May 03, 2022 | 08:57
Onward and Upward
The Canadian economy is growing at a strong pace, with most industries and segments of the job market fully recovered from the pandemic, and the Bank of Canada now tightening policy. Real GDP is likely to expand 4.1% this year, cooling from the 4.6% pace in 2021, but still running well above potential growth. Meantime, with inflation persistent and well above the Bank of Canada’s target, look for a further steady stream of interest rate hikes into 2023.
Regionally, all provinces are expanding, and above-potential growth is expected across the country this year. British Columbia looks to post above-average 4.4% growth, as post-flood repair and rebuilding add to solid underlying strength. Regardless of any disaster-related swings in reported GDP, the province looks fundamentally strong.
Alberta, Saskatchewan and Newfoundland & Labrador are also benefitting from the surge in oil prices. We look for WTI oil to average $100 this year, before pulling back to around $85 in 2023, which will provide significant income support to these provinces. Alberta real GDP growth will likely lead the country at 5.6% this year, in part thanks to a rebound in oil production, but also because of broadening strength in consumer activity and housing. Longer term, the broader shift away from fossil fuels will force some adjustment in these regions, but the near-term outlook is solid.
Manitoba is traditionally the most stable economy on the provincial landscape, with a diverse industry providing a cushion. While the drought was a difficult challenge last year, stability remains the norm, with growth expected at 4.2% in 2022. For the Prairies as a whole, this year’s crop is not just important for the regional outlook, but also for world food prices, after a brutal drought last year and very tight global grain stocks. A return to a more normal crop could provide a windfall for the sector amid record grain prices, with Saskatchewan also benefitting from surging potash prices.
Ontario’s economy entered the pandemic with the strongest growth trends in more than 15 years, but with the largest urban centre and some of the more restrictive COVID-related measures in the country, the expansion was somewhat slower to take hold. But the economy is expanding vigourously now, and service-related businesses, especially within the GTA, look to return to higher levels of activity on a more sustainable basis than during earlier pandemic waves, even as housing activity cools. Real GDP should expand 3.8% this year and 3.0% in 2023, both around the national average. Similarly, Quebec is on pace to re-establish itself as a driver of the Canadian economy, although real GDP growth should soften to 3.4% in 2022 after a strong 5.6% bounce last year. The province will face headwinds from higher gas prices and mortgage rates, but a relatively subdued Canadian dollar provides some relief for Central Canada compared to past oil price spikes.
Finally, Atlantic Canada is faring well, with growth in the region expected to run above potential this year. As travel flows resume more significantly for the summer 2022 season, the region will stand to benefit. Population flows are also a positive story, as migration from other regions of Canada drives consumer demand and housing.
Budget Season Breakdown
The provincial budget season has wrapped up, and we’re now seeing stability in fiscal outlooks after some wild swings over the past two years. Overall, the group made it through the pandemic in a dramatically better position than initially feared, thanks to two main factors: Ottawa supported the vast majority of the pandemic spending burden; and the economy, especially in nominal terms, roared back incredibly fast. Looking ahead to this fiscal year and beyond, there a few key themes to watch.
Revenue windfall shrinks deficits: The past 18 months saw the biggest and fastest turnaround in the provincial fiscal outlook in memory. Recall that by the fall of 2020, the combined provincial deficit was pegged at $96 billion, or roughly 6% of GDP, which would be a modern-day record by a wide margin. Turns out that the FY20/21 deficit came in at half that size, or $48 billion. Meantime, the combined $76 billion shortfall in the 2021 budget season has melted to just $24 billion, or just 1% of GDP. Surging revenues (thanks to higher economic output and resource prices) have been the biggest driver of the improvement, with FY21/22 receipts tracking more than $60 billion above their initial estimate, a massive 2.5% of GDP improvement in the top-line forecast. Looking ahead, however, the easy money has been made. The combined deficit for FY22/23 is expected to widen slightly to a still-manageable $29.7 billion (1.1% of GDP), while revenue surprises will be harder to come by.
