U.S. Housing Starts Down, Permits Up; Quebec Budget Report

• Return to budget balance still projected for fiscal 2013-14.

• Deficit of $3.3 billion estimated for the current fiscal year ending March 31 (including a contingency reserve of $300 million). This is $500 million less than was budgeted last year, thanks mainly to a $342-million saving in debt service costs.

• Budgeted deficit for 2012-13 remains $1.5 billion. Upward revisions to spending and the contingency reserve are offset by a downward revision of debt service costs and increases in mining and forestry royalties.

• Projected lower debt service costs are key to staying on track for a balanced budget in 2013-14.

• Program spending is budgeted to grow 2.0% in 2012-13 and 1.8% in 2013-14.

• Real GDP growth is assumed at 1.5% in 2012 and 1.9% in 2013.

• Beginning in 2013, payroll taxes paid by a private-sector employer will be reduced on the earnings of workers aged 65 and older in excess of $5,000.

• Creation of Ressources Québec, as an Investissements Québec subsidiary, to take equity positions in mining, oil and gas companies. The aggregate equity funding available is doubled to $1 billion from the $500 million budgeted last year. Soquem and Soquip become subsidiaries of Ressources Québec.

• Legislation to establish new voluntary retirement savings plans will be tabled during the year.

• Borrowing requirements are estimated at $15 billion in 2012-13, including $7.6 billion in refinancing, and $17.8 billion in 2013-14, including $9.4 billion in refinancing.

Opinion

At the time of last fall’s fiscal update, the government had $2.5 billion in hand from its agreement with Ottawa on harmonization of GST and QST and from related additional revenue from financial institutions. This amount has been applied to the 2011-12 and 2012-13 years, allowing the government to maintain its 2013-14 target for returning its books to balance while deferring to 2014-15 the identification of the additional measures that will be required to keep them in balance. A gap of $875 million will have to be closed in 2014-15.

The new measures in today’s budget have little fiscal impact – $211 million in 2012-13. This impact, plus other increases relative to last fall’s update – $100 million more in education spending to accommodate increased enrolment, $136 million in other items and a $100-million increase in the contingency reserve – are offset mainly by the decrease in debt service costs and increases in mining and forestry royalties. The story for 2013-14 is similar.

The discipline introduced in 2010 with the plan to restore fiscal balance is reflected in the growth of consolidated spending (excluding debt service) – an average 2.8% annually from 2010-11 to 2013-14 after an average 5.7% annually over the previous four fiscal years. This discipline is projected to continue after the deficit is eliminated, with consolidated spending growth held to about 3% annually in subsequent years. In addition, medium-term funding plans are established for government programs accounting for about half of consolidated spending.

The cut in employer-paid payroll taxes on earnings of workers aged 65 and older supplements the tax credit for experienced workers introduced last year. The aging of the population means that initiatives to raise the participation and employment rates of older workers are central to the health of public finances.

In 2011-12 the Quebec government borrowed $20.1 billion, including $9.5 billion to roll over maturing debt and $4.4 billion in anticipatory borrowing. For 2012-13, last year’s prefinancing leaves a projected requirement of $14.9 billion, including $7.6 billion in refinancing. For 2013-14 the borrowing program is projected at $17.8 billion, including $9.4 billion in refinancing.

In addition, over the next two years the government will increase its prudential liquidity by $6 billion, borrowing $3 billion for this purpose in each of 2012-13 and 2013-14. Since these funds will be paid into the sinking fund for government debt, there will be no effect on gross debt. They will supplement bank lines of credit. Thus the department of finance will have access to cash covering close to half of its annual financing requirement in the event of major turbulence in financial markets. As a result of its financing strategy, 96% of its 2011-12 borrowing had maturities in excess of 6 years (with 30- year issues accounting for 24.4%). The average maturity of government debt is estimated at 12 years as of March 31, 2012, up about one year from a year earlier. The finance minister has also sharply reduced the variable-rate portion of the gross debt, to 12.1% this March 31 from 20.8% a year earlier (taking interest-rate and exchange-rate swap contracts into account). In an environment where the Bank of Canada expects that its current degree of monetary accommodation will require adjustment over the next two years, the government’s financing strategy is likely to help stabilize or contain the cost of its debt service. This is the more welcome in that gross debt is projected to rise to $210.8 billion in 2016-17 from $183.8 billion in 2011-12. Relative to GDP, gross debt is projected to level off at 55.3% in 2012-13 and fall to 52.1% in 2016-17. The target remains 45% in 2026.

Conclusion

The ongoing effort to eliminate the deficit has been considerable, amounting to a levy of more than $12 billion from Quebec society in only four years. Though $211 million in new measures were tabled in today’s budget, they are relatively modest and are structural rather than cyclical in nature. Thus the 2012-13 budget remains on the course set by the deficitelimination plan initiated after the deep global recession of 2008-09, even in what could be an election year. As a result, we are confident that the province is on track to balance its budget in 2013-14 (with a $1-billion surplus before the contribution to the Generations Fund).

Though fiscal balance is within reach, this is no time for complacency. In our view, the plan to reduce the ratio of debt to GDP over the period from 2013 to 2017 is essential for a return to lasting soundness in public finances and for a fairer deal among the generations. This amounts to the next megaproject for the Quebec government. With debt amounting to 55.3% of GDP this year, it will have to keep a tight rein on spending at a time when economic uncertainty is likely to remain high. Given that nominal GDP growth is projected at not quite 4% over the budgeting horizon, it is interesting to see that even after elimination of the deficit, the government intends to hold consolidated spending growth (excluding debt service) to 3%. Additional manoeuvring room may be necessary depending on what the upcoming federal budget has in store.

In this context, we continue to support the strategy of fostering resource development to generate royalties that will add significantly to government revenues. Resource revenues are projected at $1.2 million in 2012, amounting to 15% of budgeted debt service costs. This contribution, already considerable, is set to increase.