians moved to the U.S.
There are, of course, a number of reasons why Canadians move to the U.S. But research suggests that higher taxes play an important role, particularly for highly skilled workers. A study published by the influential academic journal Canadian Public Policy estimated that emigration to the U.S. would have been dramatically lower from 1995 to 2001 if Canada’s average total tax rate was equal to the U.S. Meanwhile, a paper published by the Institute for Research on Public Policy found that, from 1992 to 1996, Canadians who had the most to gain from higher income or tax savings by moving to the U.S. were more likely to do so.
International research also shows that taxes influence the mobility decision of highly skilled workers. An innovative study published in the prestigious American Economic Review found that the average and top (marginal) personal tax rates, as well as social security tax rates, play a statistically significant role in attracting foreign professional soccer players to top leagues in 14 Western European countries. The effect is particularly strong for high-quality players, defined as players who had been selected for national teams at least once in their career.
A more recent study, this one published by the National Bureau of Economic Research, used a similar method of tracking migration among a specific set of skilled workers. Specifically, the authors looked at “superstar” inventors, measured by patent citation data in eight countries (including Canada and the U.S.) from 1977 to 2000. The study found that the international migration of superstar inventors is significantly influenced by the effective top marginal tax rate.
Even federal NDP leader Thomas Mulcair understands how taxes can affect the mobility of workers when, in an election debate last year, he said: “On the question of personal income tax increases, we are firmly opposed to them. Look at a province like New Brunswick. They will have a tax rate of 58.75 per cent. Now New Brunswick doesn’t have a medical faculty. How is New Brunswick going to be able to attract and retain top level medical doctors when they’re going to be told, ‘Oh, by the way, our tax rate is now going to be close to 60 per cent?’ ”
So it should be concerning that Canada’s top combined personal income tax rates are now among the highest in the industrialized world. In Ontario, for example, the top combined federal and provincial personal income tax rate is 53.5 per cent- sixth highest among 34 OECD countries and second highest among G7 countries, behind only France, according to the latest available data.
The fact that Canada’s tax rates are often applied to lower levels of income than in other countries further erodes our tax competiveness. At an annual income level of C$150,000 or C$300,000, every province’s combined federal/provincial marginal tax rate is higher than the combined federal/state tax rate in every U.S. state.
People respond to higher tax rates in numerous ways, and the evidence suggests higher rates influence where people work and live. Of course, it is not the only factor at play, but if governments want to attract and retain highly skilled workers, as many claim, lower tax rates would help achieve that end.
Charles Lammam is the director of fiscal studies and Hugh MacIntyre is a policy analyst at the Fraser Institute.