December 9, 2021

Alberta Mid-year Fiscal Update: good news, but let’s not get distracted from longer term issues

Last week a sigh of relief washed over the province after the Government of Alberta released an update on its finances for this year and expectations for future years.

The release shows an immense improvement in this year’s deficit—that is, the shortfall between how much money the government will bring in via taxes compared with how much it will spend on public services over the year.

When Budget 2021-22 was tabled in February, the deficit was expected to be $18.2 billion. As of the first update in August, this expectation was slashed to $7.8 billion. At the end of November, we learned it is likely to be even lower: $5.8 billion, a mere 30% of the initial forecast.

This means the government will borrow a full $12 billion less to cover its expenses (money that would have to be paid back at a later date, plus interest), a considerable amount for a province whose budget is around $50 to $60 billion from year to year.

A very big sigh of relief, indeed.

What changed?

Resource royalties (a tax on non-renewable resources) is largely responsible for saving the day or, in this case, the year.

Following a tough year for the oil and gas industry in 2020, the Budget expected resources to generate just $2.9 billion in tax revenue. Now that number is looking to be $10.9 billion, a whopping $8 billion more than initially anticipated.

That said, the day needed to be saved precisely because resource revenue was expected to be so low, leaving a gaping hole in the province’s budget. With pandemic restrictions still largely in place and vaccination a far-off ideal, it was hard to imagine high demand for oil and gas—and thus much in the way of revenues—when this year began.

However, as vaccination efforts ramped up, the world was eager to move again (to travel, or just get out of the house). This, coupled with restricted OPEC supply and years of underinvestment in sustaining production, meant higher prices.

The benchmark for oil prices known as WTI, which was forecast at just $46 a barrel in the Budget, has instead been in the $60s and $70s for much of this year. This represents significantly higher revenue for Alberta’s oil and gas industry, which, in turn, makes for significantly more government revenue; $8 billion more, representing a sharp turnaround in the provinces fortunes.

How have government revenues changed?

The improvement in the fiscal fortunes for this year was wholly driven by the revenue side, and, as mentioned, predominantly by resource royalties. Here are a few key things to know about government revenues:

  • In total, government revenue increased from $43.7 billion as of the Budget to $57.9 as of the mid-year update.
  • This was driven primarily by resource royalties (an increase of $8 billion).
  • That said, other areas saw improvement as well, thanks to a stronger economic recovery than anticipated.
  • Other sources which saw a strong improvement include investment income (up $1.8 billion), personal income (up $1.4 billion) and corporate income (up $1 billion).

How about government spending?

Meanwhile, though the changes on the revenue side will get most of the attention, government spending is estimated to be about $2 billion higher than expected in the Budget. Here are a few key things to know about government spending:

  • In total, government spending increased from $61.9 billion as of the Budget to $63.7 billion as of the mid-year update.
  • Generally, spending across different categories remained fairly in line with Budget expectations.
  • The one big exception was “other programs” spending (up $3 billion), which includes a range of programs. Within this, the primary driver was an increase in agricultural support as the result of extreme droughts over the summer months, expenses which were largely unavoidable and necessary to protect a key industry.
  • Interestingly, though the province will have increased its debt by about $35 billion since the onset of the pandemic, interest payments on debt remain relatively low, representing around 4% of total spending, thanks in large part to low interest rates.

What does this mean for the province’s longer-term financial woes?

Though this mid-year update is good news for the current year, what’s most important is the province’s longer-term fiscal sustainability.

At face value, the long-term outlook is much better. The revised forecast for future years shows the deficit is now expected to be much lower as of the 2023-24 fiscal year: $2.3 billion, down from the $8.0 billion forecast earlier this year.

Of note, both figures represent holding the line on the spending side of the ledger (the goal being to bring spending in line with other large provinces); so the difference between the two primarily reflects improved expectations for revenues. This is a big improvement, and very encouraging.

Though this is encouraging, there are two things to keep in mind.

First, as is stated in the Budget update, “risks remain elevated.” Economic recovery is strong but not without challenges–of new variants, restrictions, and what seems to be lasting supply chain issues.

In particular, resource royalties continue to face a great deal of volatility, and uncertainty, from year to year. Just as quickly as our fortunes improved, they can deteriorate. Though this was among the sharpest year-over-year swings in Alberta’s recent history, this revenue roller coaster is nothing new to Albertans. Swings of over $2 billion are commonplace and swings of over $5 billion have occurred 6 times since the early 2000s. This one serves as a reminder of the unpredictability of resource revenues, pandemic or not.

Further, the province’s dependency on resource royalties to balance the books seems likely to become more problematic in future: revenue from resources has generally declined over time and future forecasts are increasingly difficult in the face of decarbonization, national and international policy changes, and changing consumer demand. In other words, the upwards revision to future revenues is anything but certain. Even though we expect Alberta to be a major player in the global energy supply market for a very long time.

Source: Alberta Fiscal Plan 1997, 2009, and November 2020, Historical Fiscal Summary and 2021-22 Mid-year Fiscal Update and Economic Statement, estimate for fiscal year 2021-22 and targets for fiscal year 2022-23 and 2023-24. Fiscal years are denoted by fiscal year end (e.g. 2022 represents the 2021-22 fiscal year.) Own calculation of resource revenue change, adjusted for inflation with data from Statistics Canada and estimates for inflation from the 2021-22 Mid-year Fiscal Update and Economic Statement.

Secondly, the forecast assumes spending will be held constant. Ensuring Albertans get value for their tax dollars and that no money is wasted or spent inefficiently is important. As prices rise and the population grows, however, this means the “real” value of how much that money can actually provide per Albertan (in terms of public goods and services) will decline.

This could be a challenge because, at the same time, the province faces two growing needs that could make holding the line on spending difficult to achieve in practice. First, Alberta’s ageing population will be more expensive to care for. Second, young and working-age Albertans will require more education and opportunities for upskilling, especially for those that have been or will be at risk of being left on the sidelines in a changing world. “Holding the line” is no easy task.

Looking ahead

While this is a hopeful update, revenue uncertainty remains as high as ever—especially in the face of growing needs. Let’s not let this update distract us from the hard work required to build long-term fiscal sustainability and competitiveness. After a sigh of relief that this year will be quite a bit better than we thought, now is time to take a step back and ensure that, instead of betting on its future, Alberta is preparing for it—through the creation of a stronger, more resilient, and most importantly more competitive, revenue model.

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