US embassy cable - 05CALGARY600

UNCLAS SECTION 01 OF 04 CALGARY 000600 
 
SIPDIS 
 
STATE FOR WHA/CAN, EB/ESC/ISC, EB/EPPD 
 
USDOE FOR IA (DEVITO, PUMPHREY, DEUTSCH) 
 
E.O. 12958: N/A 
TAGS: ECON, ENRG, EPET, ETRD, PGOV, ZR, CA, Petrolium, Energy, Trade 
SUBJECT: SOARING OIL PRICES RAISE ALBERTA SURPLUS AND OTTAWA 
EYEBROWS 
 
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SUMMARY 
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1.  While commuters from New York to Tokyo watched in horror as 
oil and gas prices shot up this year, residents of Calgary, 
Alberta celebrated, and for good reason. For every US$1 increase 
in the price of a barrel of oil, an estimated C$100 million is 
pumped into provincial coffers. Recent spikes in the value of 
these commodities have fueled a booming Alberta economy, already 
the strongest in Canada. However, just as no lottery winner is 
long appreciated by his neighbors, surrounding provinces have 
experienced no shortage of surplus envy. The provincial 
government is therefore faced with the unusual problem of too 
much money, and too many options. This report will survey some 
of the possible solutions being investigated for this unbudgeted 
cash, as well as the effect Alberta's newfound wealth has had on 
intergovernmental and international relations in Canada. End 
Summary. 
 
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Sources of Alberta's Wealth 
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2. As recently as 2004, the Finance Ministry of Alberta 
predicted that oil prices would fall from the "unsustainable 
high" of US$31 a barrel to "US$26 per barrel in 2004-05 and 
US$25 for the following two years." Currently, the price of oil 
is well over US$65 a barrel, and most economists expect this 
trend to continue. This unpredicted surge has result in an 
unbudgeted provincial surplus estimated at anywhere from C$6 
billion to C$12 billion. Resource royalties are the largest 
source of income for the Alberta government, which is expected 
to take in at least C$14 billion from oil and gas companies in 
2005. One important factor behind the unbudgeted surplus is that 
rising oil prices cut down the average time before an oilsands 
project reaches payout status. Three-fifths of the projects are 
now in this higher tax bracket, causing royalty revenue from 
synthetic crude oil and bitumen to come in seven times higher 
than budgeted. 
 
3. While international attention has recently focused on the 
increasing development of Alberta's huge oil reserves, 75% of 
the province's energy revenues actually come from natural gas. 
In 2003, Alberta's pipeline infrastructure of 332,000 km 
delivered 5 trillion cubic feet (tcf) to international and 
domestic markets. That same year, the province exported 2.6 tcf 
to the United States, meeting about 12% of American demand. The 
price of natural gas is historically tied to the price of oil, 
and at US$14 per thousand cubic feet, is seven times the average 
price of the 1990's. Alberta is also seeing an increase in its 
role as a natural gas hub, with gas from the proposed Mackenzie 
Valley and Alaska gas pipelines set to run through the province 
on route to markets in the U.S. 
 
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Oilsands Seen as the Future 
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4. However, with the vast majority of known natural gas fields 
already mature, and exploration finding few new sources, 
Alberta's vast oilsands are seen as the future of the province's 
resource economy. The 2003 Oil and Gas Journal reported Canada's 
oil reserves at 180 bbls (second only to Saudi Arabia), an 
increase from earlier estimates of 4.9 bbls. This increase was 
due to the recognition of Alberta's oilsands, where oil 
production had previously been considered uneconomical. A 
combination of high oil prices and improved refinement 
techniques have made this resource competitive, as Saudi Arabia 
and other suppliers of traditional crude oil struggle to 
increase their own production. Alberta's oilsands production of 
one million bpd is expected to triple over the next 15 years. 
 
5. Not all of Alberta's prosperity can be attributed to winning 
the resource jackpot, however. The "Alberta Advantage" of low 
taxes, advanced infrastructure, and a well-educated workforce 
has drawn in many industries from less pro-business provinces. 
The value of Alberta's industrial goods increased at an 
annualized rate of 30% in the first half of 2005, a factor in 
the 15% surge in total exports. Construction is another booming 
part of the economy, with the issuing of new permits growing so 
fast the national statistics are being inflated. Alberta is by 
far the wealthiest province in Canada, and with a 4% GDP growth 
rate this year, the gap is growing. At more than C$45,000, 
Alberta's per capita GDP is 140% of the national average. 
 
