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Bank of Canada hikes target interest rate to 5% in July announcement

The Bank of Canada has hiked its trend-setting interest rate once again, bringing the benchmark Overnight Lending Rate up by 0.25% to a full 5%. It’s the 10th increase since March 2022, and caps off what has been the steepest upward trajectory for rates in decades.

As a result, the Prime rate in Canada will rise from 6.95% to 7.2%, its highest since March 2001. Variable mortgage rates will soon follow suit, as lenders pass those higher costs down to consumers. 

“The bank increased by a quarter point. They pointed to excess demand and persistent core inflation and stronger economic growth as to why this rate hike was necessary,” says James Laird, Co-CEO of and President of CanWise mortgage lender. 

“The Bank did not attempt to predict whether more rate hikes will be necessary, but they reaffirmed their resolve to achieving the 2% inflation target. Rate policy going forward will be based on new data they receive.”

A highly-anticipated hike from the central bank

Today’s rate hike was widely expected by analysts, following a slew of stronger-than-expected economic data in recent weeks. While the pace of inflation growth appears to be slowing – coming in at 3.4% in May – fears remain that core CPI is becoming entrenched above the BoC’s 2% target. However, certainty of a hike was sealed by sizzling June labour numbers, as 600,000 jobs were added to the economy – the largest monthly increase since January and triple what was expected. 

“The strong jobs print virtually assures another 25bp hike at the Bank’s next meeting later this month and keeps the door open for more increases going forward,” wrote Desjardins Principal Economist Marc Desormeaux in an economic update following the numbers last week. “For the time being, the central bank should see the vitality of the labour market and resilience of the overall economy as warranting another rate hike.”

The key question now is whether the Bank will now wrap up its hiking cycle, or if more increases will be warranted. The central bank briefly assumed a rate hold position in January, citing progress in its inflation battle, but a surprise inflation reading of 4.4% forced another 0.25% hike in June. The Bank has been battling to bring CPI back down to its 2% target following the end of pandemic lockdowns, but economic growth has been stickier than anticipated.

The Bank addressed this concern head on in today’s announcement, indicating that additional rate hikes remain on the table should core inflation remain stubbornly high, though they’ll take a strictly data-dependent approach to their next decision.

“Governing Council will continue to assess the dynamics of core inflation and the outlook for CPI inflation. In particular, we will be evaluating whether the evolution of excess demand, inflation expectations, wage growth and corporate pricing behaviour are consistent with achieving the 2% inflation target. The Bank remains resolute in its commitment to restoring price stability for Canadians,” reads the announcement.

The Bank’s new CPI projection is to hit 3% in 2023 before gradually declining to 2% by mid-2025. This is overall a “slower return to target” than previously forecast, states the Bank, adding, “Governing Council remains concerned that progress towards the 2% target could stall, jeopardizing the return to price stability.”

While acknowledging that inflation has slowed by a “substantial and welcome drop” from its 8.1% peak last June, it expresses concern that the bulk of that decrease has come from lower energy prices, and less from the underlying metric. As well, given the large price increases of last year are now out of the year-over-year picture, the overall pace of CPI decline is expected to slow. 

“...with three-month rates of core inflation running around 3½-4% since last September, underlying price pressures appear to be more persistent than anticipated,” writes the Bank. “This is reinforced by the Bank’s business surveys, which find businesses are still increasing their prices more frequently than normal.”

As higher interest rates continue to work their way through the economy, the Bank expects economic growth to slow, averaging around 1% through the second half of this year and the first half of next year. This implies real GDP growth of 1.8% in 2023 and 1.2% in 2024. The economy will move into modest excess supply early next year before growth picks up to 2.4% in 2025.

What does this mean for mortgage borrowers?

Today’s rate hike means variable mortgage rates will be on the rise again, adding to borrowing costs that have already breached a 22-year high; according to Statistics Canada, borrowers are paying 29.9% more in mortgage interest costs compared to a year ago, particularly as more renew into today’s higher interest rate environment. 

Variable-rate mortgage holders with adjustable payments will see the increase added to their costs immediately, while those on a fixed payment schedule will see less of their payment go toward their mortgage principal balance, and more covering interest costs. 

“Variable-rate holders and those with a balance on a HELOC will be disappointed to see their rate continue to rise,” says Laird. “Those who have a variable-rate mortgage without a fixed payment will see their payment increase immediately. Those who have a variable-rate mortgage with a fixed payment will see their amortization increase unless they choose to increase their payment or are forced to increase their payment because they have hit their trigger point.” 

Hitting a trigger rate means a borrower’s payment no longer covers their principal, while reaching a trigger point indicates the borrower now owes more on their mortgage than what their home is worth. In these scenarios, borrowers will need to either increase the size of their monthly payments, make a large lump sum payment to reduce the size of their mortgage, or temporarily extend their amortization period to provide payment relief. The latter tactic has become increasingly common in recent months, with recent regulatory filings from the big banks revealing mortgages extending 30 years now make up 25 - 30% of their overall mortgage books.

Read: How much interest would you pay on a 90-year mortgage?

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Fixed-rate mortgage borrowers won’t be directly impacted by today’s rate announcement, as lenders base their fixed product prices on the bond market, rather than the central bank’s direction. However, costs have soared for this borrower group as yields have spiked alongside the BoC’s hiking cycle, meaning those coming up for renewal will likely have to do so at rates much higher than their original contract. 

“Anyone who currently has a fixed-rate mortgage should budget for current market rates at their next renewal date. Households should plan ahead to determine where the money is going to come from to make higher mortgage payments,” says Laird.

“If your mortgage is up for renewal within the next year, it’s a good idea to hold a rate with a new lender now. If rates jump up further in the future, it should make sense to break your existing mortgage and switch to that new lender before your rate hold expires to lock-in the lower rate.” 

Recent research from the Bank of Canada finds that fixed-mortgage borrowers renewing within the next three years will see an average 25% increase in their mortgage costs. Today’s increase will further stoke volatility in the bond market and the probability that fixed rates will rise further.

How much will my mortgage payment increase?

According to's mortgage payment calculator, a homeowner who put a 10% down payment on a $729,044* home with a 5-year variable rate of 5.80% amortized over 25 years (total mortgage amount of: $676,439) has a monthly mortgage payment of $4,248.

With today’s 25-basis point rate increase, the homeowner’s variable mortgage rate will increase to 6.05% and their monthly payment will increase to $4,348.

This means that the homeowner will pay $100 more per month or $1,200 per year on their mortgage payments.

Factoring in all 10 of the Bank of Canada’s increases, the total impact on such a borrower would be $1,715 more per month or $20,580 per year on their mortgage payments (a 66% increase).

Anyone who will struggle to make their mortgage payments now or at their next renewal should reach out to their lender to discuss options that are available to them before they fall behind on their mortgage payments,” adds Laird, “With the recent FCAC guidelines there are options available.” 

*May 2023 average home price in Canada was $729,044 (CREA)

How will today’s Bank of Canada announcement impact the housing market?

While the housing market has been enjoying a warm-weather uptick, buyers were deterred by last month’s rate hike, with the June numbers showing a -16.9% monthly decline in transactions in the GTA housing market.  

Today’s hike will likely dampen activity further, as would-be buyers take a pause to assess how ongoing rate volatility will impact their budgets, while sellers remain firmly on the sidelines, drastically limiting inventory.

“This hike will put downward pressure on home prices and cause transactions to slow over the summer,” says Laird.

The next Bank of Canada announcement is scheduled for September 6, 2023.

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