Thanks to slower economic growth, several provinces are in danger of slipping into deficits in the fiscal year ending March 31, 2009.

Only Prince Edward Island is projecting a deficit for fiscal 2009. The rest of the provinces — with the exception of Ontario and Quebec — are forecasting surpluses. While the two Central Canada provinces are calling for balanced budgets, there is little standing between them and deficits, given their struggling manufacturing sectors and the negative impact of high oil prices.

Since 2008 began, economists have been lowering their national growth forecasts for the year. Economists at TD Bank Financial Group and Bank of Nova Scotia have knocked 0.8 percentage points off their original forecasts of 1.3% and 1.1%, respectively. Given the deterioration in the economic outlook between the time each provincial budget was prepared and its release this spring, probably a month on average, several provincial balance sheets could be affected.

In the view of David Perry, senior research associate at the Toronto-based Canadian Tax Foundation, the question is whether provincial governments, faced with weak economic growth and reduced revenue, have the political will to run deficits. He believes they would be justified in doing so because the spending cuts and/or increased taxes necessary to avoid a deficit would exacerbate the economic weakness. But years of hype about the need to post, at the minimum, balanced budgets could force governments to make avoiding a deficit their priority.

Only Alberta, Saskatchewan and Newfoundland & Labrador may be immune to the impact of an economic slowdown. All three have based their fiscal 2009 revenue estimates on average oil prices of less than US$90 a barrel in 2008. That could prove conservative, given that TD is forecasting an average oil price of US$99.50 a barrel and Scotiabank’s forecast is US$105-US$110.

It may be more of a struggle for British Columbia and Nova Scotia to avoid going into deficit, even though they are somewhat insulated by their natural gas production. Nova Scotia has more wiggle room — it is forecasting a $190-million surplus for fiscal 2009 — but B.C. is projecting only a $50-million surplus. The latter is facing significant expenditures leading up to the 2010 Olympics, as well as having a very generous social assistance program.

Social assistance expenditures can burden provincial governments when the economy weakens, notes Perry. Provinces carry the brunt of paying for social assistance, making them more vulnerable than the federal government, which is hit only by increased employment insurance benefits.

Manitoba is projecting a surplus of $96 million for 2008-09, which is significantly smaller than its fiscal 2008 estimates. The province does, however, have a $643-million fiscal stabilization fund, which can be used to meet unexpected events.

New Brunswick, on the other hand, is projecting only a $19-million surplus for 2008-09. Its Liberal government, elected in September 2006, already increased taxes in its 2007 budget, when it reversed business tax cuts made by the previous Conservative government. Until that time, New Brunswick had been a leader in the general move by the provinces to lower business taxes.

A task force is expected to report shortly on how New Brunswick can generate sufficient revenue in the next two decades that it will not need equalization payments and can move to self-sufficiency. Part of this will entail a significant overhaul of the tax system, which TD economists expect will include dropping the corporate income tax rate to 10% from 13%, mirroring B.C.’s recent move and in line with Ottawa’s target of a combined federal/provincial rate of 25% by 2012. TD says New Brunswick could reasonably increase sales and fuel taxes if it is reducing personal and/or corporate taxes, especially given the recent cut in the goods and services tax rate.

Nova Scotia’s Conservative government brought in the En-vironmental Goals and Sus-tainable Prosperity Act in 2007. The goal is to achieve “economic performance at or above the Canadian average” by 2020. A key component is fiscal flexibility and the province has committed to reducing its debt, not just bringing it down as a percentage of GDP.

Scotiabank economists note that, aided by historically low interest rates, the province’s debt service will drop to a projected 10.7¢ per revenue dollar in fiscal 2009, down from 15.3¢ four years earlier. The province has also eliminated foreign-currency exposure in its debt; it was 72% in 1995.

@page_break@P.E.I. has what it calls a “prosperity strategy” aimed at narrowing the estimated 80.6% gap between its personal income per capita and that in the rest of Canada. P.E.I.’s 2008 budget contained a number of measures related to this strategy, which focuses on biosciences, information technology, aerospace and renewable energy.

N&L is no longer in the same boat as the other Atlantic provinces. Indeed, its oil revenues are so high that TD economists say it is “set” to become a “have” province — no longer receiving equalization payments — by fiscal 2010. But that doesn’t mean the province is without challenges.

The province has high tax rates and a lot of debt, although both issues are being addressed. As of July 1, N&L will reduce personal income tax rates by 1% across all income brackets. That’s on top of the cuts made last July, which pushed the province’s rates below those in the other Atlantic provinces. But the rates are still, as TD puts it, “meaningfully” higher than in Ontario and the West.

On the corporate side, N&L’s tax rate is 14%, in line with Ontario’s and less than the Nova Scotia’s and P.E.I.’s 16% rate but still higher than elsewhere. N&L’s small-business rate, at 5%, is also on the high side.

However, the province does not levy general capital taxes (on paid-up capital) on non-financial institutions. New Brunswick, Nova Scotia, Ontario, Quebec and Manitoba all collect capital taxes, although they are being eliminated in Saskatchewan this year. Ontario, Quebec and Manitoba did eliminate capital taxes for manufacturers and processors in this year’s budgets, and the taxes will be entirely gone for all non-financial institutions in 2009 in New Brunswick, in 2010 in Ontario and Manitoba, in 2011 in Quebec and in 2012 in Nova Scotia.

Alberta is the only province without capital taxes on financial institutions, but Ontario plans to join it in 2010, as does B.C., although only for small financial institutions.

N&L is also increasing civil-service wages by 20% over the next four years and is implementing recommendations made by a skills task force, including support for apprenticeships and community-based workplace skills training.

Debt in the province is expected to drop to $9.8 billion, or 32.5% of GDP, by fiscal 2009 — down from $11.7 billion (46.9% of GDP) in 2008.

As N&L leaves the roster of “have not” provinces, Ontario may join it. TD calculates that Ontario could collect as much as $400 million in federal transfer payments in fiscal 2011 and $1.3 billion in 2012; the province may even qualify in 2010.

TD economists caution that this is not so much a story of weakness in the Ontario economy as of soaring commodity prices. Previously, equalization was based on the average revenue of five provinces, excluding Alberta and the four Atlantic provinces. This meant resources revenue played a small role. Now, transfer payments are based on the average for all 10 provinces, including 50% of resources revenue.

The previous formula was designed to downplay resources revenue at a time when they were soaring. TD economists wonder if it is “heresy to ask whether, once again, the standard for equalization is not appropriate?”

The most interesting tax move this year is B.C.’s imposition of a revenue-neutral carbon tax, which starts at $10 a tonne of greenhouse-gas emissions on July 1 and rises by $5 a year to $30 a tonne by 2012.

As for Ontario’s and Quebec’s tenuous fiscal balances, Quebec has indicated flexibility; it feels budget balances should be achieved over economic cycles rather than annually. It has also promised not to raise taxes.

Ontario’s dilemma is exacerbated by its need to reduce its general corporate income tax rate to within two percentage points of that of other large provinces. TD economists are suggesting a rate of 12%, down from 14%. IE