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June 1, 2011

Reply to Kesselman

I am pleased that Jon Kesselman responded in The Tyee to what he described as my “scathing critique” of his HST study. 12 percent HST on restaurant meals His response is as full of errors as the original piece he published under the auspices of the BC Business Council.

Kesselman appears confused about my criticism of his use of differences. It is not a question of comparing pre-change and post-change periods; it is a question of whether similar comparisons for any period picked at random would yield the same results that Kesselman considers evidence of businesses passing-through HST input tax credits in the form of rapid price reductions to consumers. I showed that repeating his calculations for the past 30 years would usually produce his result; hence his calculation is not evidence of businesses passing-through tax savings. A more rigorous analysis, as I did when I reviewed Michael Smart’s analysis of the initial experience in Ontario, looks at how many times BC experienced a month to month price increase of more than one percent compared to an average of Alberta, Saskatchewan and Manitoba followed by lesser relative inflation for BC in the subsequent period. Since 1981 there were eight such months and all but January 1982 were followed by the subsequent lower relative price changes that Kesselman incorrectly attributed to the pass-through of business tax savings.

Kesselman attempted to lend credibility to his study by comparing it to Smart’s, but unlike Kesselman, Smart admitted that his calculation could be the result of factors other than businesses reducing prices and he discussed the limitations of using consumer price data. With respect to input tax credits (ITCs), Smart wrote (p 13) “... it is difficult to distinguish the effect of ITCs from other, unobserved factors that may have affected Ontario's general rate of inflation over the last five months of 2010.” It is worth reading Smart’s study to see his comments on different types of markets and on the weakness of using consumer price data for the type of analysis both he and Kesselman did. It is hard to understand why Kesselman can't accept points readily acknowledged by Smart. Contrary to Kesselman’s claim that the issue with the use of consumer price data is primarily a matter of the length of the period analyzed, Smart noted: “Statistics Canada does not s ample prices of all commodities in all provinces on a monthly basis, due to its limited resources for data collection and because prices for some commodities (especially services) change infrequently. The agency did sample some service prices extraordinarily in July 2010 to capture price changes around the introduction of the OHST, but some reported CPI changes in July may reflect inferences based on how tax rates changed under OHST, as well as actual prices observations.” By comparison, Kesselman made no effort to discuss the problems with the data he chose to use; an undergraduate would never get away with that.

We agree on one thing, as Kesselman wrote: “Having well-grounded estimates of the consumer impact of B.C.'s HST, and the extent of pass-through to consumers of the business tax savings, is essential to public debate over the new tax.” Unfortunately, neither Kesselman’s method nor his data are up to the task of providing that well- grounded estimate. It is wrong to assume as the Dinning panel did, or as Kesselman asserts, that most business tax savings are passed on to consumers. Apart from issues around market structures and price elasticities, everyone can understand that families don’t see price reductions from export industries or from road building, sectors that benefited at the expense of the service sector.

While Smart concluded that the HST in Ontario is mildly regressive, Kesselman claimed the opposite for BC. In his February BC Business Council paper, Kesselman wrote: “My examination of the consumer data finds that lower income households spend larger shares of their budgets on categories of consumer goods and services that have experienced small price decreases, while higher income households spend more in areas with large prices increases.” Kesselman’s “examination” is nothing but his assumptions about various types of expenditures and how price changes affect different income quintiles. He recognized the weakness of his argument when he wrote: “While this analysis awaits a more technically definitive treatment, the general picture is that the HST is at least somewhat less regressive than the RST it replaced.” He should have written that any general picture awaits evidence. By contrast, Smart reached his conclusion by attempting to measure price changes on low income households.

The Clark government has proposed that the HST be reduced to ten percent effective July 1, 2014. Kesselman argued that goes too far and it would be sufficient to reduce the tax by just one per cent in order to eliminate adverse effects on families. If we are to speculate on tax changes three years from now, it is necessary to consider all changes between now and then. Changes to Hydro rates, user fees and the MSP premium tax will offset part of any proposed change in HST rates. Voters will be asked to decide on the HST without the benefit of reliable information on what the complete tax package might look like three years from now. Many will have to base their vote on whether they trust what the government says. Debates over the numbers may make some think they are watching a shell game; where is that pea?