Don’t Bet on a Surplus in 2014-15 or 2015-16

The EURO area, and by extension the European Union, is confronting a political crisis, a banking crisis, a sovereign debt crisis, and an economic growth crisis.  Even in the best of worlds, growth in the 17-nation EURO zone area will be non-existent in the second half of the year and the prospects for 2012 and 2013 don’t appear much better. Bond markets are now betting that the EURO area will not survive without a major policy turnaround. The potential for global contagion is immense and the consequences would be severe.

The US economy is not growing and there is the very real possibility that the economy could slip into another recession. President Obama has proposed a second stimulus package of $450 billion but how much of this will be passed by Congress remains uncertain. Political institutions in the US, as in the  EURO area, have become dysfunctional and the US government still does not have a credible long-term plan to control the accumulation of debt. (

Private and public sector forecasters are rapidly revising down their economic growth forecasts for the EURO area and the US. All of this means that growth in Canada will be much lower than forecast in the 2011 budget. Private sector economic forecasters in Canada are revising down their forecasts for 2011 and 2012  and one bank is actually forecasting that Canada could dip into a recession in the second half this year. All of these forecasts assume that the EURO area will resolve its problems, which may not be the case.

The Department of Finance is, or currently will be, contacting these forecasters.  The average of their economic forecasts will be used in updating the economic and fiscal projections in the upcoming fall Economic and Fiscal Update, usually presented by the Minister of Finance in October.

What impact will these lower growth forecasts have on the federal government’s commitment to balance its budget in 2014-15? We will not know what he government thinks until Mr. Flaherty presents his fall Economic and Fiscal Update. It would, however, be incredulous, if the government still claimed it could eliminate the deficit in 2014-15 when confronted with these major changes in economic developments in the US and in the EURO area. We should not forget, however, that in the fall of 2008, this government said we would not go into a recession and we would never have a deficit.

Recently, the Toronto Dominion (TD) Bank released its latest economic forecast for Canada[1], showing much weaker nominal income growth – the most applicable tax base for federal revenues – through to 2015.  Compared to the June 2011 Budget planning assumption for nominal income, the TD Economics forecast is lower by $2 billion in 2011, $28 billion in 2012, $38 billion in 2013, $45 billion in 2014 and $53 billion in 2015 (see Table 1).  Using the June 2011 Budget average effective tax rates, this implies a potential loss in federal revenues of $0.2 billion in 2011-12, $4.3 billion in 2012-13, rising to $8 billion in 2015-16.

Table 1: Nominal Gross Domestic Product ($ billions)

   2011  2012  2013  2014  2015
June 2011 Budget   1709  1794  1883  1969  2058
TD Economics Sept 2011  1707  1766  1845  1924  2005
 Difference       -2     -28     -38     -45     -53
  2011-12 2012-13 2013-14 2014-15 2015-16
Potential loss in revenues     -0.2    -4.3   - 5.7     -6.8     -8.0

Table 2 shows the potential impact on the June 2011 fiscal track if the TD Economics forecast of nominal income is indicative of private sector views. The commitment to a surplus in 2014-15 is based on the assumption that the Targeted Strategic and Operating Review exercise will generate savings of $4 billion by 2014-15.  However, the impact of the lower growth in nominal income more than offsets the impact of these savings, resulting in a deficit of about $3 billion in 2014-15, rather than a balanced budget.  For 2015-15, there is a projected surplus of only $0.2 billion.  As noted in an earlier commentary, based on the Fiscal Monitor results to date for 2011-12 and with the recovery of $1.6 billion from British Columbia related to HST transitional costs, the deficit outcome for 2011-12 will likely be lower than currently projected.

Table 2: Impact of Lower GDP on Budgetary Balance ($ billions)

June 2011 Budgetary Balance      -32.3     -19.4        -9.4        -0.3         4.2
  Targeted Strategic & Operating Review           1.0         2.0         4.0         4.0
  Change in nominal GDP       -0.2        -4.3        -5.7        -6.8        -8.0
  Total       -0.2        -3.3        -3.7        -2.8        -4.0
Revised June 2011 Budgetary Balance     -32.5      -22.7      -13.1        -3.1         0.2

However, as argued in our assessments of the 2011 and previous budgets, we believe that federal revenues have been overstated and direct program expenses understated, especially in the outer years.  The Parliamentary Budget Office shares this view. A more realistic forecast would only make an updated deficit forecast even worse, especially in 2014-15 and 2015-16.

Table 3 adjusts the June 1st Parliamentary Budget Office forecast of the federal deficit and our own forecast for the Targeted Strategic and Operating Review savings and the impact on federal revenues of TD Economics downward revisions to nominal income.  As a result, this would raise the PBO and our forecast of the deficit to over $15 billion in 2014-15 and to over $11 billion for 2015-16 – a far cry from balanced budgets. The promised tax cuts proposed in the last election will have to wait for another day. In addition, there will be significant other upward pressures on the deficit in the second half of the decade.

Table 3: Comparison of Fiscal Forecasts ($ billions)

  2011-12 2012-13 2013-14 2014-15 2015-16
Revised June 2011 Budget      -32.5       -22.7       -13.1         -3.1          0.2
Parliamentary Budget Office     
  June 2011 Update       -26.1       -22.8       -19.8       -13.3        -7.3
  Adjustments         -0.2         -3.3         -3.7         -2.8        -4.0
  Revised deficit      -26.3       -26.1       -23.0       -16.1      -11.3
  June 2011 Update      -31.3       -24.2       -16.6       -12.6       -8.0
  Adjustments        -0.2         -3.3         -3.7         -2.8       -4.0
  Revised deficit      -31.5       -27.5       -20.3       -15.4     -12.0

In the fall Economic and Fiscal Update Mr. Flaherty needs to provide a realistic assessment of Canada’s economic and fiscal prospects for the next five years. This means extending the forecast to 2016-17. He should resist the temptation to build his forecast on “rosy” economic assumptions for the US, the EURO area, and the global economy in general.

He needs to develop a new Economic Action Plan that incorporates flexibility in the fiscal plan in the short term in the case of a significant decline in GDP while at the same time ensuring control over the accumulation of debt in the longer term (


[1] Long-Term Economic Forecast September 13, 2011 TD Economics

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