23 January 2017

Sovereignty #nlpoli

Newfoundland and Labrador is one of the very few countries on the planet that got itself into such a financial mess that it gave up self-government.  The people gave up their right and power to govern themselves. That is, they gave up their sovereignty.

They took it back in 1949,  no matter what sort of fairy tales some people continue to believe.  Now with massive public debt coming from chronic overspending and the crushing debt of the insane Muskrat Falls project, some people are raising the prospect that Newfoundlanders and Labradorians may once again see their sovereignty in jeopardy.

Energy analyst Tom Adams has raised the issue of sovereignty with Pete Soucy and Paddy Daly recently.  Muskrat Falls is likely to create such financial problems that the federal government will have to bail the province or Nalcor out, argues Adams.  And it is almost certain that the federal government would look for some "austerity measures", as Adams put it,  as part of whatever deal lets the money flow.

As the post on a bail out argued,  the prospect of Ottawa bailing out Newfoundland and Labrador is a long way off.  The provincial government still makes more money than most other governments in Canada.  There are plenty of ways the government could fix its financial mess without  a bail out. We are a long way from the situation Newfoundland faced in 1933.  The government had so much debt that paying the interest on the debt was the single largest expense in the budget, bar none, and that they government could even scrape together cash at the right time to pay the interest when it came due.

The problem we have is not a lack of options and opportunities to sort out the government finances ourselves.  The problem facing Newfoundland and Labrador is that the leading people of the province, not just the politicians but all the leading people,  don't have the stomach for making the kinds of decisions needed. They don't even want to talk about sensible things. They talk about foolishness like Equalization or fight against imaginary "austerity" instead.

Adams was quite right to suggest that if the federal government steps in to bail out Muskrat Falls or the provincial government, they may well expect some political consequences for the government.  The most extreme loss of sovereignty would be along the lines of what happened in 1933. In the Canadian context, we'd be looking at something unprecedented, with a province turning into a territory controlled by the federal government but governed by an appointed council.

That wouldn't happen in a vacuum, however,  so with that kind of extreme loss of sovereignty goes an extreme level of bail out.  And that kind of unprecedented bailout would be a province so far in a financial hole that it couldn't provide basic public services.

What we should be concerned about are situations far short of that extreme but which impinge on the provincial government's sovereignty all the same.

Debt Servicing

The most likely impact of massive debt is already on us.  Debt servicing is now the second largest expense for government.  Leave out borrowing and federal transfers. Paying the interest on our debt is now about 21% of the government's own revenue, according to last spring's budget.

We don't think of it this way but the more you spend on debt servicing, the less you have to spend on other things.  Pretty simple idea, really, but debt is such a common part of lives, we forget that money going to pay debt isn't just the delayed payment of a benefit we already have. In your household, you buy a car or a major appliance or even your house.  use the car or the appliance and you live in your house.  The deal is that you enjoy the benefit of those things now and pay the cost of it over a long time.

What we wind up doing with government debt is just carrying it around.  The practise of government after government has been to cover the interest cost alone.  When the loan comes up for complete repayment, government has to borrow more money and start the interest payment cycle all over again. For years, government did that sort of thing because it couldn't afford to do much else.

But with the arrival of oil cash, the government could have done something very different.  SRBP outlined that type of idea in its series on the SIDI approach. Control spending. Balance the books using some of your oil cash.  Use some of your oil cash to either pay off debt completely or to create a sinking fund that will be used to retire debt completely when it comes due.

What the government did was to radically increase spending and pay for it all with oil money and more borrowing. That's the opposite of the SIDI approach and it is precisely how we got into the current mess in the first place with more debt than ever before.  To make it clear just how this sort of thinking works,  take a look at Danny William's speech last week. Muskrat Falls is now running at close to triple it's original estimated cost.  No sweat says Danny.  That's what happens with megaprojects.  Oh, and use oil money to pay the debt back.

Williams advocates more of the same bad management

Two things:

First,  megaprojects that are poorly managed experience cost over-runs and construction delays of the size of the ones we see from Williams' mess.  Churchill Falls has generating capacity of almost 6,000 megawatts.  It cost the equivalent of about $6.0 billion in current dollars to build.  The company that built Churchill Falls brought it in under budget and ahead of schedule.

Second, Williams' suggests government use oil money from Nalcor to pay down the loans for Muskrat Falls.


Nalcor paid for the equity stakes and for the provincial government's portion of projects like Hebron using borrowed cash.  The dividends Williams mentioned last week actually have a job to do already. The money coming back from any oil sales has to pay back the loans used to get them.  Williams wants to spend the same cash twice.  A bit hard to do.

Eventually, though,  there will be money coming from oil revenues that isn't already earmarked. Williams' idea might make sense on the surface. Scratch away at it for a second and you can see pretty quickly that what he is doing is liquidating an asset to pay off a loan, which is really just another way of going further into debt.

This differs from the usual way we speak of debt because  you are going into debt to yourself, but overall, you are diminishing your wealth. Wealth gives choices. Less wealth = fewer choices, which is a limitation on sovereignty.  You get the picture.  There's much more to this kokamamie scheme of Williams that is just nuts but lets leave it at that, for now.

The banks and the bond raters

There's another restraint on our ability to make choices that will show up long before a 1933 situation arises again.  That's the one that showed up long before 1933 and is already here. It's the restriction imposed by the people who lend the money or who advise those that would lend the government money.

That restriction comes in the form of conditions put on further borrowing.  If you want to borrow more money, they may say, you will have to pay more for it in the form of increased interest.  That drives up the amount spent in debt servicing, which goes back to that problem we just ran through.  Less money to spend on other things that you need or want or to cover an emergency.

As places like Newfoundland and Labrador get further and further into debt,  the lenders can demand other things besides higher interest in order to get more cash.  They can demand spending cuts, for example.  That may not turn up as a plain demand for spending cuts. It can come in the expression of triggers for higher interest rates and we have already seen that.  Bond raters have told the province government they have certain triggers or red flags that will cause a credit rating down grade.  In order to stay within the limits set by the bond raters, the provincial government will have to do things like reduce spending.

There are other losses of sovereignty that can come with added debt. Creditors can demand that governments have a watchdog chosen by the creditors.  The watchdog look over government shoulders at budget time and during the year.  It happened in Newfoundland before 1933 and it happens in countries today.

Newfoundland and Labrador's massive public debt will affect our sovereignty long before we get to the point like 1933. It already is.  And if people are upset about paying a few dollars in tax on a book,  they might want to lift their heads up and see what else might be coming just a little bit down the road unless the government changes its ways.