PART III: Economic Progress and the Role of Government

1. When Government Protects the Rights of Individuals and Supplies Goods that Cannot Be Provided Through Markets, It Helps Promote Economic Progress

A wise and frugal government, which shall restrain men from injuring one another, which shall leave them otherwise free to regulate their own pursuits of industry and improvements, and shall not take from the mouth of labour the bread it has earned. This is the sum of good government.

- Thomas Jefferson (in a letter to Andrew Jackson)

THERE ARE TWO PRIMARY WAYS that a government can promote social cooperation and enhance economic welfare: (a) provide people with protection for their lives, liberties, and properties (as long as they were acquired without force, fraud, or theft) and (b) supply a few select goods that have unusual characteristics that make them difficult to provide through markets. Nobel laureate James Buchanan refers to these functions as the protective and productive functions of government.

The protective function encompasses the government's maintenance of a framework of security and order, including the enforcement of rules against theft, fraud, and the use of violence. Government is assigned a monopoly on the legitimate use of force in order to protect citizens from each other and from outsiders. Thus, the protective state seeks to prevent individuals from harming one another and to maintain an infrastructure of rules within which people can interact with one another harmoniously. The crucial ingredients of this infrastructure include the enforcement of contracts and the avoidance of restrictions, regulations, and differential taxes that would restrain exchange.

It is easy to see the economic importance of this function. When government performs its protective function well, individuals can have confidence that they will not be cheated and that wealth they create will not be taken from them by either selfish intruders or by the government via high taxes and the ravages of inflation. Simply put, this protection provides citizens with assurance that if they sow, they will be permitted to reap. When this is true, people will sow and reap abundantly.

On the other hand, when a government performs its protective function poorly, problems arise. If private ownership rights are not clearly defined and enforced, some parties will predictably engage in harmful actions toward others. They will take property that does not belong to them and will use resources without paying for them. When people are allowed to impose such costs on non-consenting parties, the "true" cost of producing goods will not be accurately registered by markets. Simultaneously, the resources for which property rights are poorly defined and enforced will tend to be over-utilized. Pollution is a common side-effect. Clearly, the protective function of government is vitally important.

The second primary function of government - the productive function - involves the provision of what economists call public goods. Such goods have two distinguishing characteristics: (1) supplying them to one individual simultaneously makes them available to others and (2) it is difficult if not impossible to restrict their consumption to paying customers only. National defense, flood control projects, and mosquito abatement programs provide examples of public goods.

It is extremely difficult for private businesses to produce and market public goods. It is easy to see why. Since the nature of a public good makes it impossible for a private business to establish a one-to-one link between payment and receipt of the good, the customer has little incentive to buy the good. Why would you want to buy it? After all, if others buy, you can consume the good without paying anything for it. Consider the case of a flood-control project. If a firm builds a dam to control flooding, it will be difficult if not impossible to provide the flood control to paying customers while withholding it from nonpaying customers. Recognizing this difficulty, the potential beneficiaries are generally unwilling to help cover the cost of the project. Everybody has an incentive to let "the other guy" pay. When this happens, however, the project may not be undertaken even if it is productive.

In the case of public goods, citizens may be able to gain if they undertake the potentially productive public good projects through government. In essence, activities of this type are what Adam Smith had in mind when he stated his famous "three roles for the sovereign." The legitimate function of government is to do those things that people cannot do at all, or cannot do very well, acting in their separate and individual capacities.

How can we tell if a government project is really productive? People have a tendency to believe that support by a majority makes a political action productive or legitimate. Perhaps surprising to some, if a government project is really productive, it will always be possible to allocate the project's cost so that all voters will gain. Consider the following benefits received and costs paid by voters from a project - perhaps the construction of a road:

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The project costs $25 and generates $40 of benefits for the voters. Since the benefits exceed the costs, the project is productive. If the project's $25 cost is allocated equally among the voters (Plan A), Adams and Brown gain substantially, but Green, Jones, and Smith will lose. The value of the project to the latter three voters is less than their $5 cost. If the fate of the project were decided by majority vote, the project would be defeated by the "no" votes of Green, Jones, and Smith.

In contrast, look what happens if the cost of the project is allocated among voters in proportion to the benefits they received (Plan B). Under this arrangement, Adams would pay half ($12.50) of the $25 cost, since he receives half ($20) of the total benefits ($40). The other voters would all pay in proportion to their benefits received. Under this financing plan, all voters would gain from the proposal. Even though the proposal could not muster a majority when the costs were allocated equally among voters, it would be favoured by all five voters if they were taxed in proportion to the benefits that they received (Plan B).

This simple illustration highlights an extremely important point about voting and productive projects. When voters pay in proportion to the benefits received, all voters will gain if the govern-ment action is productive (and all will lose if it is unproductive). [The principle that productive projects generate the potential for political unanimity was initially articulated by Swedish economist Knut Wicksell in 1896. See Wicksell, "A New Principle of Just Taxation," in James Gwartney and Richard Wagner (eds), Public Choice and Constitutional Economics (Greenwich: JAI Press, Inc., 1988). Nobel laureate James Buchanan has stated that Wicksell's work provided him with the insights that led to his major role in the development of modern public choice theory.] When the benefits and costs of voters are directly related, productive government action will be favoured by huge majorities. Correspondingly, support by a supramajority, say 80 or 90 percent of the voters, is strong evidence that the project is productive. Conversely, if a supramajority cannot be achieved, this is strong evidence that the project is counterproductive when the cost-sharing among voters is closely related to the benefits received. Since truly productive projects will tend to be favoured by the overwhelming bulk of citizens, many economists believe that taxpayer funds would be spent more productively if a supramajority were required for the approval of each government expenditure program.

2. Government is Not a Corrective Device

PEOPLE OFTEN HAVE A TENDENCY TO THINK of government, particularly a democratically elected government, as a corrective device. They act as if government intervention will solve all types of problems (for example, poverty, inadequate health care, poor education, or the high cost of housing). This view is false. Government is not an entity that will always make decisions in the "public interest," however that nebulous term might be defined. Neither is it a corrective device available for use when market organization fails to achieve a desired outcome.

Government is merely a method of social organization - an institutional process through which individuals collectively make choices and carry out activities. There is no assurance that a policy favoured by a majority of elected officials will promote economic progress. In fact, there is good reason to expect that, unless the impulses of the majority are restrained, even popularly elected governments will often adopt policies that undermine economic prosperity.

