May 31, 2021 | 14:31
Higher Tide Brings Fiscal Relief
The Province of Newfoundland & Labrador is projecting an $825 million deficit in FY21/22 (2.3% of GDP), as the pandemic continues to challenge the fiscal situation in the province. But, that's improved from a $1.6 billion deficit now pegged for FY20/21 (which itself is better than the previous $1.8 billion estimate), and a touch lower than the all-province average of 2.5% this fiscal year. So, it looks like the short-term situation has become quite a bit less pressing, helped by strong oil prices and federal transfers.
A longer-term plan to repair the Province's finances on a more sustained basis is now in the works, following a number of recommendations laid out in the recent high-profile report issued by the Premier’s Economic Recovery Team. Among the wide range of measures were program spending cuts, a range of tax increases and asset sales. This budget makes a few early moves on this front, such as raising income tax rates on income above $136k (the combined top marginal rate will be 54.8%, the highest in Canada, albeit at a $1 million income level). There will also be some departmental merging with an eye on cost control. But, this is just a first pass, as the budget hints at further changes ahead, including a possible HST hike and reorganization of Nalcor (there's no word on the more contentious recommendation that it get shut down, merged or sold off).
With that as the background, the Province laid out a longer-term fiscal plan as well, which sees the deficit fall further to $587 million next fiscal year, before reaching near balance ($88 million deficit) by FY25/26. Along the way, Brent crude oil prices are assumed to average in the low-$60 range, which seems reasonable to us and relative to current levels near $70.
Total revenue is forecast to jump 20% in FY21/22, to $8.5 billion. Federal transfers are pegged at $1.8 billion, up $443 million from last year. Oil royalties also jump sharply by $533 million on the back of a stronger price environment. Combined, these two sources have really helped pull the fiscal situation back from a much tougher scenario. Brent crude prices are expected to average $64 in FY21/22, while the Canadian dollar is pegged at just under 80 US cents. The reality is that oil prices and the loonie are both running stronger at the moment, so those factors could wash each other out. For example, a $1 increase in oil prices lifts royalties by roughly $19 million; and a 1 cent increase in the Canadian dollar trims royalties by $15 million.
The budget estimates are also based on the assumption that the Newfoundland & Labrador economy will grow 5.6% this year, or a hefty 16.2% in nominal terms. After 2020 came in less bad than the Province thought, the level of economic outlook is running meaningfully higher than was assumed at this time last year, another factor pulling finances back from the nadir.
Total spending is projected to rise 7.0% in FY21/22, with various COVID-related measures still inflating the total. Longer term, this is an area that will be in focus as the Province looks to cut expenses by 9% next year, and hold them around that level in nominal terms through FY25/26. While this might seem like a monumental task, keep in mind that Newfoundland & Labrador doesn't have near the population growth stress on program spending that other provinces do.
Newfoundland & Labrador expects to borrow $1.7 billion in FY21/22, down from the hefty $2.8 billion program in FY20/21. Net debt rises to $17.2 billion by the end of FY21/22, but because of sharp rebound in the value of economic output, the net debt-to-GDP ratio should finish the year at 47%. That's down from 51.7% in FY20/21, and an encouraging turnaround after the ratio was at risk of pushing through 60%. Debt service costs relative to total revenues have also backed off sharply (thanks to a higher denominator).
The Bottom Line: It feels a bit like the Province of Newfoundland & Labrador has stepped back from the fiscal brink, helped by a strong rebound in oil prices, economic output and federal transfers. That has cut borrowing requirements and pulled down debt- and deficit-to-GDP numbers sharply (for the record, neither are highest in Canada anymore). Still, there's no disguising the longer-term fiscal challenge faced by the Province, and the moves made in this budget are just the start of what will likely be an ongoing process of implementing many more measures.