For the second time in a row, the Bank of Canada has raised its overnight lending rate. The first rate hike was in July by 25 basis points and then again by the same amount in September. Currently, the overnight lending rate sits at 1 per cent and banks have reacted by raising the prime rate to 3.2 per cent.
If you’re a Canadian carrying a large amount of debt, the two rates hikes are concerning. Homeowners with a variable mortgage rate or money borrowed from their line of credit will have already seen their interest payments go up. Higher interest rates translate directly to a higher cost of borrowing.
It’s a legitimate concern for many Canadians.
Statistics Canada says debt levels hit a fresh record high in the second quarter of 2017 at 167.8 per cent. That means, on average, Canadians owe $1.68 for every dollar of household disposable income they earn. As if that’s not bad enough, a recent quarterly review by the Bank for International Settlements (BIS), a body made up of the world’s central banks, wrote that Canada’s debt levels put it at increased financial risk. In its review, it says, “Early warning indicators for stress in domestic banking systems … continue to signal vulnerabilities in some jurisdictions.”
Despite all these negative stories, there’s a positive side to higher interest rates. With forecasters expecting more rate hikes to come. Canadians should know all the benefits that higher rates can bring.
More rewards for savers
The clearest benefit is savers getting a better return on fixed investments. When interest rates go up, so do the returns on products like Guaranteed Investment Certificates (GIC) and high-interest savings accounts. This is a great incentive for even the most conservative saver to put some money away. For risk-averse savers getting a higher rate of return guaranteed is good news.
Stronger Canadian dollar
The dollar has gained in strength since the two back-to-back rate hikes by the Bank of Canada. Canadians can expect that trend to continue if rates continue to rise. After the rate hike in September, the Canadian dollar soared to reach a two year high. For Canadians travellers and cross-border shoppers, this is great news. As our dollar goes further when we travel outside the country.
Inflation stays in check
The main objective of the Bank of Canada is to keep inflation at a normal stable level. Normal, according to the Bank of Canada, is somewhere around 2 per cent. By raising interest the attempt is to help inflation get back to that level. It is working as inflation has ticked up slightly since the first rate hike. Normal inflation keeps the cost of goods and services more predictable.
Real estate prices cool
Higher rates mean homebuyers affordability goes down. When money gets more expensive, banks will approve you for less. This gives homebuyers no choice but to offer less money on a home they want to purchase. This often results in the housing market cooling down.
Stock market less volatile
In an ultra-low rate environment, traders tend to watch the Central Bank’s decision on rates more eagerly. This can create a great deal of speculation, especially among currency traders, who try to be on the right side of the Bank of Canada’s decision. As rates get to more normal levels that speculation tends to be less important. Investors trade more on fundamentals creating overall less volatility in the markets.
Rates have been at a record low for so long that it can be hard for some to understand how their personal financial situation will change when rates start to rise. As mentioned, the Bank of Canada’s agenda is to get inflation in check along with the economy operating at full capacity. Rates hikes play a big role in getting there and Canadians should expect more rate hikes heading into 2018.