Many people equate political democracy with a market economy. It is true that most countries that have market economies also have democratic political institutions. However, this is not always the case. For example, even though Hong Kong has a dynamic market economy, it has not had democratic elections, rather, as a colony of Great Britain it has been under the political control of the British for almost a century. Similarly, while Singapore, South Korea, and Chile have had growing market economies in recent years, the political regimes of these countries have sometimes been oppressive and authoritarian. Conversely, a political democracy does not always guarantee a market economy. Several democratic countries rely extensively on government edicts and tax-expenditure policies rather than markets to allocate goods and resources. Israel and India provide examples.

It is also important to recognize the fundamental differences between political democracy and markets. When a democratic government levies taxes in order to finance government provision of a good, coercion is involved. Dissenting minorities have to pay taxes to finance the good regardless of whether they receive it or value it. The power to tax allows a government to take property (for example, income) from individuals without their permission. There is no such parallel coercive power in the private sector. Private firms can charge a high price, but they cannot force anyone to buy. Indeed, private firms must provide customers with value, or otherwise they will be unable to attract the consumer's dollar. This is not always true with government. When government bureaus or business firms are financed or subsidized by taxes, there is no assurance that people value the output more than its costs.

Unconstrained political democracy is a system of majority rule, while market allocation is a system of proportional representation. When decisions are made through government, if the majority wants more spending on group housing, apartments in the central city, or sex education in public school, the minority must yield and pay the assigned costs. In contrast, the market allows various groups to vote for and receive what they want. For example, when schooling is allocated through the market, some parents choose schools that stress religious values, while others opt for secularism in education. Still others select schools that emphasize basic skills, or cultural diversity, or vocational preparation. With markets, each of these diverse preferences can be satisfied. One need not be a member of the majority; even small minorities are able to "vote" with their consumer dollars and get what they want. As long as any individual or group is willing to pay the cost, the market will respond to their preferences. Each is represented in proportion to the size of its purchases. Conflicts that arise when choices are made in the public sector are avoided.

3. The Cost of Government is: (a) the Decline in Private Sector Output as the Result of Government's Use of Resources, (b) the Cost of Tax Compliance, and (c) the Unrealized Gains from Exchanges Squeezed Out by Government

POLITICIANS OFTEN SPEAK AS IF TAXES are the cost of government. The cost of any product is what we have to give up in order to produce it. Government is no exception. There are three types of costs incurred when governments provide goods and services.

First, there is the loss of private sector output that could have been produced with the resources that are now employed producing the goods supplied by the government. The resources that go into police protection, highways, missiles, education, health care, or any other government "product" have alternative uses. If they were not tied up producing goods supplied through the public sector, they would be available to the private sector. Note that this cost is incurred regardless of whether public-sector goods are financed by current taxes, an increase in government debt, or money creation. It can only be diminished by reducing the size of government purchases.

Second, there is the cost of the resources used to collect taxes and comply with tax legislation: tax returns must be prepared and monitored; tax laws must be enforced. Resources used for these purposes are unavailable for the production of other things in either the private or public sector. In the United States, studies indicates that it takes businesses and individuals approximately 5.5 billion worker-hours (the equivalent of 2,750,000 full-time workers) each year just to complete the taxation paperwork. This compliance cost adds approximately 15 cents to every dollar of tax revenue raised by the government. In Canada, while precise estimates are not available, it can be assumed that about one-tenth of this cost is incurred or about 500 million hours of work. At $15.00 per hour this amounts to $7.5 billion or 13 cents out of every dollar raised in income taxes.

Finally, there is the "excess burden" cost due to price distortions resulting from taxes (and borrowing). As a result of taxes, some otherwise mutually advantageous exchanges will become unprofitable, and therefore they will be forsaken. Forgoing these potential gains will impose a cost on the economy. In other cases, taxes may induce individuals to allocate more time to leisure or non-market activities. This, too, will reduce output. Still other taxes will induce people to engage in counter-productive tax avoidance activities, which will impose an additional cost on the economy.

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Thus, government purchases cost substantially more than the tax bill or level of expenditures. These costs should be considered when analyzing the merits of government programs.

It is also important to recognize that politicians will attempt to conceal the cost of government. As Louis XIV's Finance Minister, Jean Baptiste Colbert, put it, "The art of taxation consists in so plucking the goose as to elicit the least amount of hissing." The political attractiveness of budget deficits, money creation, and various indirect taxes stems from the desire of politicians to conceal the costs of government programs.

The deception with regard to business taxes is particularly widespread. Politicians often speak of imposing taxes on "business" as if part of the tax burden could be transferred from individuals to a non-person (business). Purely and simply, business taxes, like all other taxes are paid by individuals. A corporation or business firm may write the check to the government, but it does not pay the taxes. The business firm merely collects the money from someone else - its customers, employees, or stockholders - and transfers it to the government. It may be good political rhetoric to talk about "business" taxes, but the fact is that taxes and all other costs of government are paid for by people.

4. Unless Restrained by Constitutional Rules, Special Interest Groups Will Use the Democratic Political Process to Fleece Taxpayers and Consumers

WHEN PUBLIC POLICY IS LIMITED within its proper boundary, government can contribute mightily to economic prosperity. However, this will require more than majority rule and the popular election of legislators.

Unfortunately, democratically elected officials can often gain by supporting policies that favour special interest groups at the expense of the general public. Consider a policy that generates substantial personal gain for the members of a well-organized group (for example, industrial interests, members of a labour union, or farmers) at the expense of the broader interests of taxpayers or consumers. While there are not so many members of the organized interest group, individually their personal gain is large. In contrast, while the people who are harmed are many, the cost imposed on each is small and the source of the cost is often difficult to identify.

For issues of this type, it is easy to see why politicians often support special interest groups. Since the personal stake of the interest group members is substantial, they have a strong incentive to form alliances and let candidates and legislators know how strongly they feel about the issue. Many interest group members will condition both their vote and their financial support almost exclusively on the basis of where a politician stands on issues of special importance to them. On the other hand, since a special interest issue exerts only a small personal impact on other voters, the bulk of voters will often be uninformed and generally care little about such an issue.

If you are a vote-seeking politician what would you do? Clearly, little gain would be derived from supporting the interest of the largely uninformed and disinterested majority, while vocal supporters, campaign workers, and most importantly, campaign contributions can be derived from the support of the policies favoured by the special interests. In the age of media politics, there is strong pressure for politicians to support special interests, tap them for campaign funds, and use the contributions to project a positive candidate image on television. Politicians unwilling to play this game - those unwilling to use the government treasury to provide well-organized interest groups with favours in exchange for political support - are seriously disadvantaged. Given the current rules, politicians are led as if by an invisible hand to reflect the views of special interest groups, even though this often leads to wasteful policies.

