Canada’s Bond Market Has a Message for Washington

To: Government borrowing watchers

From: Peter MacKenzie and Mawakina Bafale 

Date: October 14, 2026 

Re: Canada's Bond Market Has a Message for Washington

Since Ottawa moved to match Washington's tariffs dollar for dollar last month, investors are since demanding roughly a full percentage point more of interest to lend to the US government for a decade than to Canada's. This is even though the American economy is larger, richer and more productive.

 

The United States is struggling to sell its debt at the yields it wants. The 10-year Treasury yield is now above 5 percent, and even the Treasury's move to double buybacks of long-dated bonds brought only brief relief before yields resumed climbing.

Canada, meanwhile, has seen strong demand for its government debt. In the second quarter, foreign investors acquired a record $80.8 billion of Canadian government bonds.  The 10-year Government of Canada bond yielded close to 4 percent, more than a full point below the equivalent US Treasury. So, what are investors seeing that lets Canada borrow so much more cheaply?

Before the latest trade tension, the Canadian economy was already in a tough spot. Real GDP grew at an annualized 0.8 percent in each of the first two quarters of 2026. Though unemployment had fallen for three consecutive months and measures of core inflation were close to 2 percent, both business investment and productivity have remained very weak despite rebounding in the second quarter of 2026. Canada’s economy did however draw strong foreign interest: Goods exports surged, and foreign direct investment reached $96.8 billion in 2025, its strongest showing since 2007.

Contrast that with the situation in the United States. Its economy remains larger, richer and more productive than Canada’s, yet GDP growth slowed into the second quarter. Inflation is running above 3 percent on both the headline and the Fed’s preferred measure. The administration’s repeated and sweeping changes in policy are now part of the calculation investors make before lending Washington money for a decade or longer.

Part of the gap reflects the Federal Reserve’s policy rate siting well above the Bank of Canada’s, and lower bond yields can sometimes signal weaker expected growth rather than greater confidence in a country’s ability to pay off its debt. But neither erases the record foreign demand for Canadian bonds or the strain in long-term US Treasuries.

Canada’s combined federal-provincial net debt stood at around 74 percent of GDP in 2025, while the US figure was around 97 percent, and growing fast. In Canada, the federal deficit this year is projected at $65.3 billion, or 1.9 percent of GDP. Washington is expected to run a US$1.9 trillion federal deficit this year, about 5.8 percent of GDP, with roughly US$1 trillion of this deficit merely servicing the existing debt.

Canada’s own federal deficit remains far too large, and its relative advantage should not become an excuse for permanent spending. Nevertheless, Canada has more room to absorb an economic shock without immediately placing its finances in crisis – unless Canadian yields increase at a rapid pace following the US lead.

This is why the US Treasury’s bond buyback announcement was striking. Rather than address its mounting debt – by cutting spending and/or raising taxes – the US government is buying time. The Treasury will double its repurchases of 10- to 30-year securities, possibly funded from its roughly US$940 billion cash account. The stated aim is to improve market liquidity, but the appeal of temporarily lowering long-term yields is obvious.

Other US policies are also making that job harder. The prolonged conflict with Iran keeps energy markets uncertain, while tariffs push up domestic prices. Washington wants lower inflation, lower long-term rates, extensive tariff protection and a foreign policy that never backs down. Bond investors must decide whether all of those can be pursued at once.

Canada should protect its current borrowing advantage over the United States. Cheaper financing gives Canada the ability to wait out a trade dispute rather than rush into concessions. But investor patience may soon run out, and if US yields keep climbing, some of the pressure will spill over into Canadian borrowing costs. Tariff relief should be temporary and targeted, and the federal government should set out a credible path to lower its debt ratios.

The United States is entering this renewed confrontation with higher inflation, a rising debt burden and a bond market demanding more to finance it. It may be true that with tariffs the United States can hurt Canada more than vice-versa, but it is becoming increasingly expensive for the US government to finance its operations and Canada should use this to its advantage.

Peter MacKenzie is a senior policy analyst at the C.D. Howe Institute, where Mawakina Bafale is a research officer. 

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