DBRS Comments on Québec’s 2017–18 Budget: Debt Inching Down as Fiscal Discipline Remains Intact

DBRS Limited (DBRS) has today commented on the Province of Québec’s (Québec or the Province; rated A (high) with a Stable trend by DBRS) 2017–18 budget, which was introduced on March 28, 2017. The Province has a track record of strong fiscal management and is now taking advantage of economic momentum to provide additional tax relief, increase spending in priority areas and continue to reduce debt. Although encouraging, this momentum will need to be sustained over the medium term to tackle Québec’s significant debt burden — still the largest as a share of gross domestic product (GDP) in the country — before any rating upgrades can be contemplated.

For 2016–17, Québec is projecting a surplus of $250.0 million after $2.0 billion in contributions is made to the Generations Fund for debt retirement. On a DBRS-adjusted basis (including capital expenditures as incurred rather than as amortized), this equates to a deficit of $1.5 billion, or a modest 0.4% of GDP. This represents a better-than-expected result on account of lower-than-planned capital spending.

The Province continues to target a balanced budget for 2017–18 and for the remainder of the fiscal-planning horizon, incorporating rising contributions to the Generations Fund. On a DBRS-adjusted basis, this would result in a deficit of 0.6% of GDP in 2017–18, gradually moving to small surpluses by the final two years of the plan (2020–21 and 2021–22) provided that capital spending declines as presented. DBRS believes that these targets are achievable but will require ongoing political commitment.

Following a strong finish to 2016, the provincial economy is expected to maintain momentum in 2017, with real GDP growth of 1.7% and 1.6% assumed in the budget for 2017 and 2018, which is consistent with the private-sector consensus tracked by DBRS. An improving labour market, with unemployment at historical lows, should continue to support strong household consumption, while the low Canadian dollar and improving economic outlook for both Canada and the United States bode well for Québec’s exports. However, the threat of restrictive trade policies presents a downside risk in the near term, while an aging population and ongoing interprovincial outmigration represent long-term challenges.

The stable economic outlook and track record of responsible fiscal management have provided the Province with the flexibility to introduce additional tax relief. The government had previously announced plans to eliminate the health levy beginning January 1, 2017. The Province will now refund 2016 health contribution levies paid by individuals earning less than $134,000. The Province also announced a personal income tax reduction effective January 1, 2017, that will benefit most taxpayers. Total revenues are projected to grow by 3.7% in 2017–18, helped by healthy growth in consumption and personal income taxes as well as federal transfers, offset by lower income at Crown corporations.

Relative to last year’s plan, spending will rise, boosted by targeted increases in health, education and public transit. Education spending is set to rise by 4.0% in 2017–18 and incorporates an additional $1.8 billion over five years for additional staff to improve educational outcomes in the primary and secondary system and inject new money into Collèges d’enseignement général et professionnel (general and vocational colleges) and universities. Meanwhile, health spending is projected to grow by 4.3% with additional funds being allocated to improve quality of care, reduce wait times and support home care and mental health initiatives. As borrowing costs have remained low, debt-servicing costs are notably below what was anticipated in last year’s plan, which has helped to accommodate some of the increased program spending outlined above. Total spending is projected to rise by 3.6% in 2017–18, slowing to roughly 2.5% annually in the outer years.

The ten-year Québec Infrastructure Plan has increased by $2.4 billion to reach $91.1 billion and includes $9.6 billion to be spent in 2017–18 and $10.0 billion in each of the next three years before modestly declining thereafter. Key investments include $1.3 billion for the Réseau électrique metropolitain rapid transit project in Montréal (linking the downtown core to the airport and suburbs) that is expected to begin construction later this year.

Over the medium-term, DBRS-adjusted debt (including unfunded pension liabilities and the debt of municipalities) is estimated to remain firmly on a downward trend, falling from an estimated 59% of GDP in 2016–17 to approximately 54% by 2021–22. This is an encouraging trend, but debt remains high at the current rating level, thereby limiting flexibility to withstand unforeseen economic shocks.

This commentary reflects a preliminary assessment of the Québec budget. The above-noted projections on a DBRS-adjusted basis are based on high-level estimates but will be refined as part of DBRS’s detailed annual review to be completed later this spring.

Notes:
All figures are in Canadian dollars unless otherwise noted.

The principal methodology is Rating Canadian Provincial Governments, which can be found on dbrs.com under Methodologies.