Flaherty Aims to Reverse Canada Deficit Legacy in Budget

Canada’s Finance Minister Jim Flaherty
Canada’s Finance Minister Jim Flaherty. Photographer: Simon Dawson/Bloomberg

Canada’s Finance Minister Jim Flaherty, a self-proclaimed fiscal conservative who has overseen more than C$100 billion ($100 billion) in deficits in the past three years, will seek to reverse that legacy in a budget that cuts spending and prods businesses to lead economic growth.

Flaherty will try to encourage innovation and development of natural resources by companies such as Calgary-based Suncor Energy Inc. to offset slower government spending and indebted consumers. Flaherty has said he will cut C$4 billion to C$8 billion in annual program expenses to help restore budget balance, and make social spending more sustainable in his seventh fiscal plan, to be released around 4 p.m. Toronto time.

“What you have to do now is adjust fiscally and start thinking about priorities,” said Christopher Ragan, a former adviser to Flaherty and economics professor at Montreal’s McGill University. “Basically every year from now going forward, you’re going to have this fiscal squeeze in your face.”

Since winning a parliamentary majority in last year’s elections, Prime Minister Stephen Harper’s Conservative government has pledged to bolster Canada’s long-term finances and develop its resource wealth to drive growth amid a weak global economy and slowing revenue. This will include measures to encourage investment and ensuring social spending remains controlled.

Canada’s economic growth is projected to slow to 2 percent in 2012, the weakest pace since 2009, amid a tepid global expansion and restrained spending by consumers and government, according to a survey of Bloomberg economists.

Businesses Driving Growth

Bank of Canada Governor Mark Carney has said that means Canadian businesses will need to take over from indebted households and boost investment to sustain economic expansion.

The fiscal plan will include steps to speed environmental approvals for energy projects, Natural Resources Minister Joe Oliver said this week, as the country seeks to increase investment in the industry and diversify export markets. The government also plans to act on issues identified by an “expert panel” studying federal funding on science and technology as part of its innovation agenda, Flaherty has said.

That report, written by Open Text Corp. chairman Thomas Jenkins, recommended Canada create a central funding agency to support corporate research and development, simplify a tax credit that encourages businesses to invest in technology, and increase funding for startup companies.

Provincial Transfer Cap

Flaherty in December announced plans to cap the growth of transfers to provinces for health care through 2024. The decision will steadily reduce the federal government’s debt levels at the expense of a growing fiscal gap for the provinces, according to a Jan. 12 report by the Parliamentary Budget Officer.

Other ministers, including Human Resources Minister Diane Finley, have said the government also plans to change the public Old Age Security pension, possibly by raising the eligibility age for future recipients. The government may delay benefits to age 67, from 65, the Globe and Mail reported today.

Flaherty lowered government revenue projections in November, forecasting a C$31 billion deficit for the fiscal year that ends this month. That fiscal update projected the elimination of the deficit by the year starting April 2015, and yesterday Flaherty reiterated the budget will be balanced “in the medium-term.”

An improving fiscal outlook could accelerate the return to balance and ease pressure for austerity measures that could slow growth. In a March 21 report, economists at Toronto-Dominion Bank estimated the deficit for the fiscal year ending this month will be C$26 billion. Economists at Royal Bank of Canada estimate the deficit will be in a C$20 billion to C$25 billion range.

Bond Issuance

Even with a shrinking gap, federal government bond issuance will remain at more than C$100 billion next fiscal year, similar to levels since the 2008-09 recession, according to Mark Chandler, head of fixed-income and currency strategy at Royal’s RBC Capital Markets unit in Toronto.

That’s due to a large amount of redemptions and the Canadian government’s efforts to build reserve funds.

“It’s great that we have a very good debt and deficit story, because if we didn’t people would be focusing more attention on that,” Chandler said. “The actual gross issuance is fairly high and that’s something to keep in mind.”

Government bonds have returned 9.2 percent over the past year according to Bank of America Merrill Lynch index data, compared with a 6.7 percent average for the G-7. Canada’s benchmark S&P/TSX Composite Index has risen 6.7 percent over the past four months, compared with an 18 percent gain for the S&P 500 Index.

Housing Market

Another target for Flaherty in the budget may be the country’s housing market as prices continue to rise with household debt levels.

Canada’s banks have ramped up their issuance this year of covered-bonds, which are backed mostly by mortgages insured by Canada’s housing agency, in anticipation Flaherty will introduce legislation that may make it more expensive to sell the debt.

Flaherty may put limits on the collateral banks are allowed to put in covered-bond pools, Finn Poschmann of Toronto-based research organization C.D. Howe Institute said in a Financial Post article on March 22.

The government may also decide whether to raise the limit on mortgage insurance taken on by Canada Mortgage & Housing Corp. The agency said in January it is rationing insurance for lenders as it approaches its legal insurance limit of C$600 billion.

Before it's here, it's on the Bloomberg Terminal. LEARN MORE