Sunday, February 22, 2015

Why did Alberta not have a game plan for low oil prices? Why did they spend $56 billion more than they needed to over the last seven years?

Alberta has had a serious windfall in oil revenues for the last decade or so and somehow they did not set themselves up to look after the province for the long term.   When the oil boom started about ten years ago government program spending per capita in Alberta rose much faster than other provinces.   The windfall was sucked up into an expanding government and not saving for the future.

It has only taken one drop in the price of oil for the budget of Alberta to go from a surplus to a huge deficit.   Yes, the drop has been dramatic but based on long term commodity price trends, not unexpected.

There was a famous bet between Julian Simon and Paul Ehrlich made in 1980 about commodity prices in ten years time.   Julian Simon bet there would be no rise while Paul Ehrlich bet there would be.   Simon won the bet in 1990.  Commodity prices have been up and down over the decades but it is actually interesting to see how little the commodity prices have not been ahead of inflation.
Price of a barrel of WTI oil in Canadian dollars from Jan 1986 to Feb 2015
Since 1986 Canadian inflation has been 86%,  The price of oil at the start of 1986 was $35 per barrel, which would be $65 per barrel now and the roughly the current price.  From 1986 to today the price of oil has been significantly ahead of inflation in only nine out of the last 28 years.   In eight of the years oil has significantly fallen in price.

I know some people will say this is a temporary blip downwards, that peak oil is here and the price is going to skyrocket again shortly but I disagree.  Oil is a product that is very sensitive to supply and demand.  As soon as there is a shortage of supply the price rises but businesses find ways to use less oil while at the same time a lot more oil can be extracted because it is financially viable.   New technology has made various oil sources much cheaper to extract.   So as the price rises again, there is a lot of new oil that come onto the market.   In the long term oil will be cheaper than people expect.

Alberta ignored basic economics when it did not use something like $40 to $50 per barrel as the long term stable price of oil.  The bonus revenues should have been set aside in the Alberta Heritage Savings Trust Fund but that has not been done.   In 2014 the fund had about $17.3 billion, not something more like the $50 billion to $120 billion that it should have had.   Alberta used the oil revenues for short term political favour and not long term planning.   In ten years from 1998/99 to 2008/09 Alberta doubled their per capita program spending.   BC, Ontario and Quebec did not have anywhere close to the same rise in program spending.

If the money had been set aside as should have been Alberta would have able to have a secure and consistent source to borrow money from for public infrastructure at rates the province could set.   What we see instead is a province in panic as the provincial spending will have to be dramatically cut.

As it stands, the government of Alberta costs a lot more to operate than the other three large provinces in Canada.   Alberta spends $2000 per person more than BC and $3000 more per person that Quebec.   Alberta has been spending about $7 to $10 billion per year than they should be for the last at least seven years..   One would think the NDP was in power in Alberta.   The only two provinces that spend significantly more per capita are Newfoundland and Labrador and Saskatchewan - both right wing governments.

Spending an average extra $8 billion per year for seven years is $56 billion.   $56 billion that did not need to be spent.   What does Alberta have to show for this $56 billion?

The only think Alberta does well on is direct provincial debt, it has none, the only province to be in that situation, but this will change suddenly.  During the last extended period of stable but low oil prices Alberta went from a large surplus to having more debt than BC had under Mike Harcourt at the same time.   Given the lack of any fiscal discipline in Alberta over the last 30 years, there is no reason to expect the province to change now.
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