The Atlantic Provinces receive dismal grades for their efforts to control their debts, which continue to threaten the region’s economic future. “A few years of balanced budgets can’t undo decades of debt creation,” says Tom Riley, AIMS Research Fellow in Public Finance and author of the latest AIMS Research Report, Debtors’ Prison: Public Sector Debt and What It Means for You.
“Recent budget surpluses are so thin they provide no margin of safety in ensuring our economic future. Any small bump in the economic road – a rise in interest rates, a recession, increased political uncertainty – could send the region’s debt spiralling again and threaten essential public services,” Riley says.
To provide Atlantic Canadians for the first time with an objective measure of each province’s debt situation, AIMS assembled a distinguished advisory panel of public finance experts to work with Tom Riley to develop criteria based solely on hard numbers from the provinces, the Dominion Bond Rating Service and other observers. (See Fact Sheet below.)
The regional debt is now at $26 billion on top of a $600 billion federal debt. The federal and provincial governments now have to collect almost $800 a month from an average family of four in Atlantic Canada just to service the public sector debt enough for the payments required for a $100,000 mortgage.
But, for the public sector debt, that $800 a month only pays the interest on the debt. We could pay that amount forever and still have the same level of debt. Unfortunately, that’s all a balanced budget does – service the debt without reducing it – even though finance ministers in the region have much ballyhooed their recent conversion to balanced books. Debtors’ Prison argues the provinces must take far more aggressive action to bring down their debts and to help ensure the region’s economic future.
“We put the panel together and sponsored the study,” says AIMS President Brian Lee Crowley, “because public sector debt is the most important public policy issue we face today, and we need objective information on it. Servicing the debt is government’s least productive expense it is an economic drag on society, it threatens our ability to fund social programs, and it endangers the well-being of future generations of Atlantic Canadians and Canadians.”
Each province in the region has suffered at least one credit rating downgrade over the past seven years except New Brunswick. Newfoundland is perilously close to dropping below the risk cut-off for institutional investors. Provincial debts are so large and consume such a significant portion of the provincial budgets that, until they are under control, provincial governments would be unable to react flexibly to changing economic circumstances.
The risks don’t stop there. Each of the provinces, except Nova Scotia, has a huge unfunded pension liability which is a ticking time bomb. Nova Scotia and Newfoundland have their own peculiar risk: about half of each province’s debt is held in unhedged foreign currency. In the case of Nova Scotia, each one per cent drop in the Canadian dollar would cause the province’s debt to increase by something close to $60 million, or $4 million in annual interest costs. A “yes” vote in a Quebec referendum could cause the dollar to drop between 10 and 25 per cent.
All governments are vulnerable to interest rate movements. Any adverse movement in interest rates could wreck debt-control efforts and send the provinces back into deficit financing.
For more information, contact:
Brian Lee Crowley, President, AIMS,
E-mail us at: [email protected]
The Grades Are In
The grades for the debt situation of each province are based on the objective criteria developed by the AIMS Advisory Panel on Public Sector Finances. Working with these criteria,Tom Riley put under a microscope such factors as the amount of each province’s debt, debt growth, interest costs, foreign currency exposure, floating rate exposure and unfunded pension liabilities to determine the marks.
The advisory panel includes Roland Martin, president of Keltic Incorporated, John Parker, retired professor of accounting at Dalhousie, and Nicola Young, Associate Professor, Department of Accounting, Saint Mary’s University.
Contributing heavily to New Brunswick’s low grade is the province’s large foreign currency exposure and high unfunded pension liability. In both instances the province is performing worse than the national average, and the national average is poor. Another concern is that New Brunswick’s accumulated debt is large relative to its income base and amounts to $8,750 per New Brunswicker. Working in favour of the province is its leadership in Canada in the area of expenditure control. In addition, the province has shown commitment to financial prudence by passing legislation requiring a cumulative balanced budget in the four years leading up to the end of the century.
Nova Scotia was the slowest in the region to commit itself to reducing its deficit, and that’s the main reason it has been awarded the lowest grade. The province has had the fastest debt growth in the region over the last decade; its debt servicing costs, at nearly 20 per cent of government expenditures, are the highest in the region; and per capita provincial debt is at $10,900. The province’s extremely high foreign currency exposure combined with a higher than average floating rate debt exposure leaves it vulnerable to unforeseen changes in creditor perceptions and unfavourable economic events. The recent balanced budget is promising, but it falls far short of a vigourous move to reduce debt.
Prince Edward Island
PEI receives the best mark; its debt has grown the most slowly in the region over the last decade, but is per capita debt is nonetheless at $8,400 and the province has a large unfunded pension liability. The province’s bottom line is relatively more vulnerable to fluctuation in transfer payments than other provinces in the region.
The province’s grade reflects nearly five decades of debt accumulation, with per capita debt at $14,700, by far the highest in the region, and it’s increasing. Newfoundland is the only province in the region still running a deficit, $44.8 million in this fiscal year. Newfoundland also suffers from a high foreign currency exposure and an unfunded pension liability that is twice the size of the second worst province in the region. Newfoundland’s ability to generate surpluses is the most precarious in the region given the $60 million shortfall announced in December that had to be made up through lay-offs and trimming of budget expense. Nonetheless, while Newfoundland has difficulty generating overall surpluses, revenues have exceeded operating expenditures expenditures not counting debt servicing costs over the past 10 years.
A note on the marks
Although Newfoundland has lowest credit rating in the region, Nova Scotia has the lowest marks in this paper’s rating. The marks in this paper focus on debt policy while the credit agencies focus on the province’s potential to pay its obligations. Nova Scotia has been the worst managed province financially over the past two decades, resulting in a serious deterioration of its relative economic strength. Newfoundland, on the other hand, has taken steps over the past decade to confront its debt problem. However, the combination of a high debt load for Newfoundland and a difficult economic situation means that that province will have the most difficulty in the region in meeting its obligations.
For more information, contact:
Brian Lee Crowley, President, AIMS,
Fred McMahon, Senior Analyst