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Major credit-rating agency Standard & Poor’s reaffirmed Canada’s AAA rating, but warned that it could downgrade the country if the federal government doesn’t take actions to rein in its rapidly rising deficits.

In a release Wednesday, S&P also continued its stable outlook on the rating – the agency’s highest grade for sovereign debt. It said the vote of confidence “reflects our view that Canada’s high wealth, economic diversification, and ample fiscal and monetary buffers, will help the country weather the impact of COVID-19 measures on economic activity.”

“Canada’s public finances were well positioned entering the pandemic to enable a strong policy response to contain its negative impact without weakening sovereign creditworthiness,” S&P said.

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The rating confirmation follows a downgrade by another credit agency, Fitch Ratings, in late June, in light of the sharp increase in Canada’s federal deficit and debt. The government rolled out hundreds of billions of dollars in programs in the past few months, to combat the impact of the COVID-19 crisis.

Since the Fitch downgrade, markets have been watching to see if other rating agencies would follow suit, including the two big names in the industry, S&P and Moody’s. The S&P rating update follows the federal government’s fiscal update two weeks ago, which projected a deficit of $343-billion in the current fiscal year ending March 31, 2021 – 10 times the size of last year’s deficit. The massive spending will send the country’s federal debt above $1-trillion, and raise its debt-to-GDP ratio to nearly 50 per cent, from just over 30 per cent previously.

S&P said the government’s actions in response to the COVID crisis will help the Canadian economy to recover in 2021, which should reduce the deficit next year.

“We expect that the government will prudently taper its support measures as the economy recovers next year, thereby maintaining its strong financial profile despite a higher burden of net general government debt,” the agency said.

“However, we could lower the ratings over the next two years should the deterioration in the government’s fiscal position become more severe and prolonged than we currently anticipate, without positive signals of future corrective actions, and should this be accompanied by unexpected poor economic performance after this year’s sharp contraction,” it warned.

“Although we expect additional support measures will be implemented and the second stage of Canada’s GDP recovery will be more gradual, we believe that fiscal deficits will improve more significantly by 2022 and 2023,” it said.

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