Cablegate: Canada's Disappearing Budget Surplus

This record is a partial extract of the original cable. The full text of the original cable is not available.

UNCLAS SECTION 01 OF 03 OTTAWA 002931

SIPDIS

SENSITIVE

DEPARTMENT FOR EB/IFD, EB/OMA, WHA/EPSC, AND WHA/CAN
TREASURY FOR STEPHEN GOOCH
STATE PASS FEDERAL RESERVE BANK FOR CHUGH
STATE PASS SEC FOR JACOBS
PARIS ALSO FOR USOECD

E.O. 12958: N/A
TAGS: EFIN EAID ETRD KTFN ECON PREL CA
SUBJECT: CANADA'S DISAPPEARING BUDGET SURPLUS

REF: A. OTTAWA 1960 (BUDGET BILLS PASS PARLIAMENT)
B. OTTAWA 640 (2005-06 BUDGET)
C. 04 OTTAWA 2779 (2003-04 SURPLUS)

1. (U) Introduction and summary: Canada's 2004-05 budget
surplus came in at C$1.6 billion (about US$ 1.36 billion),
almost C$8 billion lower than conventional wisdom had
expected. The GOC attributes the discrepancy to an
unanticipated change in accounting procedures for one-time
expenditures and to the uncertainties of full accrual
accounting. In May, 2005 a Finance Canada publication
projected a surplus of C$9.8 billion, and without the
one-time expenditures the 2004-05 surplus would have topped
C$10 billion. According to the Conference Board of Canada,
the 15.1% increase in program spending is the highest since
1974-75. (That was also the last time Canada had a Liberal
majority government supported by the NDP.) The Department of
Finance counters that, as a percent of GDP, spending is in
line with previous years. Strong revenue growth this year
and the pre-payment of pending one-time charges bode well for
the fiscal situation in 2005-06 -- and for the Liberal
Party's ability to spend generously in the run-up to an
election in which they hope to win a majority and a freer
hand to govern. Note: The GOC's Annual Financial Report and
Fiscal Reference Tables are available on the Finance Canada
web site at www.finance.gc.ca. End Note; end Introduction
and Summary.

Revenues strong; expenditures stronger
--------------------------------------

2. (U) Revenues were up 6.6% last year while program
expenditures increased 15.1%. Excluding one-time expenses,
80% of which comprised transfers to provinces and
territories, program spending was up 7.6%. (Note: Which is
still well above inflation of around 2%. End note.)
Compared to estimates for 2004-05 in the February 2005
budget, actual revenues were C$2.6 billion higher, public
debt charges were C$0.6 billion lower, and program expenses
were up C$4.5 billion than forecast.

The unanticipated 2004-05 spending since February included
the following items (in C$ billions):

-- 2.7 to finance the offshore revenue agreement signed
February 2005 with Newfoundland and Labrador, and with Nova
Scotia, in in one year instead of over the life of the
agreement as initially anticipated;

-- 1.0 announced March 29, 2005, just before the end of the
fiscal year, to cover immediate assistance to cattle
producers and other farmers;

-- 0.8 to cover additional environmental liabilities for
the GOC-owned Atomic Energy Canada Ltd., bringing the total
to C$2.3 billion. The charge for environmental liability had
been anticipated, but its scope was unknown until near the
end of the period.

The increased spending was mitigated by one-time revenue:

-- 2.6 sale of the last of the GOC's shares in the
integrated energy firm Petro-Canada.

Big, but not unprecedented
--------------------------

3. (SBU) An expert at the Department of Finance tells us that
this scope of adjustment is not unprecedented and notes that
revenues in 2004-05 were about half the C$5 billion received
at the end of the previous year. The adjustment was
exacerbated by a decision in mid-summer to change accounting
for the offshore revenue sharing agreement, taking the full
charge last fiscal year rather than spreading it over several
years as originally anticipated. According to Finance, the
Auditor General first questioned the accounting for offshore
revenue in June, but discussions did not conclude until late
July or early August. In response to a query, we were told
that had the Department known of the change in booking the
offshore revenue expenditures, they would have notified
Parliament (implying that since the decision occurred after
Parliament recessed, there was no way to convey the word to
the opposition parties).
Debt reduction
--------------

4. (U) Net federal debt, at C$499.9 billion, was 38.7% of
GDP (down from C$529.9 billion or 68.4% of GDP in 1996-97).In
2004-05, debt servicing costs were 17 cents per dollar of
revenue, down from a high of 39 cents in 1990. Finance
estimates that the reduction in debt service has freed up
over C$3 billion a year in interest savings. Collectively,
the provinces and territories enjoy a fiscal surplus (boosted
by Alberta and British Columbia), and their combined net debt
as a share of GDP continued to decline, reaching 22.2% from
23.8% in 2003-04.

Political impact
----------------

5. (SBU) The Conservative Party finance critic blasted the
lower-than-expected surplus as an example of "junk
accounting" and accused the Liberal Party of cooking the
books. Private-sector forecasters are left scratching their
heads at the swings and feeling somewhat exposed. According
to Finance, this reveals their lack of understanding of the
"risks of accrual accounting."

6. (SBU) Last year's surplus of C$9 billion, which was
automatically allocated to debt repayment, exceeded forecasts
by over C$7 billion. Expectations (Ref C) that this year's
surplus would be even higher amplified calls by opposition
parties for a more transparent forecasting and greater
flexibility in using the surplus for tax cuts or program
spending, rather than only for debt reduction.

7. (SBU) The sharp discrepancy between actual and estimated
surpluses in the past two years is likely to increase calls
from opposition parliamentarians for greater forecasting
transparency. Finance will respond by agreeing to more
frequent appearances by the minister and top officials before
the parliamentary committees and by providing more detail in
the monthly Fiscal Monitor. (Comment: However, cooperation
does not seem to extend to sending word to opposition leaders
when a major change in accounting policy has been adopted.
End Comment.)

Looking forward
---------------

8. (SBU) The 2005-06 budget tabled in March (Ref B), had an
estimated fiscal impact of C$7.4 billion (about US$6
billion). The NDP deal for C$4.6 billion in supplemental
spending over 2 years (Ref A) does not take effect until
this fiscal year and it is not yet clear whether it will be
split over two years or front-loaded this year. Finance also
flagged for us a GOC agreement with aboriginal communities
that will lead to supplementary spending this fiscal year.
The Finance Canada monthly Fiscal Monitor for July, 2005
shows continued revenue growth this fiscal year and estimates
a fiscal surplus in 2005-06 of C$7.1 billion (C$2.8 billion
ahead of the level at this time last year). Program expenses
have been increasing more slowly than revenues, even with the
additional transfers to the provinces and territories for
health care and other payments, and public debt charges were
lower than last year. This should bode well for the ruling
Liberal Party's ability to spend generously in the run-up to
a campaign, but this year's results show the folly of
second-guessing the budget maestros.

Comment
-------

9. (SBU) This budget maneuvering screams "upcoming
election." As Parliament resumes this week, the minority
Liberal Party government (which currently holds 133 of 308
seats in the lower house) will be conducting a virtual
campaign while trying to avoid an accidental no-confidence
vote. That caution has led Finance Minister Ralph Goodale to
announce that plans to reinstate corporate tax cuts deleted
from last year's budget as part of the bargain with the NDP
will not proceed and has slowed anticipated movement on
announcing a policy on bank mergers.

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