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Oil prices are high now, but that wasn’t always the case ... and may not always be.

gdas/Getty Images/iStockphoto

Canada has been lucky for the past decade.

High prices for our oil, gold and other natural resources have supported the country's economic health, without much effort on our part to boost productivity, points out Peter Jarrett, head of Canadian economic analysis at the Paris-based Organization for Economic Co-Operation and Development.

In other words, we're like an orange-juice producer benefiting from high selling prices who doesn't have to figure out more efficient ways to squeeze more juice from each orange.

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As long as oil continues to sell for about $100 a barrel, we're okay, but we've become highly vulnerable to a major price decline, according to Mr. Jarrett.

"We get absolutely screwed if the price goes back down," Mr. Jarrett, a Canadian, said in a telephone interview. "That's very important: To have a plan of attack of what you would do if certain aspects of your economy are not robust to lower oil prices."

The economist's recommendations for how to increase productivity focus on competition, taxation and education. He outlined the proposals in a report published last month , following forecasts of key economic indicators out to 2060.

Productivity measures how efficiently inputs are transformed into goods and services, and the theory is that rising productivity indicates rising living standards.

The OECD report looks at "multi-factor productivity," designed to be a more comprehensive measure than labour productivity (output per hour worked) by including capital, labour, energy, materials and services. The organization forecasts that multi-factor productivity gains through 2060 will average about 1.5 per cent per year in Canada, faster than levels in the U.S. and Germany, but much slower than emerging markets such as Brazil, China, India and Indonesia.

Following is a condensed and edited telephone interview with Mr. Jarrett.

How do high oil prices affect productivity?

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The rest of the world is paying us $100-odd dollars a barrel for oil, and we can live pretty well off that, thank you very much. If they were only paying us $35 like they were 10 or more years ago, before the last major run-up took place, I think our productivity would be doing better, because we would be relying more on our brains rather than on the black greasy stuff in the ground.

When the world is willing to pay you a lot and you don't have to do too much, then the incentives to figure out ways of doing things more efficiently are lessened.

What happens if prices fall?

If the price goes down we get in deep trouble, and if we can't maintain the quantity, we're in deep trouble. But so far, things are looking good on both those fronts.

The price did go down about four years ago, at the beginning of 2009. The recovery was pretty rapid, and thank goodness for that, because the Canadian standard of living – not GDP and not GDP per capita, but what we actually have to spend – would have plunged if prices had stayed that low.

What will it take to get policies that promote productivity?

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If prices go down severely and stay down, there's no way there won't be reactions, both market based and political-system based.

Politicians react to demands for change, and there would be tremendous demands for change if we were only being paid half of whatever we're being paid now for our oil. It wouldn't be realistic to assume that there's no policy change in response to a huge oil-price change.

COMPETITION

What's an example where increased competition would boost productivity?

Dairy is one of the obvious ones. That's why I brought it up, and I also was the one who wrote the chapter [on dairy in a longer OECD report] a few years ago. I was so outraged by the dairy situation.

The government prevents import competition, it sets prices, it sets quotas as well. The quotas are probably the biggest thing.

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In a sense, the supply is fixed. Then if there is technological or productivity improvement, it just means that the price of the quota goes up, because the producers who make use of that productivity improvement make more profit, and you have to bribe them with higher prices to sell you their quota.

With a productivity improvement in a normal sector like cars, the price of cars goes down, and the consumer at the margin who couldn't afford a car might now be able to afford a car.

In dairy, if there's a productivity improvement, the only beneficiary is the dairy farmer, because the value of the quota goes up. That's all. Milk prices don't go down.

A somewhat similar situation was true in New Zealand until 30-odd years ago, when they trashed their whole regime of protection and decided to go free market. They're now the biggest producers of dairy products in the world, certainly for export. That puts a lie to all this business that says that Canadian dairy farmers need to be protected.

TAXATION

How does tax policy improve productivity, as in a value-added tax versus a sales tax? Your report says the OECD strongly supports the Harmonized Sales Tax and was saddened by British Columbia's decision to abandon it. (About half the provinces in Canada use an HST, and some levy a provincial sales tax.)

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The big story there is the fact that British Columbia did the right thing, then the politicians and businesses didn't sell it well, and they went back to the old system. They are now giving back to Ottawa all the financial incentives that they got. It's an absolutely crazy decision.

A value-added tax is much better than a sales tax because a sales tax artificially puts a wedge when there's a chain of production.

[He uses an example of a car maker inefficiently producing its own steel instead of buying it from a specialized steel maker, in order to avoid paying sales tax on the steel.] It means you are introducing inefficiencies because you are artificially encouraging companies to produce their own inputs when a specialist company – such as a steel producer – could do so more efficiently.

GST [the goods and services tax] is a value-added tax. HST is just GST plus a corresponding provincial value-added tax. The reason why it's "H" ST is because the base of the tax is harmonized. The provincial government gives up to Ottawa the responsibility of defining the tax base around the edges: what constitutes a taxable item and what constitutes a tax-free item, and stuff like that.

It reduces administration costs and collection costs both by government and the tax unit – the retailer, such as Wal-Mart, which has to program its computers and cash registers. If it sells a washing machine to you at its store in Mississauga, if it's harmonized, it just writes in the total rate and sends the money to Ottawa, Ottawa sends the share to Queen's Park, and it's all done easily.

It's more complicated if they have to worry about whether the washing machine is taxable under the Ontario base but not under the federal base, or vice versa.

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EDUCATION

What is most notable among your recommendations for education policy?

The one that's the most debated or debatable is the one where we call for greater differentiation between tertiary institutions that engage in research and those that focus primarily on teaching – again a specialization-based argument or comparative advantage.

Canada tries, and Ontario tries, to make all the universities competitive on an international level. Because the resources are just not there for a variety of reasons – Ontario's budgetary condition is pretty weak at the moment – it would be much better to concentrate resources [for research] on a smaller number of institutions and then leave the rest to be primarily teaching institutions.

A lot of places in Canada, Ontario in particular, for whatever reason have decided that it would be seen as a big scandal to the communities involved – Guelph and Peterborough and St. Catharines, for example – if they said to these universities: "You're doing a fine job in teaching, so specialize in it now." And to Toronto: "You're doing a fine job in research and we don't care if you really aren't the best teaching place. Instead of being 27th (or wherever they are) in research, try to get into the Top 10."

Being really good in all areas is really hard, you could say it's impossible. We think it's better to divide the institutions into two kinds.

Join the conversation on Canada's competitiveness by following Canada Competes on Twitter:@CanadaCompetes

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