Canada’s 2024 Federal Budget: The Good, the Bad, and the Maybe for Innovation, Productivity, and Competitiveness

The word "innovation" appears a total of 97 times and "productivity" 63 times in Canada's 2024 federal budget, and many measures targeted towards innovation and productivity reflect that focus. However, some of the funds being disbursed are tangential at best to actually addressing Canada's declining productivity and supporting Canada's innovation ecosystem. Below are the budget measures that support innovation (good), the measures that are unhelpful (bad), and the measures where the devil will be in the details (maybe).

GOOD: Funding to Regional Development Agencies and NRC-IRAP for AI implementation and AI startups

These funding opportunities could be a boon for Canadian businesses implementing AI to boost their productivity. Even a one percent increase in AI use could lead to a 14 percent increase in total factor productivity across the Canadian economy. However, given the slow uptake and untimely demise of the Canadian Digital Adoption Program, how the NRC AI Assist program is designed will be extremely important in determining its success or failure. Additionally, rather than focus on a "retail" approach to serve as many firms as possible, it would be better to work with fewer firms to help them become lead adopters, and then have them be showcases for other Canadian firms in the same industries.

MAYBE: AI Compute Access Fund and Canadian AI Sovereign Compute Strategy

Canada can and absolutely should build research capabilities and compute infrastructure for its leading AI ecosystem. In January of this year, the European Union is launching its "AI Factories " program, which provides supercomputing resources to startups and innovators, and the United States has launched its National Artificial Intelligence Research Resource (NAIRR) pilot. However, the sovereign aspect of the compute strategy should focus on developing domestic capability rather than focusing on being closed off and restrictive to foreign collaboration. The U.S. NAIRR pilot explicitly makes a point to work with other countries on specific projects, moonshots, or areas of the research infrastructure. To succeed, Canada needs to be competitive, but not protectionist.

MAYBE: AI Safety Institute of Canada

As the Budget notes, this new institute will work in coordination with international partners. It will be important to avoid duplication between jurisdictions, particularly as the United States and United Kingdom have already begun the work, with much larger budgets to work with. There is simply no reason to do work that other nations are doing. It would be better to spend the money to support AI firms becoming globally competitive.

MAYBE: Funding for the New AI and Data Commissioner's Office

As noted in the Centre for Canadian Innovation and Competitiveness' parliamentary committee submission on the Artificial Intelligence and Data Act, there is a real risk that the proposed act that the AI and Data Commissioner would enforce could decrease overall levels of innovation without enabling citizen trust. Should the proposed act in Bill C-27 pass, it will be important for the new regulator to take innovation seriously and not squash low-risk AI systems simply for existing. More broadly, there is very little reason to regulate AI specifically. Rather, applications of AI in various sectors and uses should face the same regulatory requirements as non-AI processes.

Tax Policy

GOOD: Write-Offs for Investments in Patents, Data Network Infrastructure Equipment, Computers, and Other Data Processing Equipment

Many businesses in digital industries do not require machinery, equipment, or real estate in the same way that traditional businesses do. This tax write-off helps level the playing field between traditional and more digital- and knowledge-intensive industries to help the next generation of Canadian firms grow. It also incentivizes businesses across the economy to invest more in productivity-boosting digital tools.

BAD: Increased Inclusion Rate on Capital Gains Above $250,000

If one of the fundamental issues with Canada's innovation ecosystem is the lack of capital, this budget item works to further aggravate this issue. An increased capital gains tax first reduces the amount of cash flow that private equity and institutional investors have to invest and then reduces the after-tax rate of return on capital investment for these investors. This will disincentivize investment and depress access to capital that Canadian startups and scaleups need to become globally competitive. If the goal is to raise government revenues to pay for new spending on housing, it would be better for the government to target unproductive uses of capital, such as real estate speculation, rather than hamstring capital-intensive Canadian businesses.

BAD: Digital Services Tax and Global Minimum Tax

As ITIF has noted previously, the digital services tax will end up being passed on to Canadian consumers and small businesses who use said digital services. For instance, the Montreal Economic Institute found that, "Once the so-called GAFA tax was implemented in [France] that prices went up by 2 percent for clients of Google and by 3 percent for clients of Apple and Amazon." This is because the firms passed the tax onto local customers." Canada continuing with the Digital Services

Tax violates international tax norms by both taxing revenue instead of profits, and imposing taxes in the jurisdiction of production instead of consumption. When a resident of Windsor, Ontario buys a toothbrush at a Walmart in Detroit, Michigan, Canada does not tax Walmart's earnings just because some of it came from Canadian purchases. This is no different than when that Windsor resident searches for something on Google or browses LinkedIn. The actual production value of the good or service is occurring outside of Canada, and should be taxed as such. In a time when economic cooperation is increasingly important to Canada, it cannot risk alienating its largest trading partner by targeting U.S. digital firms with a protectionist and extrationist tax. Canada should instead join other OECD countries in implementing Pillars One and Two of the OECD Base Erosion Profit Shifting plan that it has taken part in over the past few years and has opted to reject an OECD-wide moratorium on digital service taxes.

