THE ‘HORRIBLE TRADE-OFF’
Rules keeping Albertans safe have also left economy in tatters
Just over two months ago the Alberta government predicted a price of nearly US$60 per barrel of oil for several years to come, a revived Alberta economy and a budget surplus by 2022-23.
Now Alberta faces its biggest economic crisis since the Great Depression.
Demand for oil has crashed due to the COVID-19 pandemic shutting down economic activity around the world. That same health shock spurred a ruinous price war between Saudi Arabia and Russia. In response, Alberta’s conservative government and, even more so, the Justin Trudeau Liberals in Ottawa ramped up spending to help keep people afloat during the pandemic.
Never before, not even during the worst days of the 1930s, has Alberta experienced such a shortterm drop in economic activity and rise in unemployment, which sits at 13.4 per cent.
“I could use the word ‘dire.’ Pretty bad,” University of Calgary economist Jack Mintz, chair of the Alberta government’s economic recovery council, says of the current situation. “The only thing offsetting some of the impact is all the money that is being spent both at the federal and provincial levels to try to soften the impact.”
“The question is, how long do the (public health) restrictions stay in place?” says University of Alberta economist Andrew Leach. “What does the reopening look like? And obviously, for Alberta, the length of the oil price crash — and that links us to (economic) slowdowns everywhere else.”
ROSY NOT-SO-DISTANT PAST
In January and early February, when revenue and spending estimates were locked in for Alberta’s 2020-21 budget, the province’s outlook was far rosier. West Texas Intermediate (WTI), the North American benchmark for crude oil, was selling at close to US$60 a barrel in January.
With that in mind — and with oil revenues directly linked to $5.1 billion of the province’s forecast of $41 billion in overall revenues and indirectly linked to $17 billion in corporate and personal income tax revenues — Premier Jason Kenney’s government forecast economic growth of 2.5 per cent for the fiscal year. The deficit would shrink even as the United Conservatives continued to lower corporate taxes, from 12 per cent in July 2019 falling over time to eight per cent in January 2022.
But by Feb. 27, the day the new budget was tabled, WTI had dropped to US$47 per barrel, down $15 per barrel from its January high.
University of Calgary economist Trevor Tombe was alarmed at the optimism of the government forecast, telling the Calgary Herald: “There have been some fundamental changes in the global economic environment, the oil prices, and there are a lot higher risks and uncertainty here.”
By March 3, with oil prices continuing to fall, Finance Minister Travis Toews admitted to a Calgary Chamber of Commerce luncheon that even as he put forward the budget in the Legislature, “It felt like Rome was burning behind me.”
The worst was yet to come, with Saudi Arabia and Russia refusing to curtail oil production and going to war on market share, leading on March 8 to the second biggest single-day drop in the price of oil in history, behind only the plunge during the 1991 Gulf War.
At once, Kenney turned to the federal government in Ottawa for help, saying on March 11: “Alberta is in uncharted territory, facing a global pandemic, economic crisis, and overseas price war that all significantly threaten the health of our people and our economy. Albertans have always been there for Canada. Now we need Canada to return the favour.”
At that time, Tombe predicted a drop of $5 billion in Alberta’s revenues, but with the enormity of the crisis now setting in, he’s predicting the loss in taxes, royalties and investment returns will amount to $11 billion in 2020-21, though there’s still much uncertainty around that number.
With businesses locked down and closed — with some never to reopen — with workers earning less or nothing at all, and with unemployment rising, fewer tax dollars will flow to all levels of government.
Alberta was expecting $23 billion in income, corporate and other taxes this year, but Tombe expects that to drop as much as $4 billion. Alberta was also hoping for $2.6 billion in investment income, but Tombe now says we’re more likely to lose money, perhaps $1 billion.
As for resource revenue, the province was counting on $5.1 billion this year, but that could drop about $3 billion or more.
OIL PRICE SHOCK
By mid-april, WTI did what it had never before done, crashing to negative value for a few May contracts.
“For something like WTI, which is so broadly traded, it is almost unfathomable,” Leach says of the negative price.
It was around $25 per barrel in early May, far below the $58 per barrel that Alberta predicated its Feb. 27 budget estimates on.
Toews says Alberta has yet to make new forecasts and revenue projections, but expects lower long-term prices. The government will make an economic statement in June with an update later in the summer.
Unable to sell their oil, companies around the world are storing it. It will take some time to eat up that supply, Mintz says, even when demand returns.
In China — which has reportedly wiped out most new cases of the virus — there’s been a good rebound of demand for oil. “It hasn’t gone back exactly to where it was before the virus, but it’s returned quite a bit.”
As the world economy ramps up, prices will increase, with low projections of $30 per barrel by the end of the year and high projections of $40. The most optimistic take is $45 per barrel. “People are betting that the market price will go up. The question is, how fast?”
There is one silver-ish lining to the drop in demand, the economists say. Canada will cut back production by about 1 million barrels per day, meaning there will no longer be a pipeline capacity problem. It was the pipeline issue that largely drove a discount of as much as $40-to-$50 per barrel in 2018 on Western Canadian Select, the heavy oil produced in Alberta composed mostly of bitumen, but that discount should now remain low.
HUGE HIT TO PROVINCIAL REVENUES & EMPLOYMENT
The Alberta government planned to spend $57 billion this fiscal year, with a deficit of $7.5 billion. Economists say that deficit will be more like $20 billion, a number Kenney also suggested in early April.
Alberta’s Gross Domestic Product, the total value of goods produced and services, is around $350 billion a year. Mintz estimates it will drop by about 10 per cent. This rate of decline is much deeper than other parts of Canada, he says.
