Budget Analysis: November 21, 2012
A Cautious Quebec Budget in a Tumultuous Global Economic Environment
Quebec’s Budget 2013 comes as the province finds itself in a more precarious economic environment and facing ballooning infrastructure costs. Despite these pressures and revenue challenges, the new government is still planning to balance its books in 2013–14. For this fiscal year, the deficit estimate remains at $1.5 billion.
New taxes will hit higher-income earners and consumers of tobacco and alcoholic beverages as the government moves to shore up revenues. The new Parti Quebecois government could not hold to its election promise to eliminate the $200 flat health care contribution. Instead, a more progressive income tax structure will be put in place. Some taxpayers will not be paying the health care contribution at all, while higher-income earners will be subject to a new tax of as much as $1,000. As well, this new budget raises the tax rate on taxable income above $100,000 by 1.75 percentage points, bringing it to 25.75 per cent. However, the combination of a higher tax rate on higher earnings and the changes to the health contribution will not bring in higher revenues for the government, as the overall level of personal incomes will be lower than previously expected.
Addressing Quebec’s large and growing gross public debt is also an immediate priority for this new minority government. In 2013–14, the government plans to draw about $1 billion from its Generations Fund to help bring down the level of debt. The main factor behind the rapid increase in the debt has been skyrocketing infrastructure spending. Infrastructure Quebec recently mandated SECOR-KPMG to review how infrastructure projects are managed. The study found that for a large number of projects, the estimated initial costs were not realistic. For example, the estimated cost for the construction of the new Turcot interchange in Montréal—which has not even begun—more than doubled between 2007 and 2011, going from $1.5 billion to $3.6 billion.1 Given the impact of large investments in public infrastructure on the growth of the province’s debt, the new government is committed to improving the management of infrastructure projects. By doing so, the government says it will be able to cut capital investment by $1.5 billion in 2013–14 compared with earlier projections, thereby bringing infrastructure spending to a more sustainable level.
Nevertheless, while the Quebec government is prudent in its fiscal and economic projections, global economic uncertainty and the inevitable difficulties in keeping spending and infrastructure budgets under control could make debt reduction a difficult task.
The new budget maintains the previous government’s target of limiting this year’s deficit to $1.5 billion and returning to fiscal balance by 2013–14. (See chart “Infrastructure Spending to Be Cut by $1.5 Billion.”) However, returning to a balanced budget will not be easy. The economy is not expected to grow as strongly as had been projected, given the grim global economic environment. And commitments made by the former government mean that there is a revenue shortfall of as much as $1.4 billion in 2013–14 and $2.8 billion in 2014–15. In addition, the new government is also adopting a number of measures that will reduce government revenues. First, the planned increase in annual post-secondary education tuition fees of $1,778 over seven years has been cancelled. Also, the government is not moving forward with the planned $0.01/kWh increase in the price of heritage pool electricity. Instead, electricity prices will be indexed to the cost of living only.
In order for the government to bridge these revenue gaps and offset the fall in revenues from the new measures, a combination of spending cuts and tax increases will be used. Growth in program spending will be limited to 1.8 per cent and 2.4 per cent over the next two fiscal years. In particular, agencies and special funds will be asked to cut spending by $200 million in 2013–14 and 2,000 jobs (out of a total of 22,500) will be eliminated at Hydro-Quebec, with all the cuts coming through attrition.
On the revenue side, the tax rate on income over $100,000 will be increased by 1.75 percentage points—from 24 per cent to 25.75 per cent. Also, instead of eliminating the health contribution as promised during the election campaign, the new government will keep it in place but apply it in a more progressive way. (See table “Revised Plan for Health Care Contribution.”) As a result, workers earning less than $42,000 per year—two-thirds of all taxpayers—will be paying less than the $200 contribution they had previously paid. The Quebec government will also increase the tax on tobacco products for the first time since 2003. Cigarettes will go up by $4 a carton, which the government says will bring in an estimated $130 million in additional revenues for 2013–14. Alcoholic beverages will also be subject to higher taxes—an additional 3 cents per bottle of beer, 17 cents per bottle of wine, and 26 cents per bottle of spirits.
The new government is making debt reduction an even more pressing priority. Quebec’s gross debt is expected to reach a staggering $200 billion by March next year, or 55.7 per cent of GDP—an increase of one percentage point from a year earlier. The government aims to bring the gross debt-to-GDP ratio below 50 per cent by March 2018 and has kept the same long-term objective of reaching 45 per cent by 2025–26. To attain these goals, the government is planning to manage the Quebec infrastructure plan more closely. Investments in public capital—which were responsible for 65 per cent of the growth in the province’s gross debt this year—will be reduced by $1.5 billion a year as of 2013–14, compared with the March 2012 budget. As a result, infrastructure spending will be capped at a yearly average of $9.5 billion over the next five years.
Over the past two years, the Quebec economy grew slowly compared with what we saw in the Western provinces and Ontario. The province will end 2012 with an increase in real GDP of less than 1 per cent—its slowest pace in more than 15 years aside from 2009 (when the economy was battered by the recession). In the near term, economic activity in the province is expected to improve, although real GDP growth will remain modest. The economic forecast underpinning the Quebec 2013 budget is in line with The Conference Board of Canada’s forecast for the next two years. The Quebec Ministry of Finance projects that the economy will grow by 1.5 per cent in 2013 and by 2 per cent in 2014. The Conference Board’s real GDP forecast is just slightly more positive than that, with real GDP growth projected to be 0.1 percentage points higher in each year. While the Quebec economy is expected to improve, risks remain elevated. The export recovery remains fragile, the decline in global metal prices could slow the expansion of the mining sector, and new personal tax measures could depress consumer demand and limit the contribution of households to the economy.
In terms of nominal GDP, which forms the tax base, the Quebec Ministry of Finance expects growth of 3.4 per cent in 2012. Growth is forecast to improve to 3.7 per cent and 4 per cent over the next two years, reflecting a better outlook for corporate profits and for household income and consumer expenditures. After 2014, the Quebec government does not expect the economy to pick up steam, as it will inevitably enter a period of much slower labour force growth. Annual real GDP gains of less than 2 per cent are anticipated for 2015–16, 0.4 percentage points lower than the national average.
Economic Impact of the 2013 Budget
The new measures announced in this budget will have a slightly negative impact on GDP growth in 2013 and 2014. The economic outlook is slightly weaker, as program spending growth will be cut from 3 per cent to 2.4 per cent in fiscal 2014–15, which will take about $200 million out of the economy. Moreover, the cut in public infrastructure investment by an annual average of $1.5 billion could shave 0.2 per cent from the Conference Board’s forecast for real GDP in Quebec in 2013. On a positive note, Quebec will continue to encourage private investment by extending the tax credit for investment in manufacturing and processing equipment an additional two years to 2017. This move should help productivity growth, which has been lagging the Canadian average for a long time.