The bottom line is clear: representative government based solely on majority rule does not handle special interest issues well. The tendency of the unrestrained political process to favour well-organized groups helps explain the presence of many programs that reduce the size of the economic pie. For example, consider the case of agricultural marketing boards. These structures are established under the authority of provincial governments ostensibly to stabilize the cost and assure the quality of the products produced under their aegis. From an economic point of view, marketing boards are a government sanctioned cartel which controls the supply of milk, eggs, chicken etc., by controlling who may produce these products and under what conditions.

In practice, controlling the supply has meant reducing the supply and pushing up the price. The cartel is able to make higher prices stick because not only are they able to control domestic production, but they also control the ability of Canadians to import foreign produce. With absolute control over the supply, marketing boards effectively set the price wherever they want it - subject only to the political pressures that would be caused by too high a price.

The extent to which the price of agricultural products subject to the effects of these boards are above the price that would prevail in the absence of the boards can be judged from the cost of the quotas which must be acquired by each new producer before they can enter the market. In the case of eggs and milk production, for example, the quota, which is a piece of paper giving the right to produce to the owner, costs as much as the land, buildings, machinery and animals necessary to operate an entry level dairy or egg farm. In order to acquire this quota, the typical farmer has to acquire a rather large mortgage, or borrow heavily from his or her family.

Given the sizable impact on their personal wealth, it is perfectly sensible for farmers to use their votes, contributions and political influence to help politicians who support their interests. In contrast, it makes no sense for the average voter to investigate this issue or give it any significant weight when deciding for whom to vote. In fact, most Canadians, except those who buy their chicken, eggs and dairy products across the border in the U.S., are unaware that they pay several hundred dollars per year in the form of higher prices to egg and milk producers, most of which goes to wealthy farmers. As a result, politicians can generally gain by continuing to support the farmers even though the subsidy program wastes resources and reduces the wealth of the nation.

The political power of special interests also explains the presence of tariffs and quotas on steel, shoes, textiles, clothing and several other products. Federally-funded irrigation projects, subsidized agricultural grazing rights, subsidized business loans, subsidies to: airports; arts groups; cultural groups; young people; old people; those who live in areas of high unemployment, and of course those mainstays of Canadian politics, regional subsidies, are other examples of politically motivated policy. Each of these policies is rooted in the special interest effect rather than sound economic doctrine. While each such program individually imposes only a small drag on our economy, in the aggregate they bust the federal budget, waste resources, and lower the standard of living of Canadians.

The framers of the U.S. Constitution were aware of this defect of democratic politics (they called the interest groups "factions"). The Constitution sought to limit pressure from the factions in Article I, Section 8, which specifies that Congress is to levy only uniform taxes for programs that promote the common defense and general welfare. This clause was designed to preclude the use of general tax revenue to provide benefits to sub-groups of the population. However, through the years court decisions and legislative acts have gutted and distorted its meaning. Thus, as it is currently interpreted, the U.S. Constitution is no longer able to constrain the political power of well-organized special interest groups.

The fathers of Canadian Confederation betrayed no particular interest in or knowledge of this problem and there are no corresponding sections of the Canadian Constitution. It may be for that reason, or for the reason that Canadians are less hostile to the redistributive activities of government, that there tend to be more such special interest programs in Canada.

5. Unless Restrained by Constitutional Rules, Legislators Will Run Budget Deficits that are Often Harmful to the Economy

WHEN THE SPENDING OF A GOVERNMENT exceeds its revenues, a budget deficit results. In 1992, the federal budget deficit of Canada was $ 35.5 billion. Governments generally issue interest-earning bonds to finance their budget deficits. By year end 1992, the Canadian government had approximately $458 billion of bonds outstanding. These outstanding obligations are often referred to as the national debt. When the government runs a budget deficit, it increases the size of the national debt.

Deficit spending has become a way of life for modern governments. During the 1970s and 1980s, the central governments of every major industrial country consistently ran budget deficits. In turn, these deficits pushed up the national debt. As Exhibit 5 shows, the net national debt of Canada has been increasing as a percent of Gross Domestic Product (GDP) since 1975.

The source of the deficits is hardly a mystery. Parliamentarians like to spend money on programs to please their constituents. On the other hand, they do not like to tax, since taxes impose a visible cost on voters. Debt is an alternative to current taxes - it pushes the visible cost of government into the future.

What impact does debt-financing have on the economy? Do deficits harm future generations? Some argue that debt-financing permits us to have a party today and send the bill to our grandchildren. Clearly, this view overstates the case. The ability of debt to shift the cost of government into the future is limited. In Canada, most of the government debt is owed to Canadians. Canadians will have to pay higher taxes to meet the interest payments on the national debt. At the same time, however, most of the interest income will be received by Canadians. Thus, in the case of domestically held debt, our children and grandchildren will both pay the taxes to service the debt and receive the interest payments.

There will, of course, be redistribution associated with this process since only some of those who must pay the increased taxes will also be the recipients of the increased interest income from the bonds. But, more importantly, the interest cost of servicing the debt outstanding can rise very rapidly to use up the fiscal resources of the government. At the moment, for example, interest on the national debt uses up 31 cents of every dollar collected in taxes by Canada's federal government. That means that only 69 cents collected from current taxpayers is available to pay for current programs. The question is, will taxpayers continue to pay the relatively high tax rates imposed in Canada if smaller and smaller fractions of it are used to provide services?

When current resources are used to produce government services, these resources will not be available to produce other things. This will be true regardless of whether the government finances these services with debt or taxes. For example, when the government builds a highway, it draws resources with alternative uses away from the private sector. Current output of goods for private consumption and investment will decline as a result of the government's use of resources. This cost is incurred in the present; debt financing cannot push it into the future.

Does this mean that there is little reason to be concerned about an adverse impact of deficits on future generations? Not necessarily. Debt-financing influences future generations primarily through its potential impact on savings and capital formation. If the current generation leaves lots of factories, machines, houses, knowledge, and other productive assets to its children, then the productive potential of the next generation will be high. Alternatively, if fewer productive assets (and more government bonds) are passed along to the next generation, then their productive capability will decline accordingly. Thus, the true measure of how government debt influences future generations involves knowledge of its impact on capital formation.

Most economists believe that government borrowing to finance a deficit pushes interest rates upward. These higher interest rates, in turn, crowd out private investment. If the government used the borrowed funds for investment, additional government investment would help to offset the decline in private investment. But this is generally not the case. Most government spending in industrial countries goes for income transfers, business subsidies, and other things that provide immediate benefits to organized groups. Thus, the budget deficit almost certainly reduces the capital stock (tools, machines, and factories) available to future generations. As a result, the productivity and hence the wages of future workers will be lower than would be true in the absence of deficits.

