Bank of Canada Interest Rates : Everything You Need to Know [2024 UPDATE]

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Bank of Canada Interest Rates! The Bank of Canada’s movements on interest rates have an immense impact on the national economy and the financial well-being of Canadians. As the central bank, the Bank of Canada is responsible for keeping inflation low and supporting job growth and economic stability. One of its key tools for achieving this mandate is adjusting the target for the overnight rate – the interest rate that applies to overnight borrowing by major financial institutions.

When the Bank of Canada raises or lowers its overnight rate target, it sets off a chain reaction. The Big Six banks (RBC, TD, BMO, Cibc, National Bank, and Scotiabank) adjust their prime lending rates accordingly, to which variable rates for mortgages, loans, and lines of credit are tied.

Higher interest rates make borrowing costlier for consumers and businesses, which puts the brakes on spending and economic activity. Conversely, lowering rates encourages more borrowing and investing, stimulating growth. Striking the right balance is crucial – the Bank must keep inflation under control without stifling the economy.

Bank of Canada Interest Rates
Bank of Canada

The Historic Rate Hike Cycle of 2022-2023

In the context of surging inflation in 2022 driven by pandemic-related supply shocks, robust consumer demand, and the fallout from Russia’s invasion of Ukraine, the Bank of Canada launched one of the most aggressive rate hike cycles in its history.

After leaving its key overnight rate unchanged at a rock-bottom 0.25% for two years during the COVID-19 crisis, the central bank began lifting borrowing costs in March 2022 with a quarter-point hike. This was followed by:

  • April 2022: 0.50% increase
  • June 2022: 0.50% increase
  • July 2022: 1.00% increase
  • September 2022: 0.75% increase
  • October 2022: 0.50% increase
  • December 2022: 0.50% increase
  • January 2023: 0.25% increase

In January 2023, the Bank’s benchmark overnight rate reached 4.50