From 2015 to 2019, thanks to spending cuts followed by a booming economy, Quebec experienced five successive years of budget surpluses.

Then came Covid-19.

On March 23, 2020, Quebec “paused” its economy. Three months later, the economy is mostly reopened and Quebec now projects a massive budget deficit for 2020 and deficits thereafter. Quebec’s finance minister, Eric Girard, is hopeful that Quebec will return to balanced budgets within the next 5 to 6 years. This very optimistic projection is conditional on factors far outside of Quebec’s control and, until then, Quebec will need to borrow outsized amounts. These massive borrowings will burden Quebec’s balance sheet and constrain its ability to fund social and infrastructure programs.

In order to return to balanced budgets and repay its indebtedness, Quebec will need a combination of the following:

Economic Growth: Domestic

At 8.5 million, Quebec’s population is relatively small and the Quebec consumer is strapped. In May unemployment was at 13.7%. Contrast this with February’s rate of 4.5%, the lowest since 1976. For those working, taxes are among the highest in North America and disposable income among the lowest. Moreover the mood of the consumer across North America, Quebec included, is to save not spend. It will take some time for consumption to exceed 2019 levels.

In Quebec the three levels of government (Canada, Quebec, municipal) collectively control directly or indirectly about 46% of the economy. That measure of governmental control is close to continental European levels. Governments in Quebec can and do greatly influence the economy. To date the authorities have maintained payrolls, accelerated infrastructure programs, assisted the private sector and provided income protection for individuals. These actions have greatly mitigated the effects of the pandemic but are costly and for the most part unsustainable over the medium term.

Some major Quebec companies were under stress prior to Covid-19 and the pandemic has made things worse. Whilst the private sector has been unevenly affected by the pandemic, some service and export sectors have been hard hit and must await the return of Quebec consumers, tourists and export markets.

Economic Growth: Export Markets

Like the rest of Canada, Quebec is an exporter. The three major markets for Quebec exports are the US, Ontario and Alberta, and all three have been greatly affected by the pandemic. Quebec’s top three exports in 2019 were aircraft and aircraft parts, aluminum and iron ore. The market for civilian aircraft has been decimated and the US is seeking managed trade in aluminum and is threatening to once again impose tariffs under section 232 of the Trade Expansion Act. Thankfully, Quebec has a diversified economy but export-led growth is unlikely to return until export markets grow again, something that will take some time.

Austerity

Austerity is a dirty word in Quebec and was one of the reasons for the fall of Philippe Couillard’s Liberal government in 2018. As a result, there is no political appetite to cut back services. Increases in spending however, including those recently promised, will likely have to wait. Previously announced infrastructure projects should be sheltered as they are accretive to Quebec’s balance sheet and stimulate economic activity.

Taxes

Quebec is already heavily taxed. The Quebec government has little room to increase taxes on its own and will not raise taxes unless other jurisdictions do so. Quebec does not want to smother consumption or impede its private sector’s competitiveness.

Inflation

Inflation is traditionally the preferred long-term method of governments for easing the burden of debt. At this time, deflation is a greater concern and inflation is limited to increased costs due to Covid-19 in certain specific sectors. However, the massive and unprecedented increases in the supply of US dollars and other major currencies all over the world will eventually fuel inflation. Central banks have taught us over the years that 2% inflation is good: it encourages consumption without discouraging real economic growth. Higher inflation on the other hand can materially reduce the value of wages and savings, reduce consumption, investment and trade, and encourage poor allocations of resources. The last period of high inflation in North America occurred in the 1970s, ending with the recession of 1980-1982. During that period inflation exceeded 10% in the US on three occasions: 1974, 1979 and 1980 and in Canada on five occasions: 1974, 1975, 1980, 1981 and 1982. To make matters worse, unemployment remained high throughout the period. Let’s hope that our central bankers and finance ministers can do better this time.