What the Bank of Canada’s Move Means for You

By Ryan Goldsman, CFP®, PAIP®

            This past week, the Bank of Canada (the BOC) increased overnight rates by 25 basis points to 4.5%. What this means for banking institutions is that if needed, they can borrow money from the federal government at the rate of 4.5%. In turn, when these same financial institutions lend money to their clients, a base rate is set across the board. To mirror the BOC, lending institutions set their own prime rates which is used as the base rate.

            For consumers with variable loans or lines of credit, when the BOC increases or decreases rates, then the change largely flows into their lender’s prime rate, ultimately impacting them – the end consumer.

            In many cases, variables rates offered to the consumer are based on the lender’s prime rate, plus or minus a percentage. For variable rate mortgages, the rate has traditionally been the prime rate minus a percentage. For unsecured loans and lines of credit, the rates are most often the prime rate plus a percentage.

            The most recent move by the BOC will be a challenge for many Canadians, but those who stand to benefit will largely have to wait.

            When considering the different phases of one’s financial life, Canadians typically carry more debt during their younger years while older Canadians are often the ones with more money saved. As a result, the increase in interest rates is clearly more meaningful for younger Canadians than the older ones.

            With variable rate mortgages being more popular than fixed-rate mortgages, the flow through occurs rather quickly. For the responsible savers however, the flow through often takes a little longer. In many cases, when savings are invested in fixed-rate investments, it’s often for a fixed term at a fixed rate of interest. In many cases, it can take up to five years for these instruments to come due, at which point the money can be spent or saved at the going rates at that time. Essentially savers don’t always get properly rewarded.

            Although many may interpret this as unfair, the reality is that borrowers and savers both have the option of fixed and variable rates, both when borrowing money and when saving it.

            For investors, higher interest rates will have a much higher impact on companies with a high level of debt (due to the higher interest costs), and will benefit companies who are lenders (also called deposit takers). This means that financial companies such as insurance companies and banks stand to benefit from higher rates.