Ottawa's finances are taking a hit from discounted prices for Canadian oil, and Finance Minister Jim Flaherty says this will force him to hold a harder line on spending as he prepares the 2013 budget.
The Finance Minister said lower commodity prices and persistently low inflation are combining to have a negative effect on government revenues. Still, the minister insists he expects to balance the books before the 2015 election without dramatic spending cuts.
"We have to do more on the controlling our own spending side, but we don't have to slash and burn," Mr. Flaherty told reporters after a speech to an Ottawa business audience that outlined the focus of the 2013 budget, which is expected in the next several weeks.
Spending cuts are already scheduled to ramp up to $5.2-billion a year over the coming two years as part of a phased-in plan to scale back spending announced in the 2012 budget. The upcoming budget is not expected to include major additional spending cuts. Rather, Mr. Flaherty is signalling that Canadians shouldn't expect much new spending.
Still, the government has faced continued challenges from Parliamentary Budget Officer Kevin Page, who says Ottawa is not being transparent about its cuts. The PBO has said Ottawa appears to be cutting front-line services in spite of Mr. Flaherty's assurances that cuts would affect only the "back office" of the federal bureaucracy.
The gap between Alberta heavy oil and the benchmark North American crude has widened considerably in the past two years. Alberta crude, which is thicker and needs more refining, typically sold for $18 less a barrel than West Texas Intermediate, but it is now about $34 a barrel cheaper. The discount was more than $40 late last year.
Oil prices are already forcing the government of Alberta deep into the red as problems over pipelines and access to markets force Canadian oil producers to sell their product at deep discounts, leading to lower profits and, in turn, lower tax revenue for the province and Ottawa.
Last week, Alberta Premier Alison Redford said the province's oil and gas revenues would drop by $6-billion from earlier budget projections. While Ottawa does not collect direct royalties as the provinces do, the declining profits would reduce federal corporate income taxes. In 2011, Ottawa collected $1.2-billion in taxes from the industry, according to Statistics Canada.
"It is obviously a concern, not only in Alberta, but in our government, about commodity prices, the price of oil," Mr. Flaherty said. "The reality that Canadian crude is being sold at a very substantial discount compared to international markets. So that's a concern, and, yes, it affects our budgeting."
In his November fiscal update, Mr. Flaherty revised his projected deficit for this fiscal year to $26-billion from the $21.1-billion estimated last March, a worsening forecast he attributed to lower commodity prices and slower-than-expected economic growth.
Bank of Nova Scotia economist Patricia Mohr said most commodities held their ground in 2012, but Canadian oil prices were down 25 per cent in December, 2012, compared to a year earlier, with oil-sands crude down 33 per cent. Prices have picked up since the end of the year, with a barrel of heavy oil selling in January for about $61 (U.S.), up from an average of $57.84 in December.
Ms. Mohr said the oil sector has become increasingly important in the Canadian economy, adding that Canada urgently needs new pipelines to diversify the market for its crude exports.
"It's a very crude-oil-dominated economy now in Canada," she said. "And if revenues go down, that affects tax receipts for governments and their ability to finance social services."
Mr. Flaherty cautioned on Wednesday that new spending must fit into the government's plan to balance the budget by 2015, even as municipalities, the Canadian Chamber of Commerce and the Canada West Foundation released a report calling for a new long-term deal on infrastructure.
The Globe and Mail reported earlier this week that the budget is expected to include a such a deal, but it appears Mr. Flaherty plans to keep cities guessing until budget day.
The minister noted that Ottawa is committed to transferring about $3-billion a year to municipalities through the gas tax fund and a GST rebate.
"What has not been decided is where we go in addition to that, if we go in addition to that, being mindful of our fiscal situation," he said.
Mr. Flaherty's previous two budgets committed Ottawa to work with the Federation of Canadian Municipalities on a new infrastructure deal in addition to the gas tax transfer and the GST credit. The federation is calling for total annual transfers of $5.75-billion over 20 years.
Brock Carlton, the CEO of the FCM, attended Mr. Flaherty's speech and said his organization's discussions with the government lead him to expect the budget will include some new infrastructure cash.
"We've been working with the government for two years on this," he said. "We've had really constructive discussions. There's nothing that indicates to us that they are thinking of not including additional infrastructure investments in the federal budget.