While many details are still to be revealed, Canada’s newfound commitment to sharply ramp up defence spending may have significant implications for government finances and bond issuance, according to a new report from National Bank Financial Inc. (NBF).
Earlier this year, Canada promised to increase defence spending to 2% of GDP — now, following the latest NATO summit, it’s expanding that commitment to 5%.
“More details will emerge, but it looks like this will entail spending 3.5% of GDP on ‘core’ defence categories with another 1.5% of GDP for ‘defence-adjacent’ items (e.g., infrastructure, cybersecurity investments),” NBF noted.
It’s also unclear when the 5% target must be reached or how Canada — and the other NATO members — intend to pay for the increased spending.
Against that backdrop, NBF said it’s likely these new spending commitments will require more than US$1 trillion of issuance in global debt markets.
For Canada, “fiscal pressures are mounting quickly,” NBF said.
While some of the “defence-adjacent” spending is already accounted for, the direct defence spending “still leaves a big hole to fill,” the report said.
“Ultimately, the pace at which Ottawa moves to 3.5% will dictate the dollars deployed,” it said — adding that a gradual ramp-up from 2% to 3.5% “could mean an additional $60 billion over five years.”
Unless there are higher taxes or spending cuts to finance the added defence expenditure, the government will need to issue more debt — adding, “… more bond supply in Canada (concurrent with a global fiscal expansion) means a higher floor on longer-term yields and potential credit rating pressure.”