Saskatchewan 2021 Budget: Fresh Protections Extend Deficit Reduction

Saskatchewan 2021 Budget Economics and Strategy

April 6, 2021 Fresh protections extend deficit reduction timeline in low-debt Sask By Warren Lovely and Daren King

Highlights Saskatchewan’s 2021 budget bulked up a COVID-19 response effort, with fresh protections, new spending and targeted tax relief making for a larger deficit in 2021-22, despite the first year of economic recovery and a firmer backdrop for commodity prices. Last fiscal year’s deficit was smaller than previously telegraphed at ~$1.9 billion (2.4% of GDP), but the shortfall will grow to $2.6 billion in 2021-22 (or 3.2% of GDP). Deficit reduction begins in earnest in 2022-23, but the province concedes it will likely take until 2026-27 to get back to balance. That’s two years’ longer than previously indicated. As elsewhere, the outlook is subject to considerable uncertainty, but at this point, we consider budget planning assumptions for economic growth and key energy prices to be prudent/conservative. Saskatchewan will take on more debt to cover operational shortfalls and to finance a sizeable capital plan (including Crown infrastructure). That means the debt burden will be moving higher, net debt-to-GDP rising from 19% in 2020-21 to a peak level of 26.3% by 2024-25. Granted, debt is starting from a relatively low level here by provincial standards and the interest bite (increasingly a focus) is likewise going to be manageable (in both absolute and relative terms). There’s roughly $4.7 billion of gross borrowing identified for 2021-22, some of which will be steered to short-term markets, leaving $4.1 billion of term funding to complete. Projected bond issuance is down from the $4.5 billion completed in 2020-21 and once again looks to be steered mainly to the domestic market (with a somewhat shorter average term than pre-virus). International funding will be considered on an opportunistic basis. All in all, the extra deficits/debt and longer march back to balance could be interpreted as marginally credit negative by credit rating agencies, with Moody’s having earlier placed the province’s top-notch Aaa rating on ‘negative’ outlook. The province’s other three long-term ratings (from S&P, Fitch and DBRS) range from AA to AA(low) and appear more secure/less at risk, as evidenced by currently ‘stable’ outlooks. . Economic outlook — As in the rest of the world, the COVID-19 pandemic had unprecedented impacts on the Saskatchewan economy. Between February-May 2020, 70,600 jobs were lost, taking the unemployment rate from 6.3% to a record high of 12.4%. For 2020, the decline in real GDP is now estimated at 4.2%, a significant drop but not as severe a hit as that projected last fall. Surprisingly, this would not be the most significant economic contraction, but the third after that observed in 2009 and 1992. Between May 2020 and February 2021, some 47,600 jobs were recovered, and the unemployment rate reverted to 7.3%. While a significant portion of the reduced economic activity has been recouped, there’s still a long way to go for a full recovery. According to private sector forecast made between December and March, the Saskatchewan economy is expected to expand by 4.6% in 2021. For the sake of prudence, the budget was based on a 3.4% increase. For our part, we have revised upwards our real GDP growth forecast for 2021 since the ministry's survey in December, increasing it from 4.5% to 4.7%. As it stands, the planning assumption for 2021 growth looks conservative to us. Economic activity is expected to return to its pre-pandemic level in 2022 following growth of 3.2%. Over 2023 and 2024, real GDP is projected to grow by an annual 2.6% on average. Nominal GDP is estimated to have decreased by 7.8% in 2020 and is expected to bounce 5.9% higher in 2021, growing 4.1% in 2022 and by 3.6% on average in 2023 and 2024. Regarding the labour market, the average unemployment rate is expected to drop from 8.4% in 2020 to 6.5% in 2021. However, it is expected to return to the pre-pandemic level only by 2025 (i.e., 2019A: 5.5%, 2025F: 5.4%). . Outgoing year budget balance (2020-21) — Unofficial results indicate Saskatchewan ran a $1.865 billion deficit in fiscal 2020-21 (2.4% of GDP). That’s notably less red ink than previously telegraphed (i.e., $180 million improved vs. mid-year), extending a string of positive fiscal adjustments relative to the original June 2020 budget plan for a $2.426 billion shortfall. Compared to budget, revenue bettered the forecast by nearly $450 million, although that masked significant variances in key revenue streams (i.e., taxation weaker than plan, GBE net income aided by robust investment returns, federal transfers way above plan owing to extra virus supports coming from Ottawa). A $100 million revenue risk allowance included as of mid-year was not needed. Meanwhile, total spending came in a bit under plan in 2020-21, the budget having set $200 million aside in health/public safety contingency. . Medium-term fiscal outlook (2021-22 & beyond) — Notwithstanding an unfolding economic recovery which should deliver non- trivial own-source revenue growth, significant new protections look to vault the level of spending higher. The result is a larger deficit for 2021-22, pegged at $2.611 billion and equivalent to 3.2% of GDP or 18% of total revenue. The freshly minted medium-term financial outlook flags steady progress on the deficit starting in 2022-23. But given fresh investments and a larger deficit for this fiscal year, it will take Saskatchewan longer to get back to balance than previously telegraphed. Specifically, the budget eyes a deficit of $1.685 billion for 2022-23 (2.0% of GDP), followed by shortfalls of $1.160 billion in 2023-24 (1.3% of GDP) and $770 million in 2024-25 (0.9% of GDP). As per the budget, “Government expects this trajectory to continue, resulting in a balanced budget in 2026-27”. Getting back to balance is not intended to rely on tax increases. Recall that an August 2020 Q1 fiscal update had projected a balanced budget by 2024-25. The ruling Saskatchewan Party’s re-election platform—released ahead of an October 2020 general election that Premier Moe easily carried—likewise reiterated the ‘balanced budget in 2024’ pledge, even after accounting for various election promises. While Budget 2021 has added two years to the timeline for getting back to balance, Saskatchewan’s relatively smaller underlying fiscal hole could imply less execution risk for this recently re-elected majority government than in some