MAYBE: Canadian Entrepreneur's Incentive

This incentive that lowers the capital gains inclusion rate for entrepreneurs can be thought of to help offset the effects of the capital gains tax increase on innovative and emerging businesses. However, this misses the point-as noted above, the issue is not that entrepreneurs will decide against becoming entrepreneurs entirely due to tax increases on hypothetical future capital gains, but rather that these entrepreneurs have reduced access to capital, one of the key ingredients to success.

GOOD: Additional Funding for SR&ED

Companies received $3.9 billion in SR&ED tax credits in 2021. The proposed $150 million per year increase to SR&ED would represent a 3.8% year over year increase. This money will be used to fund, as of yet, undecided changes to the tax credit program. We hope that this can be as part of a quasi-incremental credit structure described in the Centre for Canadian Innovation and Competitiveness submitted comments to the Department of Finance in early April 2024 that would provide greater incentives to businesses to increase their total R&D expenditure year over year.

GOOD: New Capstone Research Funding Organization for Tri-Council

The creation of a new capstone organization above the three granting councils of the Social Sciences and Humanities Research Council; Natural Sciences and Engineering Research Council of Canada, and Canadian Institutes of Health Research, or what the Advisory Panel on the Federal Research Support System called the Canadian Knowledge and Science Foundation, would provide greater coordination on interdisciplinary research and help direct research of national interest. For this to be effective, though, the research should be coordinated and targeted to areas that boost Canadian innovation, productivity and competitiveness.

GOOD: Advisory Council on Science and Innovation

Canada has not had a third-party body that provides advice to the federal government in some time. In contrast, the United States has the President's Council of Advisors on Science and Technology that helps provide a trusted venue for the government in receiving independent policy advice on science, technology, and innovation from experts in the field. The creation of this advisory council will be a welcome addition that, if leveraged properly, could be both an excellent sounding board and means of developing innovation policy outside of the government silo.

BAD: Increased Research Grant Funding for Researchers

Canada already spends more on R&D in the postsecondary sector as a percentage of GDP than virtually any other country in the OECD. It has long spent almost double the amount on higher-education expenditure on R&D as a percentage of GDP than the United States and Korea, but has had little to show for it from an economic and production standpoint. Canada's relative performance in university technology commercialization and number of innovative startups should be much higher than it is compared with other nations, given this level of funding. Yet, in the absence of a robust technology transfer system and pathways to commercialization, R&D from the higher education sector is unable to provide significant economic benefits to firms and the broader economy in the same way that business R&D can. It is not enough to simply publish articles or create inventions and allow them to wither on the vine due to the lack of ability to commercialize. Instead of simply increasing post-secondary research funding, the government should focus more on leveraging the outcomes of research to benefit Canada through a greater focus on technology transfer and commercialization. As such, if the government goes through with this funding increase, all the new funds should be allocated on a performance basis with most funds going to universities that do the best job on commercialization of technology into businesses in Canada.

BAD: Increased Value for Masters and Doctoral Student Scholarships

Though obtaining graduate education in Canada is indeed expensive, the government could better maximize the productivity and innovation impact of graduate funding through the creation of an industrial PhD program, like Denmark. By being employed at a private company while conducting research at a public research university, industrial PhDs would gain their higher education while gaining tangible work experience, create new knowledge for Canadian firms, and generate significant economic impacts while pursuing their degree.

MAYBE: Second Phase of Scientific Research & Experimental Development (SR&ED) Tax Credit Consultations

It remains to be seen what specific policy parameters the government is seeking to consult on that they did not receive in the first phase.

MAYBE: Industry-Led Pilot on R&D Workforce Development

Canada ranks 9th in the OECD on industry R&D personnel as a percentage of the total workforce, so there is certainly more to be done in developing the future R&D workforce of Canada. No rationale is provided in the Budget as to why the four industries of bio-manufacturing, clean technology, electric vehicle manufacturing, and microelectronics were selected as the key sectors, as they neither the largest industries by R&D expenditure in Canada nor the most productive.

Governance

GOOD: Canadian Survey on Interprovincial Trade

By collecting data on what internal trade barriers actually exist in Canada, the government is taking the first step to address the longstanding issue of interprovincial trade that has hampered the Canadian economy since confederation. One study found that internal trade liberalization in Canada could generate $50-$130 billion to Canada's GDP, or between a two to six percent increase. Should the federal government use the survey insights to collaboratively work with provinces on removing these barriers, this could also help Canadian companies scale by effectively providing a larger domestic market.

GOOD: Increased Portfolio Risk Mandates for the Business Development Bank of Canada and Export Development Canada

Greater financial support for emerging and high-risk sectors helps provide certainty and de-risks certain investments for sources of private funding. Deploying greater amounts of capital to higher-risk sectors and sectors helps move government funding where it is most needed instead of crowding out investments in relatively low-risk areas where there are already abundant sources of private capital for deserving businesses.

MAYBE: Broadened Use of Regulatory Sandboxes

Allowing businesses to operate in regulatory sandbox environments allows the regulator and the regulated businesses to collaboratively enable innovation. However, it is imperative that the government treat regulatory sandboxes not as an end-goal, but rather as a temporary step in creating a sustainable regulatory regime that allows for innovation without significant risks to Canadians. Like people, businesses eventually need to be able to move on from playing in sandboxes, where they are limited in scale by nature, to bigger and better things.

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