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The Enviable Task of Spending Alberta's Surplus 
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6. Forecasts of Alberta's 2005 surplus have risen steadily this 
year, as oil and natural gas prices passed US$50 in July, then 
hit a record high of US$70.85 in the aftermath of hurricane 
Katrina. The budgetary infusion this surge has created for 
Alberta's government has prompted many around the province to 
submit their own wish lists. Recent proposals have ranged from 
spending the money on environmental upgrades in the oilpatch to 
virtually eliminating corporate and income taxes. In an example 
of why the Liberal Party will likely never form a majority 
government in the conservative province, prominent Liberal 
legislator David Swann has suggested that Alberta spread the 
wealth: "Alberta needs to step up and share," said Swann. "The 
feds will do what they need to do in the interests of Canada - 
they don't need to apologize for that." More feasible Liberal 
measures include eliminating education and health fees. Alberta 
Premier Ralph Klein, a conservative Tory, has presented a fusion 
of several approaches to solve the "problem" of the C$6 billion 
surplus. 
 
7. Perhaps most prominent in the premier's new budget is the 
C$400 "giveaway" he has promised each Albertan, at an estimated 
cost of C$1.4 billion. While this distribution of oil money may 
seem familiar to observers of the Alaska Permanent Fund, 
provincial leaders have been careful to avoid structural 
similarities. Klein has emphasized that the surplus will not 
necessarily grow into the entitlement enjoyed by Alaskans, 
explaining that it is a "one-time investment because we have 
one-time riches". Surprisingly enough, Albertans have been split 
over the giveaway, with 48% saying the government should keep 
the money and use it to address provincial problems, such as 
rising tuition costs and expensive health care.  Dr. Roger 
Gibbins, President of the Calgary-based Canada West Foundation 
(CWF), has warned that the giveaway is short-sighted public 
policy: "We are talking about the responsible stewardship of 
public funds coming from non-renewable natural resources and in 
this context the prosperity dividend makes no sense".  CWF, a 
well-known think tank, recently published a report advising that 
half the surplus be placed in savings accounts and the other 
half be used for current government programs. The payout has 
also angered Alberta's municipal governments, with the mayor of 
Calgary recently publishing a pamphlet accusing Klein of 
"shortchanging city governments". Klein has also promised broad 
tax cuts targeted at the long-term growth potential of Alberta's 
more stable industries, such as high technology and finance. 
Business and taxpayer groups are petitioning the provincial 
government to eliminate the gas tax, but at C$.09/litre, Premier 
Klein argues that any further cuts would only anger neighboring 
provinces forced to charge much higher rates. One popular 
proposal supported by the Liberals and NDP would eliminate 
provincial health premiums, costing the treasury about C$900 
million. 
 
8. Any plan for using the surplus will include a substantial 
enlargement of the Alberta Heritage Fund, which acts as an 
investment service for government money. Past Heritage Fund 
projects have included the ongoing Foundation for Medical 
Research, as well as infrastructure upgrades and scholarship 
programs. Throughout its 29-year history, the fund has generated 
C$30 billion in investment income for the province. Much of the 
anger directed at Klein in recent weeks has come from groups 
frustrated by his "lack of long term vision," and tenuous 
support for the Heritage Fund. The Calgary Chamber of Commerce 
called such programs as the C$400 payout as "ill-conceived, 
short-sighted and compromising to Alberta's prosperity." Such 
feelings are common in Albertans who remember the disastrous 
National Energy Program of the early 1980s, when federal raids 
on resource revenue turned the last oil boom into a recession, 
and put up to 15% of Albertans out of work. It remains to be 
seen whether the premier will heed calls for a long-term 
commitment to the Heritage Fund. 
 
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Alberta Reacts to Eastern Canadian Calls to "Share the Wealth" 
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9. In the same month that Albertans are celebrating the latest 
oil boom with a spending spree, other provinces continue in a 
persistent economic slump. Even Ontario, traditionally one of 
the wealthiest provinces in Canada, recently published a study 
warning Ottawa that it is danger of becoming a "have not" 
province. A number of different provinces have called for a 
reevaluation of the equalization formula, which ensures 
standardization of services across Canada by redistributing 
funds from wealthy provinces (Alberta, Ontario) to the 
less-fortunate (everyone else). Currently, the formula averages 
the per capita income of the middle five provinces to determine 
appropriate levels of distribution. However, many in Quebec and 
Ontario are now petitioning Ottawa to include Alberta, by far 
the richest province, into this equation. If the Council of the 
Federation succumbs to this pressure, Alberta would become the 
sole "have" province, causing the equalization burden for 30 
million Canadians to fall on three million Albertans. 
 
10. Not surprisingly, this idea has not been popular with 
Albertans, who already send C$3,500 per capita more to Ottawa 
than they receive in services every year. Klein has repeatedly 
warned other provinces to "keep their hands off" Alberta's 
resource revenues, which the provincial government owns under 
the authority of the Canadian Constitution. The increasing 
antagonism between Alberta and eastern provinces has fueled 
isolationist attitudes in the already conservative province, 
with 41% of Albertans supporting independence talks. It is 
highly unlikely that a local separatist movement will ever reach 
the levels of popular support enjoyed by the Bloc Quibecois, but 
these numbers have alerted the central government to the ongoing 
alienation felt by the western provinces. As the Lethbridge, 
Alberta Citizen Society Research Lab member Dr. Faron Ellis has 
warned, "Canadians across the country should be aware that if 
these are the bedrock levels of frustration without a crisis, 
the next crisis (will have) westerners at least debating the 
concept." 
 