Saskatchewan 2021 Budget Economics and Strategy

other jurisdictions. Moreover, as a lower-leverage province, there would tend to be greater capacity/leeway for the marginal debt being taken on in order to protect citizens and stimulate a lasting economic recovery from COVID-19. . Revenue & spending outlook — This fiscal year is meant to deliver a welcome, significant and broad-based bounce back in own- source revenue. Taxation, which accounts for roughly 50% of total revenue, appears set to recover important ground (including a surge in corporate tax revenue where a prior-year adjustment lowered the base of comparison). The outlook for non-renewable resource revenue benefits from improved pricing dynamics and expected production/sales increases (discussed immediately below). At $1.329 billion, non-renewable resource revenue is still about $400 million removed from the pre-virus trend, accounting for just over 9% of total revenue in 2021-22. Taken together, gains in taxation, natural resources and other own-source revenue more than compensate for a pull-back in net income from GBEs (which in many cases reflects a return to more normal conditions) and a smaller federal transfer envelope (where certain extraordinary, time-limited grants are ending). Note: The budget does not incorporate incremental federal support for health care and municipalities announced last month. After growing 2.7% in 2021-22, total revenue is slated for average annual growth of 4.2% in following three fiscal years (ending 2024-25). Total expense is budgeted for a sizeable 7.1% increase in 2021-22, boosted by extraordinary pandemic investments. As these special supports end, total spending recedes 1.7% in 2022-23 before resume a controlled upward trajectory thereafter (~1% per year on average). . Energy price assumptions & related sensitivities — For 2021-22, the budget assumes WTI averages US$54.33/bbl. For reference, the prompt contract traded a bit above US$59/bbl on budget day. Longer term, WTI is expected to rise to ~US$58/bbl by fiscal 2024-25. The light-heavy price differential is pegged at nearly 20% of WTI (i.e., US$10.70/bbl for the fiscal year vs. ~US$10/bbl today). Official sensitivities imply each US$1/bbl change in WTI is worth $14 million in revenue to the province, all else equal. As for potash, the average price for 2021-22 is assumed to be US$191/KCl tonne, which compares to US$180 in 2020-21. Fiscal sensitivity analysis puts the impact of a US$10 change in the per KCl tonne price at $43 million. Note that higher commodity prices often go hand-in-hand with a stronger Canadian dollar, with the loonie thought to average 79.1 cents in 2021-22. Bear in mind that translational pricing effects mean each 1 US cent appreciation in the Canadian dollar costs Saskatchewan about $20 million in resource revenue on an annualized basis. In terms of key resource production volumes in 2021-22, the province has planned for incremental barrels of oil (+3.9% to 160 million barrels) and somewhat stronger potash sales (+2.1% to 14.3 million K2O tonnes). . Protect. Grow. Build. – That was the theme as it relates to new actions. Not surprisingly, the budget outlined a record health care spend for 2021-22 (over $6.5 billion or some 38% of total expense). There was $90 million for specific virus health response measures, new funding steered to mental health/addiction services and money to hire more long-term care aides. Growth in education (which accounts for 22% of total expense) includes money for a 2% salary increase for teachers, while an expanded social assistance envelope (9% of total expense) will address pressures/needs in a variety of areas. An economic growth strategy dedicates funding for workforce development and an expanded network of trade/investment offices abroad, alongside new agriculture venture capital and royalty relief for methane capture. A federally funded program will accelerate clean-up of abandoned oil and gas well sites. An electricity rebate will reduce bills by 10% for all customers, while a previously announced auto fund rebate will provide relief for vehicle owners. A new home reno tax credit is set to cover $66.4 of related costs in 2021-22. Small businesses have been benefiting from a 0% tax rate since October 2020, with that rate set to increase to 1% in July 2022 and returning to a still attractive 2% by July 2023. In all, some $1.5 billion in COVID-19 supports are being provided this fiscal year, part of a total response now worth $4.8 billion. Some $1.3 billion of that total COVID package has been earmarked for future years, mainly via enhanced capital spending. The current fiscal year’s capital plan amounts to $3.1 billion, focused on schools, hospitals, highways and Crown infrastructure, exerting notable influence on the debt/borrowing picture discussed below. Planned capital spending totals to $11.6 billion over the four-year financial outlook. The budget announced some “tax fairness” initiatives, increasing taxes on vaping/tobacco products and electric vehicles (to cover highway maintenance typically captured via gas taxes for non-EVs). A bump in municipal mill rates will increase property tax revenue in line with inflation. . Debt outlook — Consistent with its relatively stronger credit ratings, Saskatchewan remains a low(er) debt jurisdiction by provincial standards, even if the deficits left in the pandemic’s wake and extra capital outlays will add financial leverage. Total public debt, inclusive of Crowns, is estimated to have ended 2020-21 at $23.6 billion, coming in $772 million below budget. Over the coming fiscal year, Saskatchewan expects to add nearly $4.2 billion to public debt (reflecting the budgetary shortfall, government capital spending and extra Crown liabilities). Public debt continues to expand in the out years, reaching $36.4 billion by 2024-25. Inter- provincial comparisons tend to focus on net debt-to-GDP, and on that score, Saskatchewan’s 19% ratio in 2020-21 was the lowest of all the provinces. While Saskatchewan’s net debt burden was similar to its oil-levered neighbour to the west, Alberta, this key ratio is rising at a more controlled rate given the relatively smaller deficit in Saskatchewan. Net debt-to-GDP is expected to hit 21.7% in 2021-22, peaking at 26.3% in 2024-25 (the final year of the financial outlook). Interest charges are estimated at $755 million in 2021-22, consuming a manageable 5.2% of revenue (as with the debt load, this is low by provincial standards). Debt charges include accrued interest on pension liabilities. The budget assumes short-term financing rates of 0.5% and 2% for long-term debt this year. Meanwhile, sensitivity analysis suggests a 1%-pt parallel shift in all interest rates (vs. budget assumptions) would add some $69 million in financing charges during the first full year. . Long-term borrowing requirement — Last fiscal year’s total borrowing requirement amounted to $4½ billion. Market turbulence early in the fiscal year, at what was the onset of the pandemic, required a degree of financing flexibility and resulted in less- conventional trades across provincial debt capital markets (including with respect to term). Like others, Saskatchewan moved some issuance down the curve. As conditions normalized, Saskatchewan got back to issuing in regular benchmark tenors,

