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Who’s the budget basket case – California or Ontario?

California's reputation as North America's poster child for government fiscal mismanagement may be misplaced. The biggest (and most indebted) state economy in the U.S. still has its troubles, but it has been righting its ship. If we're looking for a Titanic headed for an iceberg, Canada's biggest provincial economy looks like the bigger worry.

A report being published Tuesday morning by Vancouver-based think tank the Fraser Institute compares the debt situation of Ontario and California, and concludes that Ontario has bigger debt problems "by any measure." Ontario's gross government debt of $267.5-billion at the end of fiscal 2012 was nearly double that of California's $144.8-billion (U.S.). And California's economy is roughly triple the size of Ontario's, which means that Ontario's debt-to-GDP ratio – a key measure of government debt burden – is more than five times that of California (40.9 per cent versus 7.6 per cent). Ontario spends more than 9 per cent of its annual revenue to pay the interest on its debt; California, just 2.8 per cent.

One obvious question here is why are we picking on Ontario, rather than, say, Quebec? Quebec's net debt-to-GDP is nearly 50 per cent. But the big difference is, Quebec's annual budget deficit is less than one-quarter as large as Ontario's – and, as a percentage of GDP, less than half as large. Ontario has forecast a deficit of $11.7-billion (Canadian) in the current fiscal year, is anticipating another $10-billion deficit next year, and provincial Finance Minister Charles Sousa said in last fall's fiscal update that the government is willing to miss its deficit-reduction targets in the near term, in order to spend on economy-stimulating infrastructure investments.

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Even politically, California – not long ago a train wreck of budget politics – now appears to have a leg up on Ontario. In late 2010, California's budget law was amended to reduce the requirement to pass a budget to a simple majority of the state legislature from the previous two-thirds requirement – a move that broke the chronic fiscal gridlock and cleared the way to meaningful structural reform. That has helped California swing from a $27-billion projected deficit three years ago to a projected surplus in the current fiscal year.

Ontario, by contrast, is trying to address its fiscal imbalances with a minority Liberal government facing the budget-slash-and-burn Conservatives to one side, and the program-defending New Democrats on the other. In practice, this has meant the government has had to court support from the NDP to get its budgets passed, a reality that ties its hands on budget cuts.

Can Ontario's problem be fixed? Certainly, the Fraser Institute paper argues, and can even be achieved without deep, drastic and potentially economically crippling austerity measures. Indeed, a 2013 Fraser Institute paper calculated that if Ontario's economy were to grow at even a little less than its average pace in the decade prior to the Great Recession, Ontario could turn its debt-to-GDP ratio on a downward path by the end of this decade merely by limiting the growth in program spending to 4 per cent a year.

Problem is, that's more than 3 percentage points lower than the average annual program spending growth in the decade prior to the recession. And that kind of spending put Ontario's debt growth on a pace that, if unchecked, would push debt-to-GDP to a precarious 66 per cent by 2020.

The province has contained expenses better in the past few years – annual program spending growth has averaged 2.3 per cent in the past four years. But this has become a very large debt ship to turn around. Ontario will require long-term discipline if it wants to undo its debt problems.

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