If the deficits are not controlled, could they cause an economic collapse? When considering this view, it is important to recognize that borrowing is a standard method of doing business. Many large and profitable corporations continually have debt outstanding. As long as the net income of a business firm is large relative to its interest liability, the outstanding debt poses little problem. So it is with the federal government. As long as people have confidence that it can raise the tax revenue necessary to meet its debt obligations, the federal government will have no trouble financing and refinancing its outstanding debt.

Thus, the key to credit-worthiness is expected future income relative to interest liability. This is true for individuals, private businesses, and governments. What is happening to the credit-worthiness of the Canadian federal government? In the late 1940s, approximately 15 percent of Canadian federal revenues went to pay the interest on the national debt. As Exhibit 6 illustrates, interest costs were less than 14 percent of federal revenues throughout the 1951-1977 period. Since that time, interest costs as a share of federal revenues have risen, soaring to 35.6 percent in 1991.

This is a trend that cannot continue, at least not without serious consequences. If the interest costs continue to rise relative to federal revenues, people will become increasingly fearful that the government might resort to "printing-press" money in an effort to escape its loan obligations. If this should happen, the fear of rapid money growth and inflation would push interest rates up and make it even more difficult for the government to meet its debt obligations. If sufficiently intense, the fear of inflation alone could seriously disrupt the long-term capital market not only for the federal government, but for other borrowers as well. And if the government did resort to "printing press" money in order to pay off its debt, hyperinflation and a breakdown in the exchange system would result. The economy would be severely crippled.

Excessive debt has led to financial crises elsewhere. The economies of several countries, including Bolivia, Argentina, Chile, Brazil, and Israel have been ravaged in recent years by excessive debt, money creation, and runaway inflation. If the interest liability of the federal government continued to grow more rapidly than revenues, clearly Canada would not be immune to such an occurrence.

What needs to be done? The "deficit problem" is a political structure problem. Deficit spending is a natural outgrowth of unrestrained democratic politics. Borrowing allows politicians to supply voters with immediate benefits without having to impose a parallel visible cost in the form of higher taxes or user charges. If unconstrained by constitutional rules or strong convictions, predictably politicians will use deficits to partially conceal the cost of their programs from voters.

The unconstrained political process plays into the hands of well-organized interest groups and encourages "pork-barrel" spending. Each of the 295 Members of Parliament has a strong incentive to fight hard for expenditures beneficial to his or her constituents and little incentive to oppose spending by others. A legislator who is a spending "watch dog" will incur the wrath of colleagues favouring special programs for their constituencies. More importantly, the benefits (for example, tax reductions and lower interest rates) of spending cuts and deficit reductions will be spread thinly among the voters in all ridings. Thus, the MP's constituents will reap only a small part of these benefits.

It is as if 295 families go out to dinner knowing that after the meal each will receive a bill for 1/295th of the cost. No family feels compelled to order less, because their restraint will exert little impact on the total bill. Why not order shrimp for an appetizer, entrées of steak and lobster, and a large piece of cheesecake for dessert? After all, the extra spending will add only a few pennies to each family's share of the total bill. However, when everybody follows this course of action, many items are purchased that are valued less than their cost.

So it is with Parliamentary decision-making. Parliamentarians have a strong incentive to push for programs helpful to their own ridings, particularly when each recognizes that other legislators are doing so. Similarly, they have a strong incentive to conceal the cost of government programs from voters. Given this incentive structure, large budget deficits are the expected occurrence.

Would a tax increase reduce the budget deficit? A careful study of the Canadian record by Professors James Ahiakpor and Salleh Amirkhalkhali suggests that it would not. The reason, according to Ahiakpor, is that the tax increase provides greater revenues that spur Parliamentarians to consider even more spending programs that in turn wipe out the gains made in reducing the deficit. [James Ahiakpor and Salleh Amirkhalkhali, "On the Difficulty of Eliminating Deficits with Higher Taxes: Some Canadian Evidence," Southern Economic Journal, Vol. 56 No.1, July 1989, pp. 24-31.] The recent failure of a Conservative government in Ottawa to reduce the deficit below $30 billion, even though it greatly increased taxes, suggests that what Ahiakpor found historically continues to be the case.

The same seems to be true in the United States. A 1991 study prepared for the Joint Economic Committee of Congress found that since 1947, every new dollar of tax revenue generated spending increases of $1.59! Thus additional revenue led to even greater spending increases. In 1982 President Reagan agreed to a highly publicized tax increase if Congress would cut spending. Taxes were increased, but the spending cuts failed to materialize. Former President Bush fell into the same trap with his infamous 1990 budget agreement. Once again, taxes were raised, spending increased more than was projected, and the budget deficit expanded. Given the current political structure, there is little reason to believe that higher taxes will reduce the deficit. Congress will spend every dollar it can get its hands on, plus a few hundred billion more!

If we are really going to do something about the deficit, we will have to modify the political structure. The rules need to be changed, so it will be more difficult for politicians to spend more than they are willing to tax. There are several ways this might be done. The Constitution might be amended to require the federal government to balance its budget. Municipal governments in Canada are required to do this and in the United States most state governments are required to balance their budgets. A constitutional amendment requiring two-thirds or three-fourths approval of both the House of Commons and the Senate for spending proposals and increases in the federal government's borrowing power might be sought. This year's spending might be limited to last year's level of revenues. Proposed rule changes of this type would make it more difficult for legislators to spend, unless they were willing to tax or charge for the government services. Such rule changes would stiffen up the government's budget constraint, reduce the power of special interests, and discourage "pork-barrel" politics. They would also force legislators to consider more carefully the costs of government programs. An improvement in the cost-effectiveness of government would surely result.

6. When Government Becomes Heavily Involved Attempting to Help Some People at the Expense of Others, Resources Will Move Away from Production and Toward Plunder. Economic Progress Will Be Retarded

The tool of politics (which frequently becomes its objective) is to extract resources from the general taxpayer with minimum offense and to distribute the proceeds among innumerable claimants in such a way to maximize the support at the polls. Politics, so far as mobilizing support is concerned, represents the art of calculated cheating - or more precisely, how to cheat without being really caught. [James R. Schlesinger, "Systems Analysis and the Political Process," Journal of Law and Economics, (October 1968), p. 281.]

- James R. Schlesinger
U.S. Secretary of Defense, 1973-75

THERE ARE TWO WAYS INDIVIDUALS can acquire wealth: production and plunder. People can get ahead by producing things (or services) and exchanging them for income. This method of acquiring income both helps the trading partners and enhances the wealth of society. But sometimes the rules also allow people to get ahead by "plundering" what others have produced. This method not only fails to generate additional income - the gain of one is a loss to another - but it also consumes resources and thereby reduces the wealth of the society.