Eyes on Elections: Dramatic improvements in the fiscal picture versus a year ago couldn’t come at a better time for the handful of provinces going to the polls in the near future. Ontario’s 2022 budget rolled out a heavy dose of new spending ahead of a June 2nd election, including some direct cash payments. Quebec spent $3.3 billion on direct payments to individuals (among other measures), eating up the majority of that province’s revenue upside. They’ll go to the polls in October. And, Alberta will surely be deciding how to best deploy their windfall ahead of a May 2023 election. Combined, this is adding incremental fiscal support, although at a time when the central bank is actively battling inflation.
Borrowing chunky: Total provincial borrowing this fiscal year is estimated at $108 billion. That will be down from the pandemic peak of around $150 bln, but up from last year ($96 billion). And, provinces are still more active than pre-COVID, when the run rate was around $80 bln. While some, like Alberta, will have very little to do this year, others (see B.C.) are looking at a much more active borrowing program.
Debt costs on the rise: Consider two major factors in provincial spreads as the budget season ends. First, geopolitical tension and aggressive tightening cycles from the Fed and BoC have seriously derailed risk sentiment and associated assets. Indeed, the broad provincial group saw 30-year spreads widen to as much as 94 bps versus GoCs in mid-March, from just over 70 bps at the start of the year, before tightening to just under 90 bps in recent days.
This is not crisis-level pricing (they topped 130 bps at the start of the pandemic), but it’s notable in that wider spreads and higher underlying GoC yields have lifted new borrowing costs well off the lows for the group. In fact, long provincial yields now sit at the highest level in eight years. Second, there have been some meaningful shifts in relative pricing below the surface. Alberta longs now trade slightly through Ontario, a 23 bp improvement from early-2021 (thank you oil prices). B.C., on the other hand, has widened to levels rarely seen outside of crisis situations alongside a weaker near-term fiscal outlook.
Bottom Line: The road ahead for provincial finances looks a bit less clear, with most of the economic upside likely now ‘built in’ to fiscal plans, and rising interest rates adding some risk to economic momentum, while tacking some cost onto still-large borrowing programs. That said, the group is still in a solid position, especially considering where we’ve just been.
The B.C. economy is expected to grow 4.4% this year, slightly ahead of the 4.1% rate estimated for all of Canada. The provincial economy has navigated some massive shocks relatively well, including the pandemic and floods. More sustained re-opening, travel activity and capital spending should support above-average growth.
The unemployment rate is expected to drop to an average of 4.6% in 2022, challenging for the lowest level in Canada. Employment was relatively quick to recover pandemic losses. The housing market remains extremely strong, with Vancouver benchmark prices up 21% y/y as of March. Condo prices gained momentum through the turn of the year, in addition to persistent strength in the single-detached market, although higher mortgage rates are starting to cool activity.
The Province of British Columbia is projecting a $5.5 billion deficit in FY22/23, or 1.5% of GDP. That's a deterioration from a nearly balanced budget for FY21/22.
The Alberta economy is expected to lead the country with 5.6% growth this year, as the surge in oil prices reinvigorates consumer and business confidence. Growth should soften to 4.0% next year, but that would again lead the provincial pack.
Oil production has returned to near capacity levels that prevailed before the pandemic. Capital spending growth in the industry looks very firm for the year ahead, but the level remains less than half of its 2014 peak. Even if we don’t expect a resurgence in new project investment, cash flow in the sector looks extremely well-supported, which will bolster local incomes and government revenues.
The job market is recovering quickly, with the unemployment rate now below 7% after topping 15% in early 2020. We expect Alberta’s unemployment rate to cross below the national average next year, after lagging since 2015. Renewed economic optimism has awakened the housing market. Prices in Calgary have jumped 17% y/y, rising to record highs and quickly reversing a six-year slump. The commercial real estate backdrop remains tougher, with high vacancy rates in the downtown office market persisting.
The Province of Alberta is projecting a balanced budget in FY22/23 ($511 million surplus) for the first time in eight years, helped by past spending restraint and the surge in oil prices.
The Saskatchewan economy will likely rebound a solid 4.5% this year, creeping back above the national average after underperforming in seven of the past eight years (drought weighed in 2021).
The resource sector has regained strength alongside higher oil and potash prices. While oil production has yet to reclaim pre-COVID levels, incomes will be very well supported. Meantime, potash prices have soared amid geopolitical turmoil, and BHP’s go-ahead of the massive Jansen project will support activity for the next five years until reaching expected production. Indeed, capital spending intentions in the province are strong, with the highest overall growth expected since 2010.