Canada has never had a hit to employment like this one.
“You saw a reduction in employment that was twice as large as the worst month in the Great Depression,” says Tombe, with a 2.5- to 3.0-per-cent drop in the Great Depression, but a 5.0-percent drop in March. Employment declined by 11 per cent in April.
If we include in Canada’s unemployment ranks everyone who has a job, but is now on government assistance, the rate is about 33 per cent unemployed, worse than the Great Depression’s highest rate.
BUDGET-BALANCING PLAN BLOWN UP BIG TIME
Provincial government debt will shoot up by about an extra $13 billion this year, economists predict.
“It’s going to be a uniquely bad year,” says economist Ben Eisen of the Fraser Institute. “But Alberta has been in the process of accumulating debt for a long time now.”
Alberta budgeted to spend $56.7 billion this year, with the big ticket items being $22.4 billion for health care, $14.7 billion on basic and advanced education, and $6.2 billion on social services. On March 17, Kenney announced an additional $500 million for health care spending to directly deal with the pandemic.
But what happens to all that spending when revenues crash and debt servicing costs go up?
Alberta paid only $214 million in debt charges in 2009-10, Eisen says, but will pay $2 billion in 2019-20 and was expecting — even before the COVID-19 crash — to spend $3 billion on debt servicing in 2022-23. “That takes money out of the provincial budget and it’s then unavailable for everything else that the government would want to do,” Eisen says.
Interest rates are low today, Mintz says, but he’s concerned about what will happen if there’s a change to Alberta’s credit rating and the province can only get new loans at additional interest costs.
For now, though, increased government spending is the right plan, Mintz says.
“We’re going to have to accept these high debt loads we’re getting right now. If we didn’t have the actions being taken by federal, provincial and municipal governments right now, we could well be into a major depression for years to come.”
Alberta’s debt-to- GDP radio will go from 10 per cent to 20 per cent this year, Tombe says. “A 20 per cent debt-to- GDP ratio in Alberta is the highest we’ve seen since the Great Depression, which is not to say it’s not manageable. It’s just something that we are not used to.”
Slowing government spending will be no easy matter, Tombe says.
“It will be an additionally difficult decision for the government to eliminate these income support measures, which are surely in
place as a public-health measure to bridge through this period of social distancing. But once we’re on the other side of it, governments will need to be rolling this back and that will create additional strain on businesses and some individuals. So that is going to be the next challenge.”
The government’s fundamental responsibility in the short-term is ensuring the health-care system can handle this outbreak, Toews says. But it hasn’t forgotten its goal to balance the provincial budget, even if the 2023 deadline will now have to be extended.
“Balancing the budget remains important to this government, but quite frankly my expectation is our goal of balance is going to be extended.”
Opposition NDP leader Rachel Notley says Alberta’s main issue is a drop in revenue, not overspending during this crisis. She adds that, at most, the government is spending an extra $2.5 billion, mainly on health care and infrastructure, leaving the heavy relief spending to the federal government. “Jason Kenney’s approach so far has been to wait for Justin Trudeau to come in and fix it.”
As for Alberta’s debt-to- GDP ratio shooting up, Notley points out that Ontario’s debt-to-gdp ratio is 40 per cent.
“Twenty per cent, I’m not suggesting that means, ‘Yeah! Go to town!’ But it means we’ve got a bit of room to work in. It’s a luxury we have. Focusing solely on cutting everybody will actually slow the economy and drive more people out of the province.”
Notley calls for an end to Kenney’s corporate tax cuts, but Mintz says after the 2008 financial crisis, governments worldwide generally avoided big tax increases for corporations to grow their way out of economic doldrums.
With interest rates so low, that should greatly alleviate longterm concerns about debt, Leach says. Alberta is in a “historically good position” to maintain public health measures while protecting workers and business. “Whether it’s provincially or nationally, we haven’t reached the point where we are up against a debt wall.”
THE REOPENING CONUNDRUM
The economists all stress how difficult it is to forecast anything right now, given the huge amount of uncertainty around the virus. The single biggest unknown — and the most important determinant, the economists say — is around how successful we and other jurisdictions will be in restarting and maintaining the economy in the face of expected and continued viral outbreaks into 2022.
The key is to manage the risk, Kenney has said, which will be done with a gradual plan to reopen and to curtail new outbreaks, thus making sure hospitals aren’t overrun. The Alberta government has introduced a phased relaunch of the economy, with hair salons, restaurants and most retail outlets likely reopening in mid-may in the first phase.
“The biggest concern is how long the lockdowns last in these economies,” Mintz says. “The longer they do, the more companies are going to go bankrupt, and when you have bankruptcies, that holds down the economy even more in terms of its rebound and growth.”
Tombe worries that pushing to get back to work and school too soon could lead to a new outbreak, which would undermine confidence for people to go out to work and shop, and would lead them to question government and health care leaders. He also knows it’s a difficult time for folks who have lost or will lose their job or business because of the shutdown.
“That is truly tough and heartbreaking and I don’t know the right way forward,” he says. “So I don’t want to be in the shoes of any leader here. It is a fundamentally horrible trade-off that governments do need to be making.”
The good news, if there is any here? That if Alberta can somehow make its way out of the COVID -19 crisis and relaunch the economy, the province might also have an unprecedented surge.
“On the bright side, this is completely different from the Great Depression,” Tombe says.
“We’re going into this as a public-health measure. And we’re going into this in a way that is rolling out support to individuals and businesses. Ideally, these programs for many people, hopefully a large majority, will support them through that crisis so when things ease up, we will then see the sharpest increase in economic activity ever recorded.”