Governments promote economic prosperity when they encourage productive activity and discourage plunder. This objective can best be achieved by a government that acts as a neutral force, protecting property rights and enforcing contracts. When the effective law of the land makes it difficult to take the property of others, few resources will flow into plunder.

In the modern world, government itself is often used as an agent for plunder. The quantity of resources directed toward lobbying, political campaigns, and the various forms of "favour-seeking" from the government will be directly proportional to the ease with which the political process can be used for personal (or interest group) gain at the expense of others. When a government fails to allocate the cost of public sector projects to the primary beneficiaries (through user fees, for example) or when it becomes heavily involved in income transfer activities, people will spend more time organizing and lobbying politicians and less time producing goods and services. [See Richard Epstein, Takings: Private Property and the Power of Eminent Domain, (Cambridge: Harvard University Press, 1985) for a comprehensive analysis of this point.] Resources that would otherwise be used to create wealth and generate income are wasted fighting over slices of a shrinking economic pie.

In this era of the unconstrained state, income transfers from taxpayers to well-organized groups and voting blocs have become the business of modern politics in the wealthy industrial countries of North America and Western Europe. The competitive advantage goes to the politician who can figure out how to get revenues in the least offensive way and then use the funds to favour groups willing to supply the most votes in exchange for the transfers. Counter-productive, favour-seeking activities are a natural outgrowth of unrestrained democracy. Unless democratic governments are constrained constitutionally, politicians will enact programs that waste resources and impair the general standard of living.

7. The Cost of Government Income Transfers Will Be Far Greater Than the Net Gain to the Intended Beneficiaries

WHEN THE WAR ON POVERTY WAS DECLARED in the United States in the mid-1960s, and the government of Canada began its pursuit of "the Just Society," it was widely believed that poverty could be eliminated if only citizens were willing to transfer a little more income to the less fortunate members of society. They were, and income transfer programs expanded substantially. Social Welfare transfer payments, which include Old Age Pensions, Unemployment Insurance, Welfare, Canada Pension Plan and a range of miscellaneous programs, are the largest component of government spending and are growing faster than any other component of spending other than interest on the public debt.

In spite of this monumental effort, and the generosity of taxpayers, The National Council on Welfare and the Canadian Council on Social Development claim that there are still 4 million Canadians living in poverty! In part, according to Christopher Sarlo, the author of the book Poverty in Canada, published by the Fraser Institute in 1992, this impression of persistent poverty is largely a result of the way in which poverty has been measured. A more sensible measurement of poverty, excluding students and others for whom low income is a temporary state, finds it to be less of a problem. However, there can be no doubt that there is a persistent problem of poverty, and the question must be why that is so, given the nearly $100 billion which is taken from taxpayers and redistributed through government programs.

Economic analysis indicates that their ineffectiveness reflects a more general proposition: it is difficult to transfer income to a group of recipients in a manner that will improve their long term well-being. Once again, this proposition reflects the unintended secondary effects of the transfers. [See James Gwartney and Richard Stroup, "Transfers, Equality, and the Limits of Public Policy," Cato Journal (Spring/Summer 1986), for a detailed analysis of this issue.] Three major factors undermine the effectiveness of income transfers.

First, an increase in the size of the transfer sector will retard economic growth. Income is not like "manna from heaven." Neither is national income an economic pie that is baked by the government so slices of various sizes can be served up hot to people throughout the country. On the contrary, income is something that people produce and earn. It is earned by individuals who provide others with goods and services for which they are willing to pay.

Tax and transfer policies adversely influence both the taxpayer's and the transfer recipient's incentive to earn. As taxes to finance the transfers increase, taxpayers have less incentive to produce and earn and more incentive to invest in wasteful tax shelters. Some choose, in the face of higher taxes, to drop out of the formal economy and resort to barter or other less efficient forms of economic activity. Similarly, since transfer benefits tend to decline as the income of a recipient increases, the recipient will also have less incentive to earn since net income will increase by only a fraction - and in many cases only a small fraction - of the additional earnings. Thus, neither taxpayers nor transfer recipients will produce and earn as much as they would in the absence of the transfer program. In addition, the reallocation of income by politics will encourage people to spend more time politicking and less time producing. All of these factors will retard economic growth, which will tend to reduce the welfare of the intended beneficiaries as well as that of other citizens.

Second, competition for transfers will erode most of the long-term gain of the intended beneficiaries. In a world of scarce resources, governments must establish a criterion for the receipt of income transfers and other political favours. If it did not do so, the transfers would bust the budget. Generally, the government will require a transfer recipient to own something, do something, or be something. However, once a criterion is established, people will modify their behaviour to qualify for the "free" money or other government favours. As they do so, their net gain from the transfers declines.

The following thought experiment illustrates this important point. Suppose the government decided to give away a $50 bill between 9 a.m. and 5 p.m. to all persons willing to wait in line at the teller windows of the Bank of Canada. Long lines would emerge. How long? How much time would people be willing to take from their leisure and their productive activities? A person whose time was worth $5 per hour would be willing to spend up to 10 hours waiting in line for the $50. Others whose time was worth less, say $3 or $4 per hour, would find that what they had to do in order to get the transfer consumed much of its value.

This simple example illustrates why the intended beneficiaries of transfer programs are not helped much. When beneficiaries have to do something (for example, wait in line, fill out forms, lobby government officials, take an exam, endure delays, or contribute to selected political campaigns) in order to qualify for a transfer, a great deal of their potential gain will be lost as they seek to meet the qualifying criteria. Similarly, when beneficiaries have to own something (for example, land with an acreage allotment to grow wheat, or a license to operate a taxicab or sell a product to foreigners) in order to get a subsidy, people will bid up the price of the asset needed to qualify for the subsidy until the higher asset price captures the value of the subsidy. In each case, the potential beneficiaries will compete to meet the criteria until they largely dissipate the net value of the transfer. As a result, the recipient's net gain will generally be substantially less than the amount of the transfer payment. This explains why transfer programs have generally failed to upgrade the well-being of their intended beneficiaries.

Of course, unanticipated changes in transfer programs can generate temporary gains or losses for various groups. Once a program is institutionalized, however, competition will eliminate abnormally large returns from any activity that increases one's likelihood of qualifying for a government favour.

