Ontario’s debt legacy makes balancing budget harder

Next week, the Ford government will table Ontario’s provincial budget for 2021/22. It remains to be seen whether the government will chart a course back to budget balance—something they didn’t do in last fall’s 2020 budget.

The last budget forecasted a deficit of $38.5 billion for the current fiscal year. For historical context, the deficit is larger (relative to the size of provincial GDP) than any deficit run by the Rae government when it faced a steep recession and large deficit in the early 1990s.

There are many different reasons why taming such a large deficit will be difficult, including the fact that every year Ontario’s government must spend significant money servicing debt it accumulated in the past. This substantial expenditure—before the government spends any money on new activities—makes the work of balancing the budget more difficult.

A look at the government’s current fiscal plan illustrates how debt interest, due to decisions of past governments, makes life harder for Ontario’s finance minister. According to the 2020 budget, the government will spend an estimated $12.5 billion on debt interest. This means that if the Ford government didn’t have to pay debt interest payments at all, the deficit would be $26 billion this year, not $38.5 billion.

Looking further into government’s fiscal outlook makes the point even more clear. In 2022/23, the government forecasts a budget deficit of $28.2 billion. That same year, interest payments are forecasted to rise to $13.9 billion. In other words, the expected deficit for 2022/23 would be about half as large if debt interest payments weren’t part of the equation.

A look back at Ontario’s history provides further insights. Public finance economists use the term “primary surplus or deficit” to describe what a government’s fiscal balance would be in the absence of debt interest. In other words, it compares revenue to current program expenditures.

As illustrated in the chart below, starting in 2008 (when Ontario entered a steep recession) the province ran 12 consecutive deficits until 2019, the last pre-COVID year. However, if we look at the primary budget balance, we see Ontario actually had a primary surplus or balanced budget in seven of these years compared to a primary deficit in five years.

None of this is to absolve current governments, premiers or finance ministers of their responsibility to sustain public finances. It simply illustrates that the accumulation of debt over time, and the resulting interest payments, creates challenges for future governments, which can contribute to even more deficits, more debt and all else equal, more interest payments in subsequent years.

Of course, not all kinds of debt are bad. And interest payments are not necessarily proof, in and of themselves, of past fiscal mismanagement. If money is prudently invested, for example, in productivity-enhancing capital projects such as needed infrastructure, it can help spur prosperity for future generations, so it’s reasonable to pass along some of the interest costs.

But this has not been the major driver of debt accumulation during several recent years of high deficits in Ontario. One study by economist Jean-Francois Wen showed that from fiscal year 2002 to fiscal year 2017, current expenditures were the “main cause of the rise in debt in Ontario.” In short, the interest payments consuming scarce resources and making it harder to balance the budget today are largely the result of borrowing to finance day-to-day expenditures rather than long-term capital projects.

In years ahead, the government in Queen’s Park will face daunting challenges if it wants to balance the budget and return provincial finances to sustainability. As we have seen, this job will be much harder thanks to the decisions of previous governments. There’s a good news story on the flip side, however. If the Ford government stops the accumulation of new debt for operating expenses, it will save Ontarians money on interest payments and make the work of restoring fiscal sustainability easier for future finance ministers.