Quick Takes:
- On Friday, May 16th, the U.S. lost its final AAA debt rating.
- Canada’s AAA looks secure; net debt is 14% of GDP versus about 102% in the United States, interest costs absorb 9% of revenue compared with roughly double that south of the border, and Ottawa’s large pension assets keep every agency metric comfortably in AAA territory.
- A 2% reallocation of global reserve flows from Treasuries into five-year Government of Canada (GoC) bonds could compress the yield by 5–10 bp, a shift that would in turn nudge five-year fixed mortgage rates lower.
On Friday, May 16th, Moody’s cut the U.S. sovereign rating to Aa1, ending a century-long run at the top tier. Two weeks earlier, S&P reaffirmed Canada’s AAA rating. Since the downgrade, five-year GoC and U.S. Treasury yields have climbed roughly 10–15 bp as investors digest heavier issuance calendars and widening fiscal deficits on both sides of the border. The single-notch gap redirects many AAA-mandated investors, including central bank reserve managers, insurers, and defined benefit pension plans, toward GoC bonds. Because 5-year fixed mortgages are priced off the GoC 5-year yield, any additional demand for those bonds lowers funding costs and, at the margin, reduces mortgage rates for borrowers.
How bond ratings feed straight into mortgage quotes
5-year fixed mortgages are funded from the 5-year GoC bonds. Banks add a predictable margin to that yield for credit risk and profit margin, then post the retail rate. Many global reserve managers, insurers, and pension funds must hold only the safest paper—they begin with the shrinking “AAA club.” That list now numbers just eleven sovereigns—Germany, Switzerland, the Netherlands, Canada, Australia, Singapore, Norway, Sweden, Denmark, Luxembourg, and Liechtenstein—after the United States lost its top rating. If even a few of those mandates shift out of downgraded U.S. Treasuries into GoC bonds, the extra buying pressure lifts prices and trims the benchmark yield.
Why does net debt spare Canada but sink the United States?
Canada’s gross general-government debt is a hefty 107% of GDP, yet after deducting the liquid assets held by the Canada and Québec Pension Plans and by other public funds, the net burden is only about 13%. Rating analysts—especially at Standard & Poor’s—anchor their fiscal score on that net figure, which explains why Ottawa still sits at AAA while Washington does not.
The contrast with the United States is striking. U.S. net debt already exceeds 100% of GDP, interest outlays are heading toward 23% of federal revenue by the mid-2030s, and repeated debt-ceiling brinkmanship has shown that Congress cannot agree on a consolidation path. Moody’s cited those very points—persistent primary deficits, a climbing interest bill, and political gridlock—when it cut the United States to Aa1 last week and projected the debt ratio to reach about 134% by 2035.
Other AAA sovereigns show why the net position is decisive. Norway’s sovereign wealth fund has just passed twenty trillion kroner, almost four times Norwegian GDP, which makes the public sector a net creditor even though its gross debt ratio is 55%. Singapore issues bonds equal to roughly 170% of GDP, but every dollar is matched by assets in the Central Provident Fund and two reserve funds, so the government has no net debt at all. Australia’s Treasury projects gross debt of about 36% of GDP and net debt a little above 30%, levels the agencies still view as easily serviceable.
Because investors understand these cushions, they treat the bonds of AAA sovereigns as close substitutes. As long as Ottawa keeps its net ratio in the mid-teens, Canada remains in that scarce safe-asset pool. Any capital that moves out of newly downgraded Treasuries has another AAA home and can be absorbed by Government of Canada auctions, nudging the 5-year yield lower. Banks fund fixed-rate mortgages off that benchmark, so cheaper wholesale funding feeds through—admittedly in small numbers of basis points—into household mortgage rates. If future budgets allow Canada’s net debt or interest-to-revenue metrics to drift upward, the rating advantage will erode, the capital flow can flip, and the mortgage curve would feel the pressure in the opposite direction.
Will capital shift from Treasuries to Government of Canada bonds and trim mortgage rates?
After Standard & Poor’s downgraded the United States in 2011, investors moved into Treasuries anyway and the 10-year yield fell about 50 bp in a few weeks. Liquidity sometimes outweighs ratings. The backdrop in 2025 is different. The United States no longer holds a triple-A rating from any of the three major agencies, and its fiscal outlook is weaker. Reserve managers that must hold liquid triple-A assets now have a short list that includes Germany, the Netherlands, Australia, Denmark, and Canada. Scarcity could push part of that demand into Ottawa’s auctions, narrowing Government of Canada yields relative to Treasuries.
Bank of Canada research on its pandemic bond-buying program shows that a demand shock equal to 10–15% of outstanding GoC bonds lowered the five-year yield by roughly 50 bp at the peak. The flow connected to a one-notch U.S. downgrade is smaller, so market strategists expect a 5–10 bp decline in the GoC 5-year yield versus the equivalent Treasury.
Bottom line for borrowers
For now, Ottawa’s AAA status is holding, and that gives Canada at least a chance to capture some capital leaking out of newly downgraded Treasuries—nudging GoC bond yields, and therefore 5-year fixed mortgage rates, a touch lower than they would otherwise be. The real risk to watch is still domestic: should deficits, provincial borrowing or interest costs climb enough to crack the fiscal “anchor,” any rating cut would reverse the advantage in a hurry.