2 Saskatchewan 2021 Budget Economics and Strategy

simultaneously tapping investor demand for extra long paper. Case in point, the province steered $250 million into a new 2060 security, on top of $700 million in continued re-openings of a 2050 bond (bringing the float on that 30-year benchmark to a cool $2.5 billion). This fiscal year, total borrowing requirements are set at $4.657 billion. It’s expected that the province’s promissory note program will grow by a net $557 billion, leaving the short-term portion of outstanding public debt at a relatively prudent 7%. That leaves $4.1 billion in gross bond supply for this fiscal year, down somewhat from the ~$4.5 billion of term financing completed in 2020-21. It’s expected that domestic markets will again see the lion’s share of activity, although international trades could be entertained on an opportunistic basis. Given the financing needed to cover the operational shortfall, expect another year where the weighted average term of issuance is somewhat shorter than the pre-virus trend. Saying that, and as we saw last fiscal year, the province could entertain longer-term debt assuming overall market conditions are supportive—long-term funding tending to be a nice match for new capital assets with a long useful life. It’s expected that gross borrowing needs will moderate starting in 2022-23, dropping below $4 billion/year by 2024-25 (all else equal). . Current long-term credit ratings — S&P: AA, Stable | Moody’s: Aaa, Negative | DBRS: AA(Low), Stable | Fitch: AA, Stable S&P last issued a detailed rating report in June 2020, wherein the stand-alone credit profile (SACP) was deemed ‘aa’—matching the assigned long-term rating. S&P, which downgraded Saskatchewan one notch each in 2016 and 2017, assigned a ‘stable’ outlook last June on an “expectation that deterioration in Saskatchewan's budgetary performance as a result of the pandemic will be temporary, with the province recording steady improvement in fiscal results over the next two years”. Moody’s has assigned its top-tier Aaa long-term rating to Saskatchewan since 2014. (British Columbia is the only other province currently triple-A rated at Moody’s.) In a September 2020 credit opinion, Saskatchewan was assigned a baseline credit assessment (BCA) of ‘aa1’, with the final rating receiving one notch uplift on a high likelihood of extraordinary support from Aaa-rated Canada. Moody’s placed the province on ‘negative’ outlook, however, owing to “significant downside risks to commodity price forecasts and the province’s susceptibility to the continued uncertainty stemming from the coronavirus pandemic”. Notwithstanding recent strength in commodity prices, the extra budgetary red ink/debt telegraphed in the budget presumably leaves the Aaa rating in some jeopardy. Morningstar DBRS downgraded Saskatchewan in June 2020, lowering both the long-term and short-term ratings one notch to AA(low) and R-1(middle) respectively. As per DBRS: “The downgrades reflect the expected cumulative deterioration to the Province's credit profile resulting from (1) the impact of the 2014–16 commodity price correction, and (2) the twin shocks of the Coronavirus Disease (COVID-19) pandemic and the collapse in oil prices in 2020.” DBRS currently has Saskatchewan’s ratings on a ‘stable’ trend, with a subsequent negative rating action deemed “unlikely” last June. Fitch recently affirmed Saskatchewan’s long-term rating and issuer default rating (IDR) at ‘AA’, with a ‘stable’ outlook. The province’s stand-alone credit profile (SCP) was affirmed at ‘aa’. Noted downside rating sensitivities include: “Rising Federal Debt in the Context of Provincial Weakness” and “Challenges in Achieving Fiscal Balance”. [Refer to our Provincial Ratings Snapshot for additional colour on specific credit rating drivers/considerations]

