Canada’s era of ultra-low interest rates is coming to an end. The Bank of Canada announced Wednesday morning it’s hiking its trendsetting overnight rate by a quarter of a percentage point to 0.75%, the first time the country’s central bank has raised its key rate in nearly seven years.
“Canada’s economy has been robust, fuelled by household spending,” the bank said in a press release. “As a result, a significant amount of economic slack has been absorbed.”
Economists widely predicted interest rates wouldn’t go up until 2018, but recalibrated after comments from both governor Stephen Poloz and senior deputy governor Carolyn Wilkins last month about “pretty impressive” first-quarter growth and encouraging economic recovery across different regions and industries. Finance minister Bill Morneau told Bloomberg earlier this week Canada’s economy “is really firing on all cylinders.”
In its release, the bank maintained its usual cautiously optimistic tone. Canada’s economy has adjusted to lower oil prices, the goods and services sector is expanding, and rising employment is bolstering household spending, but the bank said that growth will moderate over the projected horizon. Exports and business investment will add to GDP growth, and the bank predicts the output gap will close earlier than usual, near the end of 2017.
The bank acknowledged a temporary softness in inflation due to “food price competition, electricity rebates in Ontario, and changes in automobile pricing,” but expects it to return to its 2% target around mid-2018.
So, what does the rate hike mean for consumers? Basically, borrowing money is going to get more expensive. There’s no immediate effect on fixed-rate mortgages, but if you’re a homeowner with a variable rate mortgage, expect your monthly payments to go up. The Bank of Canada’s overnight interest rate directly affects the banks’ prime rate, which in turn dictates whether rates on variable mortgage (as well as savings accounts, lines of credit, and other loans) rise or fall.
James Laird, co-founder of Ratehub.ca and president of CanWise Financial, says the average homeowner should be able to absorb the increase.
“For someone who purchased a home priced at $750,000 this June with a variable rate, they would see their monthly payments go up about $100 with a 0.25% increase.”
A full percentage point increase over the next year could mean some variable rate holders pay about $250 more per month. For some, that increase is unmanageable: According to a recent Manulife survey, 72% of homeowners would have difficulty paying their mortgages if their monthly payments increased by as little as 10%. Fourteen per cent of respondents said they couldn’t handle any increase in their monthly payments.
“The rate hike will be most challenging for those who have over-extended themselves and taken on too much debt,” Laird says. “People should consider their ability to take on added costs and always prepare accordingly.”
Canada’s rate hike comes on the heels of the U.S. Federal Reserve’s June 14 decision to raise its benchmark rate for the third time in six months, to a target range between 1% and 1.25%.
The Bank of Canada’s next interest rate announcement is scheduled for Sept. 6. This doesn’t mean the door is closed on interest rate cuts forever — the bank said “continued uncertainty and financial system vulnerabilities” could lead to future adjustments.
Source: Bank of Canada