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Pre-budget PBO report finds public debt higher than expected amid higher interest rates


The PBO projects the Bank of Canada will increase its rate to 1% by the end of 2022, and it will then gradually increase until it reaches the ‘neutral rate’ of 2.25% in early 2024

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Parliamentary Budget Officer Yves Giroux predicts that public debt charges will have more than doubled in 2025-2026 from their levels at the start of the pandemic “due to record debt accumulation and higher interest rates,” according to his pre-budget report.

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The cost of financing the federal debt was $20.4 billion in 2020-2021, but the PBO predicts that this number will jump to $43.5 billion in 2025-2026 and $46 billion in 2026-2027.

“It’s very concerning,” said Robert Asselin, senior vice-president of policy at the Business Council of Canada. “As interest rates rise, the cost of debt will rise. One can argue on what’s the right number and how fast these rates will rise, but they will rise over time.”

The Bank of Canada is expected to make an announcement on Wednesday on an interest-rate increase, which will most likely reflect on the federal government’s finances.

Since the beginning of the pandemic, interest rates have been low, at 0.25%. In its latest report, the PBO projects that the Bank of Canada will increase its rate to one percent by the end of 2022, and that it will then gradually increase until it reaches the “neutral rate” of 2.25% in early 2024.

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The PBO’s debt charges estimates are higher than the federal government’s projections from December 2021. Federal debt was then forecasted at $38.6 billion in 2025-2026 and $40.9 billion in 2026-2027, also with the expectation that interest rates would rise.

In its economic update, the government stressed that debt levels would remain historically low as a proportion of the GDP despite “extraordinary spending due to the pandemic”.

“I mean, people can argue that interest rates historically will still remain low,” said Asselin. “Even if interest rates rise by one percent, people will say: ‘Well, it’s still relatively low compared to historical levels.’ Yes, that’s true, but it’s one percent higher than it was, so it’s more expensive.”

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But the PBO calculated that interest rates would go up more rapidly than estimated by the federal government in its projections from less than three months ago, thus resulting in billions more to pay back the debt, explained an official on a non-for-attribution basis.

Giroux’s office also provided what could be considered relatively hopeful news for the economy, if it wasn’t for the fact that Russia invaded Ukraine a few days ago.

Canada’s economy experienced a “weak start” in the beginning of 2022 because of the Omicron variant, but the PBO projected growth in the Canadian economy to “rebound sharply” in the second quarter and to remain robust in the second half of the year as the economy reopens.

The GDP growth is projected to be driven in 2022 and 2023 by consumer spending and exports, whereas residential investment and government spending act as a “moderate drag on growth” according to the report from Giroux’s office.

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The deficits forecasted by the PBO are also slightly more optimistic than in the short and medium term, with $139.8 billion expected in 2021-2022 and $47.9 billion in 2022-2023. The economic update expected deficits to be $144.5 billion and $58.4 billion, respectively.

But these projections could get thrown out the window with the economic unrest happening in Europe. Deputy Prime Minister and Finance Minister Chrystia Freeland told reporters on Tuesday that “there could be some collateral damage in Canada” due to the war.

Freeland said she spoke about this with her G7 counterparts that same morning.

“We spoke candidly with one another and we said in order to be really effective, in order to really have an impact, we are going to have to be prepared for there to be some adverse consequences for our own economies,” she said in a press conference.

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She believes Canadians understand that they need to be prepared “to do things that are costly to avoid something which would be much more damaging to Canada, which is a successful occupation by Vladimir Putin of Ukraine with all of the consequences that that would have.”

PBO also recognized that immediate projections did not stand, as it was based on data and information collected as of February 18 – prior to the Russian invasion.

“Given the heightened uncertainty and emerging risks to the Canadian and global outlook, our projection is better viewed in a medium-term context and less emphasis should be placed on near-term outcomes,” said an official in a written statement.

Freeland has not announced a date for the federal budget.

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