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What the oil plunge means for Canada and Alberta

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First, it was COVID-19. Then came the oil market crash, as global oil prices fell around 30 per cent on Monday amid a production war between Saudi Arabia and Russia.

It’s an unwelcome one-two punch for the global economy, economists say. But for Canada, the second blow is especially serious.

Stock markets plunge on coronavirus fears and oil price wars
Stock markets plunge on coronavirus fears and oil price wars

Oil markets tumbled Monday in their biggest one-day drop since the Gulf War of 1991, as Saudi Arabia and Russia vowed to ramp up oil production after failing to reach an agreement to curtail supply in order to prop up prices.

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Both Brent crude, the global oil-price benchmark, briefly dropped to around US$31 a barrel, while U.S. West Texas Intermediate (WTI) crude, the North American benchmark, went as low as $27 a barrel. (All oil prices are in U.S. dollars.)

“We’ve seen a number of oil shocks,” BMO chief economist Douglas Porter said. But, he added, “I must say this one is quite abrupt.”

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The last time oil prices dived that low was the oil price crash of 2014-2015. Back then, Porter recalled, “we certainly saw the Alberta economy suffering a huge way.”

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Alberta headed for recession?

“It’s bad news for the Alberta economy on the whole,” said Nick Falvo, a research associate at Carleton University. “With this recent drop, I think people will be starting to say the R-word and they would not be foolish in suggesting that.”

Canada’s energy sector felt the immediate effects of the drop in the price of crude oil. The stock prices of producers Suncor Energy Inc. and Canadian Natural Resources Ltd. were both down 20 to 25 per cent Monday morning.

For now, the impact on oil production in Alberta’s oil patch looks likely to be more contained than in the U.S. shale-oil fields, which account for 80 per cent of U.S. output growth, said Rene Santos, manager of North America supply analytics at S&P Global Platts.

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While the lower oil prices could make a number of new U.S. shale-oil developments uneconomical, the impact on Alberta’s producers will be more limited, Santos predicted. That’s because the province doesn’t have many new projects slated to come online in the near term.

“What is good for Canada is that the oil sands have a very steady production,” Santos said.

Oil-price drops are more likely to affect new energy projects that are nearing completion. For existing projects in the oil sands, current production levels should continue for the most part, barring a further, steep drop in prices, Santos said.

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Some analysts, however, are now forecasting just such a drop.

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Investment giant Goldman Sachs slashed its forecast for crude prices, saying COVID-19 and the Russia-Saudi Arabia rift could send crude below levels seen in the 2014 market crash, which pushed crude prices below $30 a barrel by 2016.

Some believe the decline in oil prices will likely be severe and prolonged.

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On Monday, Standard Chartered, a British financial service, cut its average 2020 Brent forecast to $35 per barrel from $64, and its average 2021 Brent forecast to $44 per barrel from $67.

“With supply ramping up at the same time as coronavirus-related demand losses reach their maximum, the short-term floor to oil prices is extremely weak,” Standard Chartered said.

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Alberta’s recent spring budget had forecast West Texas Intermediate will average $58 a barrel in the coming year.

Falvo said this should be a wake-up call for Alberta to move away from being reliant on oil revenues.

“The Kenney government should be thinking carefully about the advantages of investing in the public sector and the drawbacks of cutting in that sector,” he said. “Given that you can’t change the price of oil, you might want to think about what you can control.”

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Impact on the rest of Canada

While the last oil shock was painful for oil-producing provinces, “the rest of country pretty much drove on as if nothing really happened,” Porter said.

In general, low oil prices drag down both interest rates and the Canadian dollar, which stimulates economic activity, Porter noted. Lower interest rates mean cheaper borrowing, while a weak loonie helps boost exports.

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This time, however, Canada is also coping with the economic implication of COVID-19, which had already put pressure on global oil prices amid factory shutdowns and reduced travel worldwide.

On March 4, the Bank of Canada cut its trend-setting interest rate by half a percentage point to 1.25 per cent in an effort to soften the economic impact of the outbreak.

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Bank of Canada governor addresses reasons behind interest rates cuts

Now economists expect Ottawa to step in with fiscal measures.

Policymakers should be focused on ensuring the current turmoil “doesn’t morph into a broader downturn for the economy,” Porter said.

“That means standing ready and, in fact, doing some preemptive things to support consumer and business confidence, to make sure that everyone’s aware that the federal government will use its balance sheet as needed to support the economy.”

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Porter said federal coffers are in fairly good shape compared to other governments.

I’m not particularly worried about a couple of years of big deficits, not when Ottawa can borrow for less than one per cent [interest rate],” Porter said.

The financial market rout has pushed borrowing costs to record lows for a number of governments, including Canada and the U.S., as investors in search of safer assets buy up government bonds.

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Still, Ottawa should avoid getting locked into permanently higher spending levels, Porter warned.

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What the economy needs is a focused, “surgical” intervention, he said.

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In a Monday afternoon press conference, Finance Minister Bill Morneau sought to reassure Canadians, saying Canada has a “very strong fiscal position” with “a level of debt as a function of our economy that is very low.”

“First and foremost, we are focused on dealing with assuring people that we have our health system strong,” he said.

“We’re also making sure that we tell people we have their backs.”

Morneau also said he has been in “extensive discussions” with key players and leaders in the banking sector as well as provincial leaders, including Kenney.

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In his own afternoon press conference, Kenney told reporters the challenge to Alberta and Canada “could not be more serious.”

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“We are in uncharted territory,” he said, noting that Alberta is “resilient.”

“We’ve gotten through bigger challenges in the past and we’ll get through this one together.”

Meanwhile Alberta’s opposition leader Rachel Notley has called on Kenney to withdraw his budget and submit a new one that recognizes the impact of free-falling oil prices on revenues.

— With files by Global News staff, The Canadian Press