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Tapped out consumers and an extended period of low interest rates mean the Canadian economy can no longer rely on monetary policy, like interest rate cuts, if growth falters, economists at CIBC said in a report on Monday.
Instead, they say federal and provincial governments should take advantage of record low borrowing rates and move ahead with stimulus programs should the Canadian economy stumble.
“Trying to squeeze more growth out of housing and debt-financed consumer spending might not be the best option given longer term risks associated with excesses on both those fronts,” says Avery Shenfeld, chief economist at CIBC. “But if the global picture sours further, borrowing more, particularly at the federal level, and spending more on infrastructure projects, might also represent a way to reduce future deficits and improve growth in the process.”
Just how low are those rates? Shenfeld says the interest rate for 30-year bonds is now below the economy’s long-term real growth rate, meaning the costs of financing the additional debt going forward will continue to shrink as a share of GDP.
“Infrastructure spending that adds to the economy’s productive capacity will raise tax revenues that will offset the added financing costs,” he says.
In the case of toll roads or other public-private partnerships the outlook is even better, as those projects contribute to economic growth, as well as create a revenue stream for governments.
“The dive in interest rates makes those projects look ever more attractive, and getting moving would be even more compelling if slack opens up in the economy,” he adds.
In the past two years both federal and provincial governments have already moved to take advantage of low borrowing costs. Rolling mature debt over into lower newer bonds with smaller coupons has saved governments as much as $80 billion since 2007-08, Shenfeld says.
“Absent those interest savings, Canadian governments would either be much more deeply in the red and presiding over falling provincial credit ratings or would be swallowing even more painful adjustments to taxes and spending to achieve fiscal targets,” he adds. “And today, public debt charges consume less than 8 percent of provincial revenue, only half the interest burden carried in 2000.”
The Bank of Canada recently left its benchmark interest rate at one percent for a record 15th consecutive time, while cutting its GDP forecast for 2012 and 2013, citing a weakening global economy.
But the central bank didn’t full backtrack from bullish comments made earlier in the year, signaling to investors that its next move will likely be higher -- even though overnight index swaps, a gauge for interest rates, were showing that some investors are betting on a cut.