The unemployment rate is falling quickly, dipping below 5% for the first time since mid-2015 as the job market tightens. Still, the province continues to see net interprovincial outflows to other even stronger jurisdictions.
The Province of Saskatchewan is projecting a $463 million deficit in FY22/23, much smaller than the $2.2 billion shortfall now expected in FY21/22. The improvement comes as spending pulls back from very elevated levels.
The Manitoba economy is expected to grow 4.2% this year, just ahead of the national increase, and assuming a less difficult crop year after a drought-plagued performance in 2021.
Manitoba remains a stable province, with exposure to many industries but no excessive weight in any one sector.
The unemployment rate fell to 4.8% as of February before picking up again, now comfortably below pre-COVID levels. The improvement reflects strong job gains over the past six months as the labour force has also been posting steady growth.
Housing activity is extremely strong, but not yet quite as overheated as many other parts of the country. Sales volumes are well down from early-2021 peaks, but are still running roughly 15% above pre-COVID norms. The benchmark price in Winnipeg was up 13.6% y/y in March.
The Province of Manitoba is projecting a $548 million summary budget deficit in FY22/23, improved from the $1.4 billion now expected for FY21/22. That weighs in at a modest 0.6% of GDP.
Ontario’s economy is expected to post 3.8% growth this year, a shade below the national average and softening after a 4.6% bounce in 2021. Early-year COVID-related restrictions again disrupted the recovery, but the impacts were temporary and proved to be less significant than in prior waves.
The job market is very strong, with employment powering to a record high. Service-sector jobs also sit at a record high, despite a still-large gap in accommodation & food services employment. Finance, professional services and technology-based industries have been hiring at a strong and almost uninterrupted clip through the pandemic.
Housing markets across Ontario are still exceptionally strong, if not overheated. Sales across the province are still running almost 30% above pre-COVID norms. Suburban single-detached, smaller towns, rural and cottage markets have seen dramatic growth, and the downtown condo market has more recently joined in. Benchmark single-detached prices in the GTA were up 35% y/y as of March, while condos were up 34% y/y. But, the market is softening quickly, and extreme demand will be tested by higher mortgage rates, with the Bank of Canada in the midst of a quick series of interest rate hikes. Meantime, supply remains robust, with a record number of units under construction after housing starts topped 100k in 2021.
In the commercial real estate sector, downtown office vacancy rates have eased to 9.7%, according to CBRE, from a high of 12.4%. Net absorptions have turned positive, but rent growth remains under pressure. Some other sub-sectors, such as industrial, remain extremely strong.
The Province of Ontario is projecting a $19.9 billion deficit for FY22/23, $1.8 billion wider than the estimate published in the fall fiscal update. That will weigh in at 1.9% of GDP, and is also wider than last year's $13.5 billion shortfall, as well as the $16.4 billion in FY20/21, which was the pandemic-worst for most jurisdictions.
The Quebec economy posted robust 5.6% growth last year, near the top of pack. Growth is expected to slow to a more modest 3.4% this year, but that would remain well above potential for the province. Quebec was in a position of relative strength before the pandemic, and we remain optimistic on the growth outlook.
That said, the surge in oil prices has tilted some relative strength back to Western Canada, and Quebec is typically at the losing end of that shift. Still, the current situation should be more muted than in the past—the loonie has not surged along with oil prices, which will contain the impact on exports and manufacturing, while the magnitude of past booms in Alberta is unlikely to repeat, limiting the draw on labour from Quebec.
The housing market is extremely strong, with sales and prices in Montreal still surging. Benchmark prices in that city were up more than 18% y/y in March. This partly reflects the impact of record-low mortgage rates and increased demand for larger homes, consistent with other major cities. A series of mortgage rate increases, however, should cool the market. Residential construction has responded, with housing starts in Quebec topping a record 70k units in 2021.
The Province of Quebec is projecting a $3.0 billion deficit in FY22/23, or a modest 0.6% of GDP. The 2022 budget's flagship measure, a $500 direct cash payout to 6.4 million individuals before the end of March, will cost $3.3 billion, and eyes will now turn to an October election.
