Ontario Economic Update October 2017: Lowest median income growth in Canada - what gives?

Ontario Economic Update October 2017: Lowest median income growth in Canada - what gives?

Economic Update Takeaways

  • Median individual total income in Ontario grew 3.8 percent between 2005 and 2015 and 12.7 percent for Canada as a whole
  • Median employment income in Ontario decreased by 2.3 percent over the same period, the only negative growth rate among all provinces
  • Labour force participation, productivity, and income distribution are the main forces that have impacted Ontario’s median income growth over the past decade
  • Labour force participation has dropped considerably in Ontario, mostly due to a rapidly aging population but also a fall in the participation rate for the core working-age population
  • Ontario’s productivity continues to lag its peers as productivity fell across individual sectors and the most productive sectors became a smaller part of the economy
  • The effects of falling labour share and greater wage inequality are offset by a system of taxation and redistribution but Ontario remains the second most unequal province in Canada

Last month, Statistics Canada released its first wave of income data from the 2016 Census. The release marks the first time Statistics Canada integrated income data from the Canada Revenue Agency’s tax and benefits records with all census respondents. The results paint a bleak picture for the progress of Ontario’s middle-class over the past decade. Median individual total income grew only 3.8 percent between 2005 and 2015, the lowest growth rate among all provinces and well below Canada’s growth of 12.7 percent. Similarly, after-tax income growth was 5.1 percent for Ontario, but 11.8 percent for Canada as a whole. Over the same period employment income for workers in Ontario actually declined by 2.3 percent.

Ontario’s contracting manufacturing sector is partly responsible. Residents of Windsor and Tillsonburg, where manufacturing accounted for roughly a quarter of total employment, experienced the largest drops in median incomes among metropolitan areas in Ontario. There are, however, greater macroeconomic forces at play, influenced in part by the decline in manufacturing and the 2008-09 economic recession. Participation in the labour force, productivity, and income distribution have been key determinants for middle-class income growth in the US. Indeed, the same factors have impacted the growth of median income, or lack thereof, in Ontario.

Dwindling labour force participation is suppressing growth

Labour force participation is the share of the population that is either employed or actively looking for working (i.e., in the labour force). A critical component of economic growth, participation has historically been an advantage for Ontario against its peer jurisdictions but this premium has since disappeared. Labour force participation for those aged 15 or older peaked at 70 percent in 1989, fell to 68 percent by 2005, and has since declined to 65 percent in 2016. Both males and females have experienced significant losses in participation since 2005 (4 percentage points and 1.9 percentage points, respectively).

An increasingly aging population is mostly culpable for this decline, especially in the last 15 years. After holding the demographic age composition of the population constant from 1990 while allowing the participation of different age groups to change (counterfactual case), participation remains steady since 2003 (Exhibit 1). These results are in line with the Canada-wide findings by RBC Economics: the decline in the participation rate can be attributed to the aging of the population and the corresponding rise in the number of retirements.

Exhibit 1

However, the Canadian counterfactual participation rate has trended upwards, while the counterfactual rate for Ontario has remained flat since 2003. This is because the participation rate for the core working-age population (between the ages of 25 and 54) declined by 1.4 percentage points since 2005 and has lagged the Canadian average since 2008. Both sexes have been responsible for this general trend, but the fall in participation for core working-age male workers accounts for the bulk of the drop (Exhibit 2).

Exhibit 2

Productivity remains a longstanding deterrent for prosperity

Gross Domestic Product (GDP) per capita, a common measure of prosperity, is a function of work effort (input) and productivity (how effectively inputs are translated into output). Labour productivity, one particular measure of productivity, quantifies the value of production in the economy per hour of work. Productivity is considered the secret sauce to raising living standards globally. While greater participation increases the supply of labour in the economy, higher productivity means that labour is more efficient and thus leads to more overall growth in the economy.

The Institute has been focusing on closing the prosperity gap between Ontario and its peers since its inception and productivity has been the driver for this gap since before the beginning of the century. Since 2001, Ontario has continued to trail its peer median in productivity and the overall prosperity gap has increased over time as Ontario’s work effort advantage has diminished (Exhibit 3).

Exhibit 3

Ontario’s labour productivity growth has lagged the US and Canadian average, although growth has accelerated over the last three years (Exhibit 4). Reduced labour productivity growth across individual sectors as well as increased concentration of economic activity in lower productivity sectors are contributing to this trend. Manufacturing, in particular, saw a considerable decline in both productivity and its relative share of the overall economy. Additionally, insufficient investment in information and communications technology (ICT), slow adoption of technologies and innovative practices by businesses, and weak R&D spending are among the factors that continue to hold productivity back in Ontario. Increasing productivity is the only lever that can be used to sustain the long-term rise in the standard of living.

Exhibit 4

Labour productivity and real wage growth have been linked historically. However, the close relationship between the two has ‘decoupled’ over the past few decades in most OECD countries— regions can no longer rely on productivity growth to drive wages for the average worker. This relates to the third mechanism holding back median income growth in Ontario: labour share and inequality.

Falling labour share and rising wage inequality

Although slower than its peers, Ontario’s labour productivity has been rising but wages have not kept up. Stagnating hourly wages have weighed down on employment income growth in Ontario. The total income available to Ontario’s residents can be divided into compensation for labour (labour share) and income paid towards capital (capital share). Since the 2008-09 recession the labour share in Ontario has declined because labour productivity has grown at a faster pace than average wages (Exhibit 5). The widening gap can partially be attributed to the sharp rise in real estate prices, which translated into gains in housing capital income.

Exhibit 5

The difference between average hourly wage and median hourly wage growth is a simple but useful measure of wage inequality, which also widened after 2009. Taxation and redistribution has played an important role in reducing these disparities (Exhibit 6).

Exhibit 6

The share of adjusted after-tax income going to the top 10 percent of the population relative to the share going to the bottom 10 percent (decile ratio) has actually declined in Ontario. However, this is more reflective of the weak performance for those in the top decile as opposed to strong income growth for those earning the least in the province. Adjusted after-tax income growth for every decile in Ontario, when ranked by value of household income, is lower than the Canadian average. Ontario still ranks second in income inequality amongst all provinces (behind Alberta), whether measured by the decile ratio or Gini coefficient.

Looking ahead for prosperity in Ontario

While much of this information recounts a gloomy past, more recent economic indicators for Ontario in 2017 show great promise for the province. However, government officials and policy makers must focus their attention and efforts towards higher labour force participation, faster productivity, and fairer income distribution if they hope to pave a more prosperous future for the average Ontarian.

Written by Saad Usmani

Summary Tables

Category: Economic Update, Economic Progress, Economy, Income, Benefits, and Pensions, Labour, Income, Income distribution, Income inequality, Productivity