Posted by: Don Bayer, CFP
The last time the Bank of Canada raised their key interest rate was in September 2010 – and since then we’ve seen the overnight lending rate decrease on two separate occasions. After almost seven years of interest rate declines, it appears that tomorrow the Bank of Canada will look at increasing their prime lending rate by 0.25%, bringing this key interest rate to a whopping 0.75% overall.
Why a rate hike now? Excellent question – I think the Government in Canada is just testing the waters – just as the U.S Federal Reserve Bank did last month. Ten years of “free” money at historically low interest rates has inflated Canadians most prized and talked about possession – our homes – and a rate increase is being used to let some more air out of the real estate market. The Canadian government hopes that their decision on interest rates, in combination with the changes in the rules of real estate, will have a gradual effect and provide a soft tightening of the housing market – as opposed to a hard crash.
The Bank of Canada says that our economy is operating within their inflation target, in and around the 2% mark, which I don’t believe. The basket of goods the government uses to measure inflation must be a basket of goods I never buy. At the end of the day, the two stats that cannot be denied are job growth and income growth for Canadians. Once our economy starts seeing consistent and steady job & income growth, the Bank of Canada will have no choice but to start to increase their key interest rate — potentially above what rates were back in September 2010. Until the time when the Canadian economy picks up steam, the Bank of Canada’s rate increases will ultimately be limited and tempered.
Two years ago, when the oil crisis hit the Canadian market, the overnight rate dropped from 1.00% to 0.50%. Although the overnight lending rate was effectively cut in half, Canada’s largest banks did not, in turn, decrease their prime rates by 0.50% – instead only decreasing the prime rates for Canadians by 0.30% and pocketing the difference as pure profit.
What else might push the Bank of Canada to move rates again? My answer is to watch the US market and see what they do – Canada likes to have a low dollar so we can compete and sell goods to the large American market. The U.S is tired of this practice, and upcoming trade talks may change this policy of uncompetitive dumping of the products we manufacture with a cheap dollar. How or when our neighbours to the south may act is anybody’s guess.
So when it’s all said and done, what will the Bank of Canada’s decision mean on July 12th? Well, the bottom line is that a .25% increase on a variable rate mortgage will cost a consumer $20.83 per month for every $100,000 of their mortgage. Not exactly enough to sound any alarms; however, it does signify that the tides may be changing over the next few years.
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