Bank of Canada’s Benchmark Interest Rate Remains at 1.25%

Jane Switzer
by Jane Switzer May 30, 2018 / No Comments

Reiterating its “gradual” approach to raising interest rates, the Bank of Canada announced Wednesday morning it’s keeping its target overnight lending rate at 1.25%.

“Global economic activity remains broadly on track with the bank’s April forecast. Recent data point to  some upside to the outlook for the U.S. economy,” the central bank said in a release. “At the same time, ongoing uncertainty about trade policies is dampening global business investment.”

Expectations of a hike were slim, with 21 out of 24 economists surveyed by Bloomberg predicting the bank would pause. The central bank’s benchmark interest rate has remained at 1.25% since Jan. 17, following two hikes in 2017 after years of ultra-low rates. It’s now predicted the bank will raise rates two more times before the end of the year.

The bank reported stronger than expected first-quarter data. Increases in gasoline prices pushed inflation close to the bank’s 2% target, while core measures of inflation point to an economy “operating close to potential.” Housing resale activity was soft as the market adjusts to new mortgage rules and higher interest rates, but “solid labour income growth supports the expectation that housing activity will pick up and consumption will continue to contribute importantly to growth in 2018.”

Higher interest rates will be warranted over time, but it’s all about pace. Even with a strong and inflation on target, Bank of Canada governor Stephen Poloz said in a recent speech that raising rates too quickly risks “choking off growth,” falling short on inflation, and triggering “financial stability risk we are trying to avoid.” On the other hand, moving too slowly could increase vulnerabilities as household debt accumulates.

The bank also has to contend with global trade risks and uncertainties, including the relentless soap opera that is the North American Free Trade Agreement (NAFTA) renegotiations.

Even without a rate hike making mortgages more expensive, it’s already harder to qualify for one in the first place. Each of Canada’s Big Six banks raised their benchmark interest rates on fixed-rate mortgages in May, prompting the Bank of Canada to raise its mortgage qualifying rate from 5.14% to 5.34%. The qualifying rate is part of a mortgage stress test to rule on eligibility: If prospective homebuyers have a down payment of less than 20%, they have to prove they can afford a higher interest rate than the one actually offered to them by their mortgage lender — basically, sanctioned wiggle room.

Poloz said in his speech that he expects household debt levels to persist, making the economy more “sensitive” than ever before to interest rate increases. Mortgages account for three-quarters of the $2 trillion in household debt Canadians owe, and half of all mortgages in Canada are up for renewal in 2018.

“High debt levels can make us vulnerable to negative events — individuals as well the entire economy.”

The Bank of Canada’s next interest rate announcement is scheduled for July 11, and will include a more detailed economic outlook in its latest Monetary Policy Report.

Source: Bank of Canada