There is a third reason for the ineffectiveness of transfers: programs that protect potential recipients against adversity arising from their imprudent decisions encourage choices that increase the likelihood of the adversity. The transfers do two things to potential beneficiaries: (a) they make the consequences of the adversity less severe and (b) they reduce the incentive of potential recipients to take steps to avoid the adversity. The problem arises because these two things exert conflicting influences. For example, government willingness to provide disaster relief on an ongoing basis to those who suffer flood damage in a flood plain will make it less costly for people when floods strike. While that is not the intent, under these circumstances people are encouraged to build in flood-prone areas. As a result, the damage from floods is greater than would otherwise be the case.

Unemployment insurance provides another example. The benefits make it less costly for unemployed workers to refuse existing offers and keep looking for a better job. Therefore, workers engage in longer periods of job search and, as a result, the unemployment rate is higher than would otherwise be the case. The generosity of benefits for seasonal workers means that nearly half of unemployment insurance beneficiaries are now regular annual recipients. They have, in effect, planned their working lives around the program. In a large percentage of the cases, the workers involved in repeated annual bouts of unemployment work only the minimum number of weeks required to receive full benefits.

If you subsidize something, you will get more of it. Anti-poverty transfers are no exception to this general rule. Transfers directed toward the poor encourage high-risk lifestyles (for example, the use of drugs, dropping out of school or the workforce, births by single mothers, marital dissolution, and abandonment of children by fathers). All of these choices tend to increase the number of people who are poor. These secondary effects may not be very important in the short term. Over the longer term, however, the unintended negative consequences will be more severe. In addition, the government anti-poverty transfers crowd out private charitable efforts by families, individuals, churches, and civic organizations. When taxes are levied to do more about a problem, private individuals and groups will predictably adjust and do less to alleviate the problem.

From an economic viewpoint, the failure of transfer programs ranging from farm price supports to anti-poverty programs is not surprising. When the secondary effects are considered, economic analysis indicates that it is extremely difficult to help the intended beneficiaries over the long term. Because behaviour changes when benefits are offered there may even be a perverse effect, as with the increase in unemployment caused by unemployment insurance, so that the situation is actually made worse rather than better.

8. Government Central Planning of an Economy Merely Substitutes Politics for Markets; Such an Effort Will Waste Resources and Retard Economic Progress

The man of systemis apt to be very wise in his own conceit[H]e seems to imagine that he can arrange the different members of a great society with as much ease as the hand arranges the different pieces upon a chess-board; he does not consider that the pieces upon the chess-board have not another principle of motion besides that which the hand impresses upon them; but that, in the great chess-board of human society, every single piece has a principle of motion of its own, although different from that which the legislature might choose to impress upon it. If those two principles coincide and act in the same direction, the game of human society will go on easily and harmoniously, and is very likely to be happy and successful. If they are opposite or different, the game will go on miserably, and the society must be at all times in the highest degree of disorder. [Adam Smith, The Theory of Moral Sentiments, (1759; New York: A. M. Kelley, 1966).]

- Adam Smith (1759)

AS PREVIOUSLY DISCUSSED, GOVERNMENTS can often coordinate the production of public goods - a small class of goods for which it is difficult to restrict consumption to paying customers only - better than markets. Government provision of public goods can promote economic progress.

However, many people also believe that government can pick industries, provide subsidies, and direct investments in a way that will accelerate the growth of the economy. According to this view, government "industrial planning" and "investment in future economic growth" can improve on market outcomes. It is easy to see how this view has a certain appeal. Surely, it makes sense to plan. Aren't elected officials and government experts more likely to represent the "general welfare" of the people than business entrepreneurs? Won't government officials be "less greedy" than private businesses? People who do not understand the invisible hand principle often find the argument for central planning persuasive. Economics, however, indicates that it is wrong. There are four major reasons why central planning will almost surely do more damage than good.

First, central planning merely substitutes politics for market verdicts. Remember, government is not a corrective device. Real world central planners (and the legislators who direct them) are not a group of omniscient selfless saints. Predictably, the subsidies and investment funds doled out by planners will be influenced by political considerations.

Think how this process works even when decisions are made democratically. Expenditures will have to be approved by the legislature. Various business and unionized labour interests will lobby for investment funds and subsidies that provide them with benefits. Legislators will be particularly sensitive to those in a position to provide campaign contributions and deliver key voting blocs. Compared to newer "growth" firms, older established businesses will have a stronger record of political contributions, better knowledge of lobbying techniques, and a closer relationship with powerful political figures. As former U.S. Senator William Proxmire has said, "The money will go where the political power is." Predictably, elevating the political process will favour older firms, even if they are economically weak, over newer growth-oriented firms. In addition, ministers will often block various programs unless other legislators agree to support "pork-barrel" projects beneficial to their constituents and favoured interest groups. Only a hopeless dreamer would believe that this politicized process would result in less waste, more wealth creation, and a better allocation of investment funds than markets.

Second, there is every reason to believe that investors risking their own money will make better investment choices than central planners playing with the money of taxpayers. Remember, if an investor is going to profit, he or she must discover and invest in a project that increases the value of resources. If the investor makes a mistake - if the investment project turns out to be a loser - he or she will bear the consequences directly. In contrast, the link between the selection of productive projects and the personal wealth of the central planners will be weak. Even if a project is productive, the planner's personal gain is likely to be quite modest. Similarly, if the project is wasteful - if it reduces the value of resources - this failure will exert little negative impact on the planners. In fact, they may even be able to reap personal gain from wasteful projects that channel subsidies and other benefits toward politically powerful groups. Given this incentive structure, there is simply no reason to believe that central planners will be more likely than private investors to discover and act on projects that increase wealth.

Third, the central planners will be fed inaccurate information. Knowing that the planners are a source of investment funds and subsidies, managers of both private and public enterprises will supply planners with biased and inaccurate information designed to attract government favours. Predictably, they will try to convince the planners that their enterprise or industry is producing (or could produce) a product or service that is enormously valuable to the general public. If their enterprise were just given more funding, they would do wonderful things for the well-being of society. On the other hand, if government favours are not forthcoming, jobs will be lost and local economies will collapse. While the planners may know that these claims are exaggerated, they will often lack the information necessary to evaluate them carefully. This will be particularly true if the supplier is a monopolist.

Fourth, there is no way that central planners can acquire enough information to create a national plan that makes sense. We live in a world of dynamic change. Technological advances, new products, political unrest, changing demand, and shifting weather conditions are constantly altering the relative scarcity of both goods and resources. No central authority will be able to keep up with these changes and provide local enterprise managers with sensible instructions.

Markets register and tabulate widely fragmented information. Prices reflect this widely dispersed information and use it to send signals to business firms and resource suppliers. In turn, these price signals provide businesses and resource owners with the information required to coordinate their actions and bring them into harmony with the new conditions. There is simply no way that even a significant fraction of the relevant but widely dispersed information could be communicated accurately to any individual or central planning agency.

