It's nearly 2016 and Canada's resource-rich provinces still haven't learned a fundamental lesson, writes MLI Managing Director Brian Lee Crowley in a column for the Globe and Mail. As the collapse of commodity prices has shown once again, Alberta, Saskatchewan, and Newfoundland and Labrador need to stop budgeting as if the peak of prices for commodities such as oil is the norm.
Brian Lee Crowley, Dec. 30, 2015
I have saved my last column of the year to hector once again those provincial finance ministers who insist on spending their natural-resource royalty revenues as if they were just like any other revenues. For years, I’ve been warning that they aren’t, and if resource-rich provinces don’t change their behaviour, they will never escape the boom-and-bust cycle that is dragging the budgets of Alberta, Saskatchewan, and Newfoundland and Labrador to the brink. The price of many commodities, such as oil, may have collapsed, but you should put a big buy order on red ink. You’ll make a fortune.
No one has summed the problem up better than former Alberta treasurer Jim Dinning. Mr. Dinning was the man tasked by then-Alberta premier Ralph Klein to clean up the mess in the province’s finances occasioned by a previous decline in commodity prices. As he famously said, “non-renewable natural resource revenues are non-reliable revenues.” This eternal verity should be tattooed on the forehead of every provincial finance minister.
Take the case of oil. Over the past 20 years, oil has been as low as about $12 (U.S.) a barrel and as high as $140. When the provincial treasury relies on the royalty revenue from hundreds of thousands or even millions of barrels of oil a year, this creates intolerable, uncontrollable and unpredictable revenue swings. A $1 change in the per-barrel price has about a $170-million (Canadian) revenue impact for Alberta. Something similar can be observed in natural gas, where inflation-adjusted prices in the past 20 years have been as low as $2 and as high as $12.
Now contrast these wild variations with the nature of government spending.
The vast bulk of it goes on operating budgets, or spending on the everyday operations of government. These are characterized not by savage swings but by massive, grinding, ineluctable regularity. The lion’s share of spending goes on people and the costs associated with them. You must have teachers and social workers and road maintenance crews and welfare administrators and prosecutors and police. Their salaries are fixed by collective bargaining and their benefits must be paid. They have to have offices to work from that have to be lighted and heated and connected to the phone and Internet.
The challenge for politicians is that when the non-renewable natural-resource revenues are in full spate, everyone wants a share, including both the providers and the consumers of public services. Politicians spend the bounty as if it will be repeated year after year. But because the spending commitments this entails are relatively inflexible while the revenue is highly variable and unpredictable, the result when commodity prices collapse is buckets of red ink.
Of course all government revenues decline during downturns, but the mainstays – corporate and personal income and sales taxes – are not subject to anything like the same level of variability, not least because the risk is spread across the entire economy, every sector and every region.
That’s one of the chief reasons why non-renewable natural-resource revenue needs to be treated differently than all others. There are others, such as royalties that result from the sale of a capital asset and therefore ought to be treated as capital, not income, but we’ll leave those for another day.
The minimum solution to the problem of the non-reliability of natural-resource revenue is to realize the problem is created by budgeting as if the highest price in the commodity cycle is the norm, as I have been warning all along.
Suppose we reversed this proposition, and governments budgeted as if the lowest price in the commodity cycle were the norm. They could then bank the difference in a budget stabilization fund and smooth out the revenue swings. If this practice were backed by a rigorous law and the commodity price for budgeting purposes were set by an arm’s-length committee of experts every five years or so, we’d have gone a long way to solving the conundrum of the mismatch between natural resource revenues and public spending.