Every 45 days or so, our country’s economic gurus gather together and set a target for something called the “overnight rate”. In more familiar terms, this basically means the interest rate that major financial institutions use to borrow and lend.
Today for instance, the Bank of Canada announced that interest rates would remain unchanged. Now if you think this statement sounds familiar, you’re absolutely right. Since mid-2015, our country’s central bank has kept interest rates at the incredibly low level of 0.5 percent, meaning that for the last one and a half years, it has cost us all very little to borrow large sums of money (think mortgages and other consumer loans).
The policy decision behind making money cheap is, essentially, to encourage consumers and businesses to borrow and spend, in order to stimulate our rather flaccid economy. Whether or not that has worked is debatable. But here’s the thing: interest rates have remained unchanged for ages, so why exactly should we care about yet another Bank of Canada interest rate announcement?
For starters, it’s not the actual rate change that is particularly important (unless it happens!). It is the specific terminology used by Bank of Canada Governor Stephen Poloz when explaining the Bank’s rate decision that helps us forecast what the Bank of Canada might do to interest rates in the coming months.
Take today, for instance. In a statement accompanying the interest rate announcement the bank said it “will continue to assess the impact of ongoing developments, mindful of the significant uncertainties weighing on the outlook.” Poloz then added that he was particularly concerned about the ramifications of a Trump presidency on U.S./Canada trade policy, but he has not factored them into the bank’s forecasts because their impact is “unknown at this point”.
Translation: relax folks, interest rates will probably not change in the near future, since there are too many moving factors.
For Canadians who are homeowners, or intending to become homeowners, paying attention to interest rate movements is paramount in calculating how your finances might change if borrowing becomes more expensive. A one percent interest rate hike on a $100,000 mortgage, for example, equates to an extra $700-ish a year in interest payments. On the flipside, higher interest rates translate well for savers because it means that you’ll get slightly better returns on cash sitting in your savings account.
If you invest in the stock market, and are concerned about short-term fluctuations in share prices, interest rate hikes tend to depress share prices, and cause volatility. This is for the simple reason that lower interest rates spur borrowing and hence spending — markets respond well to anything that encourages economic growth, and get into a tizzy when the opposite is set to occur.
All this to say that there’s a reason why Bank of Canada announcements on interest rates are taken seriously by the media, economists and the business community at large. Think of the Bank of Canada as a stabilizer of volatility, a manager of economic expectations of sorts. Their forecasts can have a significant impact on how businesses plan their future investments, and more importantly, your own personal balance sheet.
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