Diplomacy, “Saying nice doggie, until you can reach a bigger rock.”
Last minute negotiations to curtail the most recent economic tariff assail by the United Stated on Canada have failed. Prime Minister Carney “walks away” from a bad deal. 50% tariffs on US$20bln of varied goods are now in “engaged”. Tariffs have woven their way into the economic construct of the United States and it appears Canada must adapt to the new paradigm.
Much will be written on this in the coming days and weeks.
The ties to US Treasury Secretary’s Scott Bessent’s latest “assistance” to the Bank of Japan (BoJ) will be covered in this article, as will the global bond market writ large. The global bond market stands at US$350 trillion, dwarfing the global equity market of $158 trillion by 2.2X!
The global bond markets are decidedly “grumpy”. Yields are at 20 years highs in most G10 markets. In the C-19 “funk” a full 25% of the sovereign global debt markets were trading at a negative nominal yield!;
In Japan 4 is a very unlucky number. Phonetically “shi” sounds the same as death, even though it has its’ own kanji. Superstitious buildings do not skip the 13th floor, they skip 4!
USA’s national debt has eclipsed US$40 trillion for the 1st time ever. With USA GDP at US$32 trillion that is 1.25X USA GDP. The “4 handle” curse does not end there! This deficit is being financed with 4%+ interest (4*4=16) that is $1.6tln in annual interest payments!! That is 28.6% of current US government revenue (US$5.7tln annual “spot” receipts).
To put this in context USA’s debt service in the prior year was roughly equivalent to defence spending at $900bln per annum.
What can Carney feasibly do, to taser tRump’s aggression as he finishes his 2nd and final term as USA’s president (POTUS)?
Who is your daddy?
Japan’s debt/GDP is over 2X GDP but they “own” / finance the bulk of it. Less than 7% of JGB’s are owned by foreigners versus 30% + for the USA (peak was > 50%). .
Canada is a special case. Low federal debt as a % of GDP (implied fiscal “capacity),but inclusive of provincial debt a 1.05X debt to GDP metric versus 1.25X as noted for the USA. Not as much “capacity” as implied by the the pure federal #!.
1.) Recommendation - Reduce Canada’s holding in US Treasuries in favour of UK “Gilts”.
A “shot across the bow” of the USS Minnow, showing that the USA’s undue reliance on foreign buyers for their wares (e.g. US Treasuries) can not be assured when the “deals” struck by their skallywag (Merriam-Webster definition; scamp, reprobate) leader can be struck down in a New York minute.
Why? The current policy floor for US securities is 50% and the current aloocation is 67.4%.
How? Sell US$9.7bln in US Treasuries (various maturities), taking the USA allocation to 57.4% from 67.4%.
In favour of; UK “Gilts” taking the UK allocation to 18.9% from 8.9%. Note: Canada is a commonwealth nation. King Charles is also Canada’s king. There is a yield “pick-up” to move (increase allocation) to the UK government bond market.
EU allocation of 16.8% to remain unchanged and Japan at 6.9% also unchanged (for now).
This would NOT be a negotiation tactic with tRump. It would be advised, after the fact, as an asset allocation matter. While $10bln seems trivial in the context of a $40tln deficit, the message to tRump and his minions (Vance, Lutnick, Navarro, and Bessent) would be crystal clear. When you can not rely on your biggest trading partner to be the marginal buyer of your debt (e.g. a net seller in fact!), you have a BIG problem. Only through modified behaviour can global trust be re-established.
Fed Governor Kevin Warsh (newly minted) has a tough job! Hand picked by tRump to cut the Fed Funds rate from the current 3.50-3.75 (3.625% “mid”), he is likely more inclined (as implied by Fed Fund futues) to hike rates going forward, as the 2% inflation target of the Federal Reserve has been > the 2% inflation target for over 5 years!
US Treasury Secretary Scott Bessent has been a busy boy! The USA recently contributed US$110bln to assist the BoJ in “bolstering” the Japanese Yen (JPY) via a coordinated foreign exchange intervention. I lived in Japan for an extended period (1997-2000 and 2017-2021) and can attest to the difficult of understanding the “widow maker” trade of shorting Japanese government bonds (JGB’s) works. The JPY “carry trade” is a mysterious phenomenon in its’ own right, a US$20 trillion multi decade “arbitrage” whereby speculators of all guise borrow in Japanese Yen, invest in risk assets (off all ilk, mostly EUR and USD denominated) and “enjoy” the low (relative) interest rates in their funding currency (yen) and a relatively stable currency (although the worst G-10 performance over the last 5 years). The BoJ “invests” in > US$1 trillion of US Treasuries, hence Japan = USA’s “best friend”. IF the Japanese Yen were to fall precipitously, they would have little choice but to tweak the make up of the BoJ balance sheet which could include selling foreign assets (e.g. US Treasuries). This joint action was the 1st time in several decades that the US has engaged in joint fx intervention. Back in the day, Japan’s Sakakibara (aka Mr. Yen) was made famous by his sizeable forays in fx intervention (e.g. buying yen in the open market to singe the fingers of fx speculators).
Bessent-san also intervened in the US Treasury market last week via a “twist” operation. Almost 30% of funds raised by the US Treasury are t-bills (e.g. short dated). Bessent issued new bills to buy longer dated US Treasuries which successfully brought the yield down in the long end and flattened the curve. 2-10’s as you can see below now 105 basis points (5.28-4.23=1.05). From recent statements, Trump appears to think there is a military solution to the bond market turmoil? Lower yields may well prove elusive going forward.
2.) Re-instate a Canadian central bank gold reserve. Canada currently has zero ($0) in gold reserves, despite having some of the world’s largest gold miners. Many decades ago Canada chose to sell their gold reserve for reasons that made abundant sense (at the time for sub $500/oz.). Currently, with the EU “experiment” under renewed scrutiny the time is now to establish a substantive reserve, domiciled in Nova Scotia (Sydney, Cape Breton to be specific) as a hedge to London, New York and Fort Knox, USA. All Canada produced gold would be earmarked for said reserve with storage offered, as an option, to other “alt $” nations (namely Australia, New Zealand and South Africa).
In addition to the outsized central bank additions by China and others (notably Russia pre the Ukraine war), this Canada action would likely result in renewed “levity”, namely an upward trajectory for the price of gold. As a producer of size, Canada, over a decade + runway could amass a substantial war chest of gold to underpin our eventual involvement in a global currency unit, should the EU “experiment” fall flat as implied by Kalshi et al betting odds.
Note: Trump is approaching +3 to the USA average life expectancy, while Carney is still 22 years under Canada’s admirable 82 year average life expectancy. Carney’s approval rating is in the mid 60’s versus the mid 30’s for agent orange. For context the Liberal party approval rating is in the low 40’s.
There is much more to discuss, but this is a manageable bite!
Cheers! JCG
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