The incredible diversity of the wants and desires of people is well beyond the comprehension of any central planning agency. So, too, is the knowledge of unique local circumstances, elements of timing, and the importance of location. Thus, the planners will be operating with only a small fraction of the relevant information and much of that will be inaccurate by the time it is communicated to them. The view that a single individual or committee could acquire and maintain sufficient information to make sound decisions in our rapidly changing modern world is a delusion. The complex coordination that is the central element of modern economics is simply too complicated to be handled by any central planning authority.

The proponents of planning often point to Japan's Ministry of International Trade and Industry (MITI) as an example of how industrial planning should work. But MITI successes have been greatly exaggerated and its failures totally ignored. MITI tried to keep both Mazda and Honda out of the automobile business because it did not think they would be able to compete successfully. It tried to stop Sony from producing transistor radios. MITI has protected high-cost Japanese firms in shipbuilding and mining. Its import restrictions on meat, citrus, and other agricultural products force Japanese consumers to spend far more on food than consumers in other industrial countries. The business success of the Japanese has been in spite of, not because of, MITI's industrial planning.

Similarly, the record of government planning in Canada is fraught with internal inconsistencies. The provincial governments subsidize tobacco growers and propagandize against smoking. They pay some farmers subsidies because the market price of grains fails to cover their costs and subsidize others with irrigation projects so they can produce more grain which reduces the price when the grain is brought to market. Federal and provincial government programs for dairy farmers keep the price of milk high, while subsidies to school lunch programs make the expensive milk more affordable. Government regulations mandating stronger bumpers make automobiles safer, while fuel economy standards make them lighter and more dangerous. Both increase the cost of automobiles.

Those who think that central planning will promote economic progress are naive. When business enterprises get more funds from governments and less from consumers, they will spend more time trying to satisfy politicians and less time satisfying customers. Predictably, this reallocation of resources will lead to economic regression rather than prosperity.

9. Competition is Just as Important in Government as in Markets. Competition Among Government Units and Between Government Enterprises and Private Organizations Will Help Assure that Government is a Servant of the People

COMPETITION IS A DISCIPLINARY FORCE. In the marketplace, businesses must compete for the loyalty of customers. When firms serve their customers poorly, they generally lose business to rivals offering a better deal. Competition provides consumers with protection against high prices, shoddy merchandise, poor service, and/or rude behaviour. Almost everyone recognizes this point with regard to the private sector. Unfortunately, the importance of competition in the public sector is not so widely recognized.

The incentive structure confronted by government agencies and enterprises is not very conducive to efficient operation. Unlike private owners, the directors and managers of public sector enterprises are seldom in a position to gain much from lower cost and improved performance. In fact, the opposite is often true. If an agency fails to spend this year's allocation, its case for a larger budget next year is weakened. Thus, agencies typically go on a spending spree at the end of the budget period if they discover that they have failed to spend all of this year's appropriation. Insiders refer to this as the "fiscal follies."

In the private sector, the profit rate provides an easily identifiable index of performance. Since there is not a comparable indicator of performance in the public sector, managers of government firms can often gloss over economic inefficiency. In the private sector, bankruptcy eventually weeds out inefficiency. In the public sector, there is no parallel mechanism for the termination of unsuccessful programs. In fact, poor performance and failure to achieve objectives are often used as an argument for increased funding in the public sector. For example, if the achievement scores of students are declining, public school administrators will use this failure to argue for increased funding. Similarly, the police department will use a rising crime rate to argue for additional law enforcement funding.

Given the incentive structure within the public sector, it is vitally important that government enterprises face competitors. Prosperity will be enhanced if private firms are permitted to compete on a level playing field with government agencies and enterprises. For example, if governments operate vehicle maintenance departments, printing shops, food services, garbage collection services, street maintenance departments, schools, and similar agencies, private firms could be given an equal opportunity to compete with public enterprises. The competition would improve performance, reduce costs, and stimulate innovative behaviour in both sectors. As a result, consumers/taxpayers would get more for their money.

Competition among decentralized government units will also help promote economic progress. A government cannot be oppressive when it is relatively easy to choose the "exit option" - to move to another location that provides a level of government services and taxes more to your liking. Of course, it is not as easy to walk away from your government as it is from your grocer! In a decentralized setting, however, citizens can vote with their feet. If the functions of the central government are strictly limited to the protection of individual rights, prohibition against restraints of trade, and the provision of national defense, then provincial and local governments can vary widely in the degree to which they tax themselves for the provision of government services. Just as people differ with regard to the amount they want to spend on housing or automobiles, so too will they have different views concerning expenditures on public services. Some will prefer a higher level of government services and be willing to pay higher taxes for them. Others will prefer lower taxes and fewer governmental services. Some will want to fund government services with taxes, while others will prefer greater reliance on user charges. A decentralized system can accommodate and satisfy all of these divergent views.

Competition among local governments will also help promote governmental efficiency. When citizens can easily vote with their feet, the incentive of government to provide them with services economically is enhanced. If a government levies high taxes without providing a parallel quality of services, both individuals and businesses will be repelled. When people are taxed for things that provide them with little or no value, many will choose the "exit option" and will move to areas where the government provides them with "more for their money." Thus, like business firms in the marketplace, local governments that fail to serve their citizens will lose "customers" (population) and revenues.

Competition among decentralized governments serves the interests of the citizen/taxpayer. If it is going to work, however, the policies of the federal government must not stifle it. When a central government subsidizes, mandates, and regulates the bundle of government services provided by local governments, it undermines the competitive process among them. The best thing the central government can do is perform its limited functions well and remain neutral with regard to the operation and level of services of provincial, regional, and local governments.

Like private enterprises, governments prefer protection from rivals. There will be a tendency for governments to seek a monopoly position. Therefore, competition among governments will not evolve automatically. It will have to be incorporated into the political structure. This is precisely what the American founders were attempting to do when they designed the U.S. Constitution and federal system of the United States. The Canadian federal system of government is capable of providing the same sorts of protections, even if "competitive" government was less consciously an objective of the Fathers of Confederation.

10. Constitutional Rules that Bring the Political Process and Sound Economics into Harmony Will Promote Economic Progress

The predominant teachings of this age are that there are no limits to man's capacity to govern others and that, therefore, no limitations ought to be imposed upon government. The older faith, born of long ages of suffering under man's dominion over man, was that the exercise of unlimited power by men with limited minds and self-regarding prejudices is soon oppressive, reactionary, and corrupt. The older faith taught that the very condition of progress was the limitation of power to the capacity and the virtue of rulers. Men may have to pass through a terrible ordeal before they find again the central truths they have forgotten. But they will find them again as they have so often found them again in other ages of reaction, if only the ideas that have misled them are challenged and resisted. [Walter Lippmann, The Good Society, (New York: Grosset and Dunlop, 1956), p. 38.]