3 Saskatchewan 2021 Budget Economics and Strategy

Saskatchewan Budget Forecast Budget Plan $000 000 2020-21 2020-21 2021-22 2022-23 2023-24 2024-25 Consolidated Budget Total revenues 13,648.7 14,095.7 14,478.3 15,107 15,729 16,367 Taxes 7,202.8 6,706.2 7,238.0 of which provincial sales tax 1,996.0 1,971.1 2,144.0 Non-renewable resources 997.4 1,096.2 1,328.5 Net income from Government Business Enterprises 728.8 1,104.9 899.2 Other revenue 1,933.1 1,969.1 2,104.1 Transfers from the Government of Canada 2,786.6 3,219.3 2,908.5

Total spending 16,074.7 15,960.5 17,089.2 16,792 16,889 17,137 Program expenditure 15,356.5 15,247.0 16,334.2 As of Health 6,176.3 6,362.0 6,535.3 As of Education 3,361.9 3,379.2 3,753.2 As of Other 5,818.3 5,505.8 6,045.7 Debt servicing 718.2 713.5 755.0 Surplus (deficit) (2,426.0) (1,864.8) (2,610.9) (1,685) (1,160) (770)

Public debt (end of year - net of sinking funds) General Revenue Fund and Gov. Service organizations 14,336.6 14,239.3 17,855.4 20,800 23,300 25,200 Government Business Enterprises 10,032.6 9,357.5 9,910.9 10,500 10,900 11,200 Total: Public Debt 24,369.2 23,596.8 27,766.3 31,300 34,200 36,400

Net Debt Beginning of year 12,288.9 12,288.9 14,512.3 17,585 Summary deficit (surplus) 2,426.0 1,864.8 2,610.9 1,685 1,160 770 Acquisition of Government Service Organization Capital Assets 1,044.2 988.8 1,089.9 Amorization, disposal and adjustments (637.3) (630.2) (628.1) End of year 15,121.8 14,512.3 17,585.0 As a % of GDP 20.8% 19.0% 21.7% 24.6% 26.0% 26.3%

Borrowing requirements 4,457.5 4,546.1 4,657.0 4,300 4,100 3,800 Government Service Organizations 3,400.0 3,520.0 3,900.0 Government Business Enterprises 1,057.5 1,026.1 757.0

Pension liabilities Beginning of year 7,152.3 7,152.3 6,573.5 Adjustment to account for pension costs on an accrual basis (514.5) (578.8) (99.8) End of year 6,637.8 6,573.5 6,473.7

Source: Budget documents, Saskatchewan Ministry of Finance.

4 Saskatchewan 2021 Budget Economics and Strategy

Economics and Strategy

Montreal Office Toronto Office 514-879-2529 416-869-8598 Stéfane Marion Matthieu Arseneau Warren Lovely Chief Economist and Strategist Deputy Chief Economist Chief Rates and Public Sector Strategist [email protected] [email protected] [email protected] Paul-André Pinsonnault Angelo Katsoras Kyle Dahms Taylor Schleich Senior Economist Geopolitical Analyst Economist Rates Strategist [email protected] [email protected] [email protected] [email protected] Daren King Jocelyn Paquet Camille Baillargeon Economist Economist Intern Economist [email protected] [email protected] [email protected]

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Saskatchewan 2021 Budget Economics and Strategy

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