As the Prince Edward Island government prepares to table its operating budget in the coming weeks, policymakers find themselves in a much-changed fiscal environment. This time last year, the government tabled a budget that projected a small surplus for 2019/20, the third surplus in a row. This counted as modest progress following a long string of deficits.

The government then tabled a fiscal update in April 2020 that showed the small surplus is now projected to be a small deficit in 2019/20. However, this is just the beginning of the red ink. Premier Dennis King told reporters recently that the deficit could reach $175 million this year (2020/21), which would be the largest deficit on record.

Like all provinces, P.E.I. faces a shrinking economy and decreases in government revenue resulting from the COVID-19 recession. In this two-part blog series, we’ll first examine the size of the deficit the province could face. Later, we’ll examine the resulting rise in provincial debt and what that means for Islanders.

After five years of robust GDP growth, P.E.I.’s economy is projected to shrink significantly this year. Forecasts from the big banks on average project a -5.1 per cent decline in GDP in 2020. This decline in economic activity will mean less revenue for the government.

On the spending side, the government has introduced approximately $100 million in new spending as a result of the COVID-19 outbreak. The combination of increased spending and decreased revenue will likely result in a large provincial deficit this year.

While Premier King’s estimate of a $175 million deficit is worrisome, data from the federal Parliamentary Budget Officer (PBO) suggests this could understate the province’s deficit. The PBO recently produced a national report, which predicts a 17.2 per cent decrease in personal income tax revenues, a 22.4 per cent decline in business income taxes, and a 26.7 per cent decline in sales (and related) taxes. Although the PBO report has a national focus, it’s reasonable to use these numbers to provide a general idea of how the recession could impact the province’s finances.

Applying these declines in revenue to P.E.I., we arrive at a revenue estimate of $1.99 billion for the 2020/21 fiscal year. This assumes other sources of revenues hold at their previous levels, and thus may even overestimate actual revenues in 2020/21. The province was projected to spend $2.16 billion in 2019/20 as of the last fiscal update. If program spending in 2020/21 increases by 4.3 per cent (the annual average growth rate since 2014/15) and we add an additional $98.4 million in new spending related to the pandemic, we arrive at a total spending estimate of $2.3 billion for 2020/21.

The result of this second method of forecasting is a potentially historic deficit, in the range of $320 million. To put this figure into perspective, the largest deficit in the last 40 years occurred in fiscal year 2002/03 when the province spent $125 million more than it took in. Our estimate, using the PBO projections, yields a deficit more than double this amount.

A second deficit forecast comes from Scotiabank, which has produced provincial deficit forecasts for all provinces. In a report released last month, the bank projects P.E.I. to run a $260 million deficit in 2020/21. This amounts to 4 per cent of GDP, and would be proportionally larger than both New Brunswick and Nova Scotia.

It’s important to remember that these are simply projections and many unknowns exist about the economy in the coming months. Things could turn out to be better than we forecast here, but they could also be worse. Like the economy as a whole, it isn’t clear how rapidly government revenues will recover. But both projections suggest that P.E.I. could see a historically large deficit in 2020/21.

The province’s fiscal situation is dramatically worse than the government expected just a few months ago, and some of the progress that has been made in recent years has been wiped out. Tackling the resulting debt load and returning to balanced budgets in the medium-term will be an important part of the provincial recovery.

In part two of this series, we will show calculations estimating P.E.I.’s debt situation.