Deficit Reduction: Don’t Forget Tax Expenditures

It’s budget season once again and governments wanting to narrow budget deficits should not forget about the billions of dollars in spending programs that are delivered through the tax system. Not all of these tax-based spending programs provide value for money. For example, the federal and almost all provincial governments provide inducements to Hollywood film producers to shoot films in Canada, at a cost of about $475 million each year, but my research shows that Canadians are poorer, not richer, as a result of this spending.

Tax credits for foreign location shooting are usually defended on the grounds that they create jobs. It is hardly surprising that a 25% subsidy raises output and employment in the film industry, but it is important to consider what happens when governments raise taxes or cut spending to finance the film tax credits, as they must. Higher business taxes will cause firms to cut back on output and employment, while an increase in personal taxes will cause individuals to spend less, which will also show up in lower demand for labour. Similarly, a reduction in government spending will feed through to lower output and employment. The bottom line is that the subsidized jobs come at the expense of activity in other sectors.

So if the overall level of employment does not change, why are Canadians poorer as a result of subsidizing foreign location shooting of films? An important part of the answer is that using taxes to finance the spending harms economic performance by affecting incentives to work, save and invest. A second part of the answer is that some of the tax assistance flows out of the country to Hollywood film producers, which directly reduces the real income of Canadians.

Film tax credits provide a benefit to Canada by encouraging foreign actors to work and pay taxes in Canada without consuming much in the way of government services. By increasing the scale of the Canadian film industry, the credits may also reduce production costs, which is also a benefit to Canadians generally.

But the benefits are small relative to the costs, and Canadians would be better off if film credits were eliminated even with generous transitional assistance for the workers and firms affected by the change. And while my research shows that the benefits would be maximized if governments act together, a province acting alone would also realize a net benefit.

John Lester, Research Fellow, The School of Public Policy