Dominion Bond Rating Service says it views the 2005-06 federal budget as supportive of the Government of Canada’s current AAA ratings.

DBRS says that, while there were a large number of spending initiatives, “overall expenditure growth remains affordable, the debt-to-GDP ratio is projected to continue to decline, and the sustained inclusion of large reserves in the budget provides fiscal flexibility”.

The government’s ongoing fiscal prudence points to an underlying budget surplus of $4 billion in 2005-06, which consists of $3 billion for the contingency reserve and $1 billion for economic prudence, DBRS reports. “Even with all of the spending and revenue measures included in the budget, current projections suggest the underlying surplus could grow each year until 2009-10 when it is projected to reach $7 billion,” it adds.

“The government announced a raft of new spending initiatives, including increased expenditures in areas such as defence, child care, and the environment, while confirming the previously announced funding for the health and Equalization agreements,” DBRS says. “Despite the wide number of initiatives, DBRS believes the overall increase in spending remains manageable, helped by the ongoing expenditure review that has already identified $11 billion in cumulative savings over the next five years. Total expenditure growth is projected to track just below expected revenue growth over the five-year planning period.”

“In fact, much of the increased spending will be seen in the current fiscal year ending March 31, 2005, funded with revenues that the government already has in hand. So, program spending growth is expected to be quite modest in 2005-06 at about 2%”, DBRS analyst Ryan McGaw said. “As many of the initiatives announced in the budget begin to have an effect in later years, program expenditure growth is expected to accelerate to the 4% to 5% range in 2006-07 through 2009-10.”

DBRS believes that although there were a number of tax measures introduced in this budget, the total impact will be relatively small in 2005-06, as many of the changes occur slowly or in future years. Key personal tax measures include higher deductions and credits for disabled persons and their caregivers, an increase of the basic personal exemption to $10,000 by 2009 from $8,012 in 2004, and an increase in RRSP limits. On the business side, the corporate surtax will be eliminated in 2008, and the corporate tax rate will gradually be reduced from 21% to 19% beginning in 2008.

Revenue growth will slow to 2.3% in 2005-06, it notes, although this is largely the result of one-time revenues from the sale of Petro-Canada in the prior year. “The new tax measures will hold back revenue growth modestly going forward, but the government still expects average annual growth of about 4.4% from 2006-07 to 2009-10,” it says.

DBRS notes that net debt (total liabilities minus financial assets) may increase slightly in 2004-05 and 2005-06 due to non-budgetary cash requirements. However, the debt-to-GDP ratio is projected to continue to decline over the next five years, supported by balanced budgets and sound nominal GDP growth, which is forecast to average about 5% annually over the next five years. As a result, the ratio could soon fall below 40% – a level not seen in at least 20 years.