March 28, 2012 / 9:53 PM / 5 years ago

Rating agencies still wary about Ontario finances

A man walks down the street from the King and Bay intersection in the financial district in Toronto, February 22, 2011. REUTERS/Mark Blinch

TORONTO (Reuters) - Ontario’s bold austerity budget has received lukewarm response from bond investors and credit rating agencies as they question whether the minority government of the heavily indebted Canadian province can deliver on pledges to freeze public sector wages and implement tough spending caps.

Credit rating agency Moody’s - which lowered its outlook on Ontario’s debt ratings to “negative” in December - said on Wednesday that a downgrade for Ontario is “still a possibility”.

“The outlook is negative, so the pressure is on the downside. We’ve stated that it’s unlikely the province would get upgraded, so it’s whether there is further downward pressure or whether it stabilizes. That is the question,” Jennifer Wong, Moody’s lead analyst for Ontario, told Reuters.

“We’re assessing the ability to stabilize their debt burden over the medium term. So it’s really about whether they can achieve that, whether they can close their fiscal gap, and whether they can stabilize the debt burden.”

In a bid to eliminate its C$15.3 billion ($15.3 billion) budget deficit, Ontario’s Liberal minority government put corporate tax cuts on hold in its 2012-13 budget on Tuesday and outlined an aggressive plan to rein in public sector compensation and lower the growth of health spending.

But Mario Angastiniotis, lead analyst for Ontario at Standard and Poor‘s, noted some of the proposed cuts and savings appear to be back-loaded.

“You’re only getting C$2 billion savings in the first year with the most detail on that year, and then once you go in the outer years, your savings are increasingly moving beyond the political cycle.”

Analysts and bond investors said the possibility of a snap election in the province adds a large degree of uncertainty to Ontario’s outlook.

The governing Liberals will need support of either opposition party - the right-leaning Conservatives or the left-leaning New Democrats - to pass the budget into law.

Conservative leader Tim Hudak said his party would oppose the budget, while NDP leader Andrea Horwath said she still has to decide. If they both reject it, Ontario voters may have to head to the polls for the second time in six months.

”That puts the onus on the NDP to support the budget,“ Angastiniotis said. ”But even if (the Liberals) get through this first round, once you move into the second, third and fourth year, it gets increasingly unlikely that you’re going to have the support.

“So potentially you’re in a situation where the government falls and you’re into a new election, new government, new budget, new targets.”

Speaking to media on Wednesday, Ontario Finance Minister Dwight Duncan urged the opposition parties not to indulge in brinkmanship but he did not signal in what areas he was prepared to compromise to avoid an election.

A report from Canadian ratings agency DBRS entitled “2012 Ontario Budget: Encouraging but Ambitious,” said the plans made some bold assumptions about reducing growth in public sector compensation and health-care costs.

“We’re more concentrated on the downside,” said Eric Beauchemin, managing director of public finance at DBRS.

“We are making sure that control is not lost over fiscal results and that they continue to perform as planned, which is returning to balance by 2017-18.”

Among the rating agencies, Ontario’s credit is scored Aa1 negative at Moody‘s, AA- at S&P, and AA low at DBRS. They are investment grade ratings, but below the federal government’s top rating.

Moody’s still has a higher rating on Ontario than the other two agencies, which downgraded the province in 2009 after the manufacturing-based economy of Canada’s most populous province was ravaged by the global recession.

The ratings agencies all plan to evaluate the budget further as they meet with the province’s government and issue reports in the weeks to come.

BOND REACTION MILDLY POSITIVE

Spreads between Ontario and Canada government bonds widened in the lead-up to the budget and narrowed slightly in a positive market reaction to the fiscal plan. But the move was muted, reflecting investor uncertainty about whether the government can meet its targets.

Brian Calder, a bond trader at Bissett Investment Management in Calgary, said Ontario’s bet is a “best-case scenario,” but acknowledged the market is a bit more confident as a result of the budget.

“The budget has not caused our team at Bissett to reverse our position being underweight,” he said. “It’s more along the lines of our expectations that the province really has to deliver and offer more clarity regarding what their plans are regarding their deficit situation.”

The yield on Ontario’s 3.15 percent bonds due 2022 was about 90 basis points above the yield on its Canadian government counterparts on Wednesday, down from 91 basis points on Monday.

($1=$1.00 Canadian)

Editing by Jeffrey Hodgson

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