Blogs & Comment

No debt deal could hurt Canada

A failure to raise the U.S. debt ceiling won't just hurt the U.S.—it could damage Canadian markets too.

US President Barack Obama speaks with US Speaker of the House John Boehner during a meeting in the Cabinet Room at the White House in Washington, DC, on July 23, 2011. ( JEWEL SAMAD/AFP/Getty Images)

Understandably, the American debt crisis has taken over the U.S. airwaves. But talks of debt ceilings, U.S. credit downgrades and massive spending cuts isn’t just America’s problem—if the debt ceiling isn’t raised by August 2, Canada’s markets could be in trouble too.

The governmental gridlock in the States is already affecting the S&P/TSX Composite index. The Canadian stock market has fallen for four straight days and it’s likely it’ll drop further the longer the U.S. goes without a deal.

Real problems could occur, though, if a deal isn’t reached by Tuesday. Last month Warren Jestin, Scotiabank’s chief economist, told the Association for Financial Professionals that a default could have a significant impact on Canada’s—and the world’s—economy.

“What would happen if they actually triggered the debt ceiling default? Well, then you have affected the benchmark for the world bond market,” he told the group. “Then, you have massive volatility. I think it would affect Canadian and U.S. yields instantly. It would certainly have repercussions in the European space. If you are looking for the trigger to a ‘double-dip,’ it doesn’t get much better than that.”

Jordan Eizenga, an economic policy analyst and author of blog, writes in a post on The Mark that historically, when U.S. interest rates spike, so do Canadian ones. That could put even more pressure on Canadian households that have accumulated high levels of debts, while loans and mortgages could increase in cost too.

Even worse, not raising the limit may cause a massive sell off of U.S. treasuries, which could lead, he says, to another financial crisis. “Consider what might happen to insurance companies, as well as mutual and pension funds, that together hold over a trillion dollars’ worth of Treasury bonds,” he writes. “If they are unable to sell their rapidly depreciating Treasury holdings, they may be unable to raise enough money to pay for insurance payouts or redemptions. It is hard to see how Canada’s financial institutions and economy could be spared in such a scenario.”

The Canadian dollar may also soar above its November 2007 record of $1.10. People often flock to other currencies when there are problems in the U.S., and because Canada is a relatively stable country, investors aren’t afraid to load up on loonies. The dollar is already trading at its highest level since November 2007. An even higher dollar could seriously damage our export market.

Most Canadian economists are still confident a deal will happen—a recent CIBC World Markets report noted that “a default is unlikely”—but it’s hard not to get more worried with each passing day and every market drop.