The New Brunswick economy is expected to grow 2.6% this year, softer than the national average. Keep in mind that the pandemic contraction was also much milder than most other regions, so there has been less ground to make up.
The unemployment rate dipped below 8% early in 2022, which is in line with trends seen in the three years before the pandemic. Employment in impacted industries, such as trade and accommodation & food, has fully recovered the 2020 decline, leaving service-sector employment above pre-COVID levels. The participation rate, however, remains low, currently more than a full percentage point below February 2020 levels.
Population growth has surged to 1.7% y/y, the fastest pace since the mid-1970s, led by a rebound in international immigration and a surge in provincial migrants into the province. The latter has come as families look for space and affordability in a new hybrid/remote-work environment. The consequence has been a surge in local rent and home prices.
The Province of New Brunswick revised its FY21/22 estimate from a $244 million deficit to a $488 million surplus, though it will narrow to $35 million in FY22/23. Small surpluses persist through FY24/25, highlighting the strong turnaround in the Province's fiscal situation.
The Nova Scotia economy is expected to grow 2.8% this year, cooling after a hefty 5.8% rebound last year. Atlantic Canada more broadly has been relatively sheltered from COVID cases and associated lockdowns, so there has been less ground to make up. But, demographic strength and a rebound in tourism should still support well above-potential growth for now.
At the turn of the year, international travel flows into Canada were up from the pandemic lows, but still running at only 30% of 2019 levels. With border restrictions eased, the summer 2022 season should be the strongest for travel activity since the pandemic.
The job market is also strong. The unemployment rate plunged to 6.5% in March, as employment continues to rise, now more than 2% above pre-COVID levels.
Resale housing market activity is still extremely strong, even after sales have fallen sharply from early-2021 highs. Activity continues to trend well above pre-pandemic norms, with interprovincial inflows piling onto a rebound in international immigration. The average sale price in Halifax-Dartmouth has surged to nearly $600k, up from about $330k in late-2019.
The Province of Nova Scotia is estimating a $506 million deficit for FY22/23, or 1% of GDP. Shortfalls are expected to persist over the next four fiscal years, while the net debt burden gradually rises.
Prince Edward Island
The PEI economy will likely expand 2.7% this year as the recovery continues at a solid pace. Recall that the province was enjoying a significant boom before the virus broke out, leading the country in economic growth in 2019. There are some signs of strength continuing, including demographic flows and a likely return of tourism activity.
Tourism and seasonal visitors during the summer months are major drivers of local economic activity, and both of those sources remain challenged. However, with Atlantic and Canadian travel opening back up, and the appetite apparently now stronger, U.S. and Canadian inbound travel should have its strongest summer since the pandemic began. Meantime, an influx of people, both from abroad and from other parts of Canada, will continue to support robust housing demand.
The unemployment rate is trending around 9%, relatively low for the province alongside a jump in employment to record highs. Full-time hiring ran a very strong clip through 2021, with momentum continuing early this year.
The Province of Prince Edward Island is projecting a $93 million budget deficit for FY22/23, about $66 million larger than the previous year. That will weigh in at modest 1% of GDP, though that marks a 0.7 ppt deterioration from FY21/22.
Newfoundland & Labrador
The Newfoundland & Labrador economy is expected to expand 3.6% this year, a second year of solid growth, with incomes getting an additional boost from surging oil prices. The province was in a challenged position pre-COVID, but is emerging in better shape, with a notable boost to government royalty revenues incoming.
While oil production remains burdened by declining reserves (Hibernia and White Rose), and a disruption at Terra Nova, Hebron continues to churn out steady output. And, the value has surged alongside higher prices.
The unemployment rate is well down from 2020 highs, sitting just under 13% as of early 2022. Employment has recovered all of the losses seen over the past two years, but the longer-term trend is likely stable around current levels, after some further modest near-term growth.
Tourism-related employment remains a clear weak spot, but travel flows should return more meaningfully this summer.
The Province of Newfoundland & Labrador is projecting a $351 million deficit in FY22/23 (0.9% of GDP), an improvement from the $400 mln deficit in FY21/22 (which itself is better than the previous budget's $825 million estimate).This is a meaningful improvement in the province's short-term fiscal picture, helped in part by federal transfer payments.