Provincial governments have found borrowing costs going up as investors are pushing in the premiums they need to carry their bonds considering growing budget deficits and deteriorating economic fundamentals within the oil provinces.
The spread between provincial bond yields and Government of Canada bond yields have widened to levels not seen since 2009 and it is not only the oil-dependent provinces that are experiencing higher borrowing costs.
Even British Columbia, a province that has a triple-A rating that’s likely to be among the strongest provincial economies this year, is seeing yields on its bonds rise.
“Canadian provincial bond yield spreads continue to widen out versus Government of Canada bonds, with the longer-term index pushing higher to 120 bps in recent days,” said Robert Kavcic, senior economist at BMO Capital Markets. “That’s now creeping on levels seen throughout the height of the financial crisis, when there was a wholesale (and large) flight from risk.”
Rising borrowing costs come at a time when more provincial government need to fund their budgets with debt. Eight from the 10 provinces are running deficits and 2015 was the very first time in Canadian history that total debt held by provincial governments exceeded the federal government’s debt.
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The ratings agencies have certainly taken note. Alberta lost its top-notch rating on its debt in December after Standard & Poor’s downgraded the province because it continues to reel from the oil price shock. Both Ontario and Manitoba also sustained debt downgrades earlier in 2015, using the former’s downgrade coming after many years of warnings about poor fiscal management within the province.
With budget surpluses still out of sight for many provinces, there might be more pain in provies to come.
“The longer-term progress in provincial yield spreads more broadly (see the trend because the mid-2000s) likely also reflects deteriorating fiscal fundamentals versus the federal government – the current wave of negative rating action highlights that time,” said Kavcic.