DBRS Comments on Québec’s Budget: Running Out of Flexibility

DBRS notes that the Province of Québec (the Province or Québec; rated A (high) and R-1 (middle) with Stable trends) introduced a new 2014 budget on June 4, 2014 – the first budget for the recently elected Liberal majority government. The revised fiscal plan reveals further erosion in the fiscal outlook relative to the previous government’s February 2014 budget but maintains the commitment to restore fiscal balance by 2015-16. In DBRS’s view, the plan is potentially manageable but will require considerable effort to contain spending to the targeted 1.9% or less, to secure the various fiscal measures yet to be identified and to get the support necessary from unions. As such, the plan leaves the Province vulnerable, with limited tools left to prevent further erosion in the fiscal outlook and the accumulation of debt should the economy continue to underperform.

For the year ended March 31, 2014, preliminary estimates point to a budgetary deficit of $3.1 billion, consistent with the experts’ report on the state of Québec’s public finances released on April 25, 2014, but a notable deterioration from the balanced budget anticipated at the time of DBRS’s last review. On a DBRS-adjusted basis (including capital expenditures as incurred rather than as amortized), this represents a shortfall of approximately $6.9 billion, or 1.9% of gross domestic product (GDP). The erosion largely stems from disappointing economic performance as both real and nominal GDP undershot projections, resulting in weaker-than-planned revenues, although program spending has also increased somewhat.

In 2014-15, the budget points to a deficit of $2.4 billion before returning to a balanced position in 2015-16, two years later than originally forecast in the 2009 budget. This equates to shortfalls of approximately $7.0 billion and $3.4 billion on a DBRS-adjusted basis in 2014-15 and 2015-16, respectively. Unlike recent budgets, the revenue measures proposed by the new government are relatively modest, perhaps in recognition of the already considerable effort required from taxpayers in previous years. As a result, the majority of new efforts to restore balance will take place on the expenditure side. The government has announced the formation of a new program review committee tasked with finding $3.3 billion in expenditure savings by 2015-16. A taxation review committee will also be established to find $650 million in ongoing tax expenditure reductions starting in 2015-16. To manage labour costs, the government will impose a freeze on staffing levels across government, including the broader public sector, for the next two years. Further restraint is expected to be realized when labour agreements come up for renewal in 2015-16, as the budget incorporates limited resources for public sector wage increases.

Following disappointing real GDP growth of just 1.1% in 2013, the new budget assumes accelerating growth of 1.8% in 2014 and 2.0% in 2015, supported by an improvement in domestic demand and the external environment. This is consistent with the private sector consensus tracked by DBRS. Despite a difficult first quarter, the outlook for the U.S. economy is encouraging and a lower Canadian dollar will add further support to Québec exports.

At the time of last year’s rating review, DBRS anticipated that the debt-to-GDP ratio had peaked around 61% in 2012-13 and would begin to decline in 2013-14. As a result of the deterioration in fiscal performance, the latest estimates again point to a debt burden of approximately 61% in 2013-14, with another modest increase projected in 2014-15. After which, the debt burden is forecast to gradually decline to roughly 56% by 2018-19, provided that the fiscal recovery remains on target and capital spending moderates as planned.

The above noted projections on a DBRS-adjusted basis are based on high-level estimates but will be refined as part of DBRS’s detailed annual review to be completed in the coming weeks.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The applicable methodology is Rating Canadian Provincial Governments, which can be found on our website under Methodologies.

This rating is endorsed by DBRS Ratings Limited for use in the European Union.