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Premier Klein Prepares for "Goodwill" Tour of Eastern Canada 
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11. Current antipathy towards Alberta has been growing 
throughout the 1990's, as neighboring provinces have watched a 
demographic shift as many of the youngest and brightest across 
the Confederation move to booming metropolises such as Calgary 
and Edmonton. This trend will likely continue, as high wages and 
severe labor shortages across Alberta draw in job seekers. To 
allay fears of this growing prosperity, Premier Klein will 
embark on a goodwill tour of eastern Canada later this year. The 
central theme of his trip will be to remind easterners that 
Alberta already does more than its part, contributing C$10 
billion every year to other provinces through equalization. 
Furthermore, a recent study by the Calgary-based Canadian Energy 
Research Institute (CERI) found that, with 41% of tax revenue 
generated by Alberta's energy industry, Ottawa was the biggest 
winner from high energy prices. The study also projected that 
over the next 15 years, more than six million person years of 
employment will be created by the booming oilsands; half of it 
will be in other provinces, especially in the manufacturing 
sector of Ontario's economy. Unfortunately for Edmonton, these 
reminders may not be enough to assuage jealousy in eastern 
cities struggling with record budget shortfalls. 
 
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Alberta Has a Friend in Imperial Oil CEO 
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12. This antipathy was touched on by Imperial Oil's Chief 
Executive Officer Tim Hearn in a speech to the Calgary Chamber 
of Commerce on October 6.   Hearn, who moved Imperial's head 
office from Toronto to Calgary this summer, predicts that 
Alberta's current energy-driven prosperity is more than just an 
oil boom. With global consumption of all forms of energy 
forecasted to rise by 50% over the next quarter century, it is 
likely that current high oil prices represent not a spike, but a 
new price plateau. According to Hearn, Alberta's 1.7 trillion 
barrels of bitumen represent the last large, undeveloped, 
non-renewable energy resource in G-7 nations. As developing 
nations strive to break age-old cycles of poverty, the 
inevitable increase in energy demand will provide lasting 
prosperity to Alberta, and to all Canadians. 
 
13. Echoing many of the sentiments Premier Klein has voiced in 
recent months, Hearn pointed to the Calgary-based Canadian 
Energy Research Institute (CERI) study to argue that 
unrestrained prosperity in Alberta is good for the entire 
Confederation. CERI estimates put the amount of economic 
spin-off from the oilsands development at C$1 trillion between 
2000-2020, with a large portion occurring outside Alberta. For 
every two jobs created in Alberta, there is an additional job 
elsewhere in Canada. Additionally, Hearn reminded Canadians that 
oil prices are highly cyclical, and today's "boom" could easily 
be tomorrow's recession, as Albertans, Imperial Oil employees in 
particular, know so well. 
 
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A Tax Grab by Ottawa on the Way? 
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14. While the Canadian Constitution states that Alberta's 
resources are the property of the provincial government, a 
number of methods through which the federal government could 
increase its take have been proposed. Prominent among them is an 
increase in the carbon tax, which already costs Canadian 
companies an estimated C$9 billion dollars a year, the bulk of 
it from Alberta. This would also be a popular move with 
environmental lobbying groups, which have been angered by 
Alberta's rejection of the Kyoto Protocol. A more questionable 
move legally, nationalization of the oil industry is favored by 
almost half of Canadians. However, it is highly unlikely that 
this radical buyout and the resultant "made-in-Canada" pricing 
will take place, as it would virtually bankrupt Ottawa. 
Furthermore, current exploration and development efforts cannot 
be sustained without massive infusions of private monies. 
 
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Comment 
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15. Fluctuating resource prices make projections of Alberta's 
economic future difficult. However, continued development of the 
oilsands makes it certain that the province will increasingly 
play an important role in the North American energy market. 
Ottawa is beginning to see the exports of its richest province 
as a bargaining tool, with 61% of Canadians favoring limits on 
oil exports to punish the United States for perceived 
infractions of NAFTA statutes in the ongoing softwood lumber 
dispute. While Canadian Ambassador to the United States Frank 
McKenna rules out closing down Alberta pipelines, he advises 
that booming oil exports could be an "important card" in future 
trade disputes. A healthy Alberta energy industry continues to 
be vital to the well being of the American economy, as oil and 
gas prices continue their seemingly unstoppable rise to new 
heights. 
 
16. This cable was drafted by our fall intern David Dill. 
 
 
 
AHMED