- Walter Lippmann

THE INTELLECTUAL FOLLY OF OUR AGE is the view that democratic elections alone will establish an environment conducive to economic progress. Both history and political theory indicate that this view is false. If government is going to be a positive force for economic prosperity, the rules of the political game must be designed to bring the self-interest of voters, politicians, and bureaucrats into harmony with economic progress. This will require that the scope of government be limited and that government remain neutral among the various sub-groups of citizens.

When government is unconstrained - when everything is up for grabs within the political process - divisive and predatory activities will abound. Individuals will spend more time organizing and fighting over slices of the economic pie and less time producing "pie." As a result, output will be smaller than would otherwise be the case. Animosity, distrust, and even hatred among factions will grow, while production stagnates. Life in a highly politicized economy is not very pleasant.

The history of the evolution of Parliamentary democracy is marked by a number of significant events which highlight the fact that the emergence of human freedom has in an important way involved the limitation of the powers of the sovereign or the state. The Magna Carta of 1215 was in some sense a declaration of the economic rights of people and one of the first codifications of the notion that the king, the sovereign or the state should have limited power. Subsequent altercations between Parliament and Charles II of England further defined the limitations on the power of the sovereign versus those of the people as represented by the Parliament. The central issue in that dispute and many subsequent ones was the right of the state to tax away the incomes and the wealth of citizens. While initially the product of a common revolt against the unlimited exercise of power by the king, parliament has itself now become the wielder of unlimited power.

While this is no place for a lengthy discussion of the implications and complexities of these developments, the upshot from an economic point of view is that in principle, parliament in its various manifestations is omnipotent in Canada. Our constitution divides amongst the provincial and federal governments the right to exercise this omnipotence and, in principle, the charter of rights in the Constitution does restrain the power of government in certain areas. Significantly absent from the rights which Canadians have as a check on the power of government, however, is the right to property. While the common law does provide certain protections in this regard, the laws of parliament take precedence over any such protections. Recent legislation in British Columbia and Prince Edward Island indicates clearly that this lack of property rights is an important omission.

Historically, the attempt by the people to limit the power of the state was an attempt to reserve areas for private action and to exclude the state from intruding on what were private matters. With the passage of time, however, there has been an erosion of the dividing lines between the public and the private sector. As a result, the government is currently involved in almost everything. The secondary effects of this politicized structure are now obvious - high taxes, excessive regulations, special interest spending, and huge budget deficits that threaten our financial structure. The challenge before us is to design constitutional rules and procedures that will help bring the political process back into harmony with economic progress.

A Positive Program for Prosperity

How can this be accomplished? What provisions would a constitution designed to promote economic prosperity and stability contain? Several proposals flow directly from our analysis. Within the Canadian context, we believe the following seven provisions would provide the core for an Economic Bill of Rights that would promote economic progress:

a.No government shall take private property, either partially or in its entirety, through eminent domain, regulation, or any other way, except for public use, through due process of law, and after paying the owner the full market value of the property taken.

In recent years, provincial and local governments in particular have used regulations to take private property without compensation. The courts have generally allowed them to do so as long as a legislative body deemed that the action was in the public interest or that the taking did not deny the owner all uses of his or her property. This is an open door to abuse that must be closed.

b.The right of people to buy and sell legally tradeable goods and services at mutually acceptable terms shall not be infringed by federal or provincial governments. [Points (b) and (c) are borrowed from Milton and Rose Friedman, Free to Choose, (New York: Harcourt Brace Jovanovich, 1980). See particularly chapter 10.]

Freedom of exchange is a cornerstone of economic progress. Price controls, professional and occupational entry restraints, [Here it is important to distinguish between licensing and certification. Licensing requirements prohibit the practice of an occupation or profession without the permission of the state. They are a clear restraint on trade. In contrast, certification merely requires one to supply customers with information (for example, tests passed or educational levels achieved). As long as the certification is merely informational, it would not be prohibited by this amendment.] laws prohibiting trade among people of different racial, ethnic, or religious groups, and other government regulations that restrain trade should be prohibited.

c.The federal government shall not levy taxes or impose quotas on either imports or exports.

This is the international component of the right to trade included in b.

d.A three-fourths approval of both Houses of Parliament shall be required for all expenditure programs of the federal government. At least two-thirds approval of the provincial legislatures shall be required for the approval of expenditures by provincial governments.

Remember, if a project is really productive, there will always be a method of finance that will result in everyone gaining (see pages 77-79). Thus, the supramajority provisions need not eliminate projects that truly increase wealth. They will, however, make it more difficult for special interests to use government as a tool for plunder. They will also help keep the spending activities of governments at the local level where competition among governments provides a stronger incentive for governments to serve the interests of all citizens.

e.A three-fourths approval of both Houses of Parliament shall be required before the federal government is permitted to borrow any funds to finance a deficit in its annual budget.

This will reduce the inclination of Parliament to spend beyond its means.

f.A three-fourths approval of both Houses of Parliament shall be required for the federal government to mandate any expenditures by either provincial governments or private business firms.

If this provision is not included, Parliament will use mandated expenditures to escape the prior spending and borrowing limitations.

g.The function of the Bank of Canada is to maintain the value of the currency and establish a stable price level. If the price level either increases or decreases by more than 5 percent annually during two consecutive years, the Governor of the Bank of Canada shall be required to submit his or her resignation.

This provision would make it clear what the Bank of Canada is supposed to do. If the Bank establishes monetary stability, it is doing its part to promote economic stability and progress.

Economic analysis indicates that these provisions would help promote economic progress and limit the inclination of politicians to serve special-interest groups. They would be a positive step toward the restoration of government based on mutual agreement rather than the power to plunder.

Before constitutional rules consistent with economic progress can be reestablished, however, the intellectual fabric underlying the case for limited government must be mended. We must cast aside the myth that popular elections are the distinctive feature of the Canadian political process leading to an improvement in the freedom of Canadians. We must recognize that it is one thing to determine our political leaders by majority vote and quite another to determine what government will do by majority rule. While Parliament is sovereign it is the traditional restraints and limitations on the power of Parliament that ensures the freedom of Canadians. It is the fact that we have chiselled out the right to autonomy, to hold property, to freedom of movement and association and to trade that explain our economic progress. While government plays an important role in maintaining the law and order that are essential to voluntary economic activities, it is limited government, not majority rule, that is the key to economic progress. The sooner we learn this important point, the more prosperous we will be.