The Bank of Canada has reduced its key interest rates to 2.25 percent on Wednesday, continuing a series of rate cuts that began in June 2024. Before this recent adjustment, experts in economics, mortgages, and finance shared insights with CBC News on how interest rates function and what factors they monitor with each Bank of Canada announcement. Let’s delve into the implications of lower interest rates on individuals, small enterprises, and the Canadian economy.
Interest rates signify the cost consumers or organizations incur to borrow money or the earnings a bank may offer for funds deposited. When obtaining a loan, borrowers receive a sum and repay a portion over time, including an interest component, as explained by Andrew DiCapua, a principal economist at the Canadian Chamber of Commerce. Commercial banks such as RBC, Scotiabank, TD Bank, CIBC, and BMO utilize prime rates, their base rates for lending to consumers, which are adjusted based on creditworthiness. These prime rates are influenced by the Bank of Canada’s overnight interest rate, a tool used by central banks to manage inflation.
When interest rates decrease, borrowing becomes more affordable, prompting increased spending and potential economic growth. Lower interest rates impact various sectors differently, prompting the central bank to balance growth opportunities with inflation risks when setting its benchmark rate.
In the housing market, lower mortgage rates can stimulate buyer interest, influencing sales and overall economic activity. Homeowners with variable rate mortgages experience immediate relief from reduced interest rates, while potential buyers may be encouraged by lower rates to enter the market or secure fixed-rate mortgages at a lower cost.
Small businesses, benefiting from decreased borrowing costs, may witness increased consumer spending as individuals allocate more budget to purchasing goods and services. However, uncertainties like labor shortages, rising operational expenses, and trade-related challenges persist, affecting business sentiments and investment decisions.
Regarding personal finances, lower interest rates translate to reduced borrowing costs for personal loans, credit cards, and credit lines. While borrowers benefit from cheaper debt payments, savers may face diminished interest earnings on savings accounts and GICs. The impact of rate cuts on asset mix and investment strategies varies among individuals.
Understanding the relationship between interest rates and economic growth is crucial as rate changes can affect prices, employment, and overall economic performance. The time lag for interest rate adjustments to permeate the economy is typically around 18 months, influencing consumer behavior and business decisions based on economic signals provided by the Bank of Canada.