(Bloomberg) -- Prime Minister Justin Trudeau’s government should consider reintroducing auctions of inflation-linked bonds in Canada, which were canceled nearly two years ago, according to a policy research group.
The country’s Department of Finance opted to end issuance of real return bonds in November 2022, citing weak demand and an illiquid market for the debt. In a paper released this week by the C.D. Howe Institute, Bill Robson and Alexandre Laurin argue that the limited uptake was not due to a lack of investor appetite, but that the government’s suboptimal offerings were a primary reason the bonds weren’t more popular.
“The federal government should resume issuing RRBs — in greater amounts and with more diversity of terms than before,” they said.
Real return bonds were initially launched in Canada in 1991, and offer an compensation component that rises if the yearly change in the consumer price index rises — effectively hedging the holder against spikes in inflation. There’s just $48.6 billion (US$36 billion) outstanding, according to data compiled by Bloomberg.
Of 13 institutional investors polled by the group with a median $200 billion of assets under management — including pension funds, public investment managers, a large insurer and three asset management firms — none supported the Trudeau government’s decision to end the issuance of the bonds.
Twelve of the 13 respondents said they were very likely or likely to buy real return bonds if the federal government reintroduced auctions of the debt.
Canada’s debt levels have nearly doubled since the pandemic, and the authors argue that the potential pace of issuance of real return bonds could be changed to prevent failed auctions, especially amid the broader increase in other debt that’s being issued.
“It can vary the pace of issue, depending on feedback from buyers and dealers, experiment with multiple-price auctions similar to those used for nominal bonds, and launch new RRBs through syndication to test demand,” the authors said in the report.
They said resuming and expanding the program would also “strengthen the credibility of the government’s commitment to maintaining 2% inflation,” by reducing the “fiscal advantages” accrued to policymakers from rising prices, namely the ability to devalue debt.
The government’s decision to stop issuing real return bonds in 2022 also “led to suspicions that it anticipated consistently higher inflation in the future,” the authors said. In June of that year, the yearly change in Canada’s consumer price index spiked to 8.1%, a nearly four-decade high.
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