While much of the current discussion around interest rates is focused on potential cuts in Canada and the US, it’s important not to overlook the longer end of the yield curve. Central banks can influence the short end, but further out, concerns around fiscal policy and inflation are built into the risk premium. Recently, longer-term yields have been trending higher across most major markets. This has been most notable in Japan and France, though we have not seen a buyer’s strike across most of the G-10.
Government debt positions are sustainable—until they aren’t. I recall working in the Premier’s Office in Saskatchewan when the national economy faced inflation and very high interest rates, while provincially, deflationary pressures were building as prices for major commodities fell. The province reached a point where only about 30 institutional investors were buying its debt—a precarious position, to say the least. While this isn’t an immediate concern for federal debt, I don’t expect the fiscal situation to improve in the near term.
A key metric to watch is the debt-to-GDP ratio. A ratio above 100 per cent can be sustainable as long as bond markets remain willing to buy the debt at low interest rates. Currently, Canada’s ratio sits around 107 per cent, the US at 123 per cent, and Japan at 242 per cent. The risk is that a shock could trigger a market panic, suddenly turning these ratios into a problem.
Economists are very good at identifying when conditions might shift from favorable to unfavorable, since much depends on market sentiment. Monitoring potential shocks—particularly how markets perceive the sustainability of federal debt and deficits—will be crucial.
When examining Canada’s federal fiscal position, there are several risks that could weigh on markets:
- US tariffs and trade uncertainty
- Increased borrowing costs due to a steeper yield curve
- Lack of transparency and weak fiscal anchors
- Potential for higher deficits
Each of these factors could increase pressure on the federal debt and, ultimately, the deficit. If there is a risk of higher long-term rates globally, it will be challenging for Canada to keep domestic rates lower, especially if the federal debt continues to grow.
Housing Affordability Watch
CMI monitors the latest developments and offers insights on solutions to Canada’s housing affordability crisis
Would Australia’s Home Guarantee Scheme Work in Canada?
As part of its broader approach to housing affordability, Australia helps first-time buyers enter the market faster through its Home Guarantee Scheme, with programs tailored to different types of buyers. Last week, we broke down the scheme’s key programs and potential market implications. This week, we examine whether a similar approach could work in Canada.
Read part two of our analysis in the latest Housing Affordability Watch: Australia’s Home Guarantee Scheme – Part 2: Would It Work in Canada?
Independent Opinion
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