Ottawa’s four year balanced budget target at risk in fiscal update

Sources say Flaherty is unlikely to announce any major new spending or cost-cutting measures, but he will need to release fresh — and lower — economic and tax revenue projections that will hit Ottawa’s bottom line.

For economists and markets, the gap between a balanced budget and a few billion dollars of red ink four years out is no big deal. Canada still boasts the best fiscal numbers in the G7 and has among the most credible fiscal consolidation plans.

But politically, the Harper Conservatives’ reputation as economic managers may suffer a setback with the concession they have had to revise their plans only five months removed from the last budget.

The Conservatives made much of their surprise election campaign pledge this spring to balance the budget by 2014 — one year earlier than previously announced. They used the promise to buttress their standing as good stewards of the economy.

The change has been forced on Ottawa by downward revisions to the economic growth prospects in Canada since the June 6 budget. At the time, Canada had just come off two solid two quarters and expectations were high that the economy would continue to expand at 2.9% this year and 2.8 next.

But the global economic outlook has darkened considerably since then. Economists warned Flaherty last month to brace for slower growth rates of 2.2 and 2.1 respectively which will reduce Ottawa’s tax intake.

Flaherty had become more careful recently about answering questions about his four-year projections. Asked if he would still be able to meet the target, the minister responded that he was on track to balance the budget “in the medium term,” which could incorporate a delay of a few years.

And Flaherty must still allow room for downward surprises, analysts say.

The Bank of Canada’s forecast is even lower at 1.9% growth next year and the Parliamentary Budget Office is expecting 1.5 growth in 2012, and both those forecasts are based on the expectations Europe will be able to deal with its sovereign debt crisis.

If contagion spreads from Europe, budget officer Kevin Page told MPs recently that Canada would likely slip into another recession, which would throw off all government plans.

“Based on the private sector consensus and making an allowance for contingency, if the government wants to hit their 2014 target, they would need to lower their program expenses,” said TD Bank chief economist Craig Alexander, who participated in last month’s meeting at Flaherty’s Ottawa offices.

The TD Bank has said the bleaker outlook will mean Ottawa will need an additional two years to get back to balance. The PBO sees the deficit lasting past 2016-17.

Alexander said Flaherty can still make the numbers work on schedule by announcing more cost-cutting measures, but given the uncertainty in the global economy, draconian measures are not advisable.

Canada’s economy is currently going through a particularly rough patch. Last week, Statistics Canada reported 54,000 jobs had vanished in October — 72,000 full-time jobs — while the Bank of Canada has estimated the last three months of the year will see growth slow to below one per cent.

Alexander points out that under his calculations, the deficit four or five years from now would be only a few billion dollars. That kind of deficit would be economically insignificant given the size of the GDP.

“From a financial market point of view, all you really need is a commitment you are taking the deficit seriously, (that) you are going to eliminate it over the medium term. But I think the government should eliminate it in a way that doesn’t jeopardize the economy,” he explained.

“Significant fiscal tightening now is probably not appropriate given the state of the economy.”

Flaherty and Harper have themselves stressed they intend to be “flexible” in budget planning, and that fiscal stimulus to help the economy remains a tool they would use if conditions deteriorate further.

Economist Jimmy Jean of Desjardins Capital Markets said Flaherty may have another surprise Tuesday.

The minister may take the opportunity to issue the new five-year inflation target agreement with Bank of Canada. It is expected that the central bank’s key mandate to keep inflation at two per cent and within a range of one-to-three per cent will remain unchanged.