The massive debt Canada’s federal government and other governments around the world took on to face the fallout from the COVID-19 pandemic is the elephant in the room.
This debt could soon become intolerably hard to service, if interest rates revert to more historic levels or even escalate past those levels. Investors will demand higher compensation for developing or perceived imminent accelerating inflation.
Yet this doesn’t have to be a problem. A solution is readily to hand.
But as usual, high-finance officials and their political masters shy away from using this solution: borrow – and refinance current and maturing loans – using bonds with terms that go not just beyond the bogus benchmark of 10 years or even the earlier benchmark of 30 years, but much, much further out.
Although not well known, the federal government, some provincial governments and even some corporations borrow far out on the term spectrum. There are even federal government bonds trading now that don’t mature until 2064. In the past, some bonds had even longer maturity terms.
This would lock in interest rates. The government and taxpayers could be assured that this borrowing wouldn’t be subject to whipsawing gyrations or panics in the financial markets – wars, recessions, trade disputes, export or exchange controls, or even pandemics.
There would be a ready market for these very-long-term bonds – of 40, 50, 60 or more years – as pension funds and life insurance companies need to match lengthy liabilities and have few viable alternatives. They’re nervously compelled to consider highly illiquid investments such as infrastructure, real estate and venture capital.
A big, liquid supply of low-risk income securities in the long term would be welcomed by institutional investors, who would likely keep the whole market dynamic and liquid.
The cost is a little more than borrowing at shorter maturities but not, surprisingly, much more. Quotes on long Canadian bonds (maturing in 2064) with a coupon rate of 2.75 per cent give this bond a yield of 2.011 per cent. That’s not a typographical error. Ottawa can finance its horrendous pile of debt at just over two per cent.
Of course, it can’t refinance all at one maturity; interest rates would rise stratospherically.
Instead, a practical course for the government would be to gradually start issuing several billion dollars of debt maturing in different years, from 30 years out, all the way to 100 years out. At a few billion maturing annually, the load would equal potential demand.
There’s another aspect to these bonds that could be attractive to investors, traders and speculators.
Very long maturities, along with very low coupon interest rates, mean that the duration of these bonds would be very long, too. When there are even tiny changes in short- and medium-term interest rates, the change in the market value of these long-duration bonds can change dramatically, giving fast, huge profits or losses. Borrowing against these low-default-risk bonds can magnify returns even more.
There are many reasons why a campaign of financing and refinancing at very long term and today’s ultra-low interest rates would be a successful strategy for the government. It would relieve some of the debt anxiety and fear of looming tax increases or escalating inflation, and answer some unaddressed demands in the investment marketplace. This could be a win-win-win.
The federal government should embark on this strategy now. Reversion to more normal levels of interest rates may not happen immediately. However, it’s a risk this nation shouldn’t have to face when there’s a feasible and pragmatic strategy.
This could be the single most important financial decision made in this decade. Time is running out but when our debt refinanced in multiple decades of maturities, it won’t be a concern.
Ian Madsen is a senior policy analyst with the Frontier Centre for Public Policy.
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