In today’s pre-budget announcement, Federal Finance Minister Bill Morneau indicated that the state of the Canadian economy and public finances worsened significantly since the release of the fiscal update last November.
The average of private sector economic forecasts, the basis for fiscal planning, was revised down for 2016. First, the real GDP growth forecast for 2016 was reduced from 2.0% to 1.4%. The GDP inflation projection was slashed even further from 2.1% to 1.0%, reflecting a prudent US$40 average WTI oil price assumption for 2016 (as a reference, a 1% change in real GDP impacts the budgetary balance by about $5B annually; while the impact of a 1% change in GDP inflation is approximately $2B). Meanwhile, the 2017 economic projections from the fall fiscal update were left unchanged (see table).
Given the severe downside risks surrounding the economic outlook, the Ministry of Finance decided to present a 2-year outlook instead of a 5-year outlook. Moreover, the size of the fiscal cushion was doubled: the level of nominal GDP, the broadest single measures of the tax base, projected for the next 2 years by the private sector was shaved by 2%, which translates into a fiscal impact of about $6B in both FY 2016-17 and 2017-18.
All in all, before including the budgetary measures that will be presented in the March 22nd budget, the deficit is now expected to be $18.4B for FY 2016-17 (0.9% of NGDP) instead of the $3.9B deficit projected in last fall’s update. For FY 2017-18, the deficit is projected to shrink slightly to $15.5B (0.7% of NGDP), primarily reflecting a projected rebound in WTI oil prices to US$52.
By presenting the new economic outlook today, Canadians will be able to focus on the myriad of budgetary measures that will be included in the March 22nd budget to support the economy rather than on the size of the deficit itself. In other words, the attention will turn to the details supporting the fiscal transition between the previous and the newly appointed federal government. Once the budget documents will be made available, market participants and credit agencies will also be able to focus on the side effects of the much-needed incoming fiscal boost on key financial metrics; namely the future path of the debt-to-NGDP ratio. We previously estimated that the measures included in the Liberal Party electoral platform will add approximately $10B annually to the deficit. Also, further initiatives to support the economy in the near term, such as EI extension, could be added given the most recent deterioration in economic conditions. Accordingly, the annual deficit is more likely to end up closer to $30B, representing about 1.5% of NGDP. As long as the 2.4% and 4.6% NGDP growth forecasts for 2016 and 2017 turn out to be accurate, the federal debt-to-NGDP ratio will shrink and, by far, remain the lowest among industrialized countries.
