By Keith Halliday -- What happens when your rich uncle is no longer so rich?

When you were a kid, it was fun to have a rich uncle who gave you rides in his 1969 Corvette and slipped you twenty bucks when you shovelled his driveway. It was a shock when he arrived in a used Chevy Impala and gave you a cheap sweater for your birthday instead of an Atari.

Sad to say, but Northern entrepreneurs are going to live the experience of losing a rich uncle, as territorial finances go from surpluses to deficits. As recently as March 2008, all three territorial governments had big cash reserves in the bank. The Yukon’s rainy day fund was over $150-million, while the NWT’s was $83-million. Even economically challenged Nunavut had $63-million in the bank.

The previous five years had been very good to the territories. Announcements from Ottawa that transfer payments would be higher than expected were routine, and the Internet was clogged with territorial press releases about new highways, schools and other projects.

For example, the Yukon’s cheque from Ottawa grew 35 per cent ($200-million) over five years. A rough rule of thumb is that it costs $100,000 to create a job. So this money has enabled the Yukon government to fund 2,000 jobs, from policy analysts to contractors working on the new jail. Not bad for a territory with a population of 33,000.

And all this happened while our personal income tax rates were among the lowest in Canada. In 2008, rates in the Yukon and the NWT were lower than in at least seven provinces.

Things have changed fast. In his budget earlier this year, NWT finance minister Michael Miltenberger announced that the remaining cash surplus would be consumed this fiscal year and the NWT would need to borrow $81-million. Nunavut is in debt and the Yukon government has also been running cash deficits. It also has $36-million frozen in asset backed commercial paper and was recently forced to write down the value of these funds by $11-million. The Yukon is on track to burn through its cash reserve in the next two years.

While vanishing rainy day funds are not good news, we should keep the news in perspective. None of the territories is in circumstances as bad as, say, Iceland or Britain, where massive government debts are likely to burden the taxpayer for a generation. And the territories are able to borrow to finance some continued deficit spending, at least in the short term. The NWT, for example, has the second highest credit rating – Aa1 – from Moody’s Investors Service.

But there is no doubt government cash will be scarcer in the North. Cutbacks are coming, and they will be politically difficult because Northerners are closer to the decision makers than people in Ottawa or Toronto. The NWT’s experience is instructive: Cuts of $135-million over two years were originally announced, but this was scaled back in this year’s budget speech to $78-million over four years.
So, what can we expect from the territorial governments? If past experience is any guide, they will avoid cost-cutting programs or income-tax increases for as long as possible. They will raise government fees on things like driver’s licences and sin taxes on cigarettes and liquor. They will also target sectors perceived to have deep pockets, as the NWT did with its recent 15 per cent property tax increase on mining and oil and gas projects.

This won’t be enough to balance the books, so governments will have to restrain spending. Given how difficult it is to cut costs in the public service, they will likely focus on things like special projects, external contractors and hiring freezes.

These moves lessen the political pain for ministers, but they also leave two main sets of “losers”: businesses dependent on government contracts, and young people.
Businesses lose because governments find it easier to cut external expenditures than internal budgets, which represent full-time staff, protected by active unions. It’s much easier to reduce spending on contractors and projects.

Young people suffer because the government reduces new hires in order to minimize layoffs. For example, last year the NWT moved to cut costs by eliminating 140 out of 5,000 jobs. Of the 140 positions eliminated, only 14 people actually lost their jobs. The rest just weren’t hired. This is great news for the civil servants who kept their jobs, but means there won’t be many openings for university students returning home. They will have to start their careers in Calgary or Vancouver.

And if the recession lasts longer than expected, or if cost-cutting measures save less cash than hoped, governments will be faced with much tougher decisions about job cuts and income tax rates.

In a few years, we may look back on the days of flush government budgets and low taxes with as much nostalgia as that rich uncle’s 1969 Corvette.

Keith Halliday is a management consultant based in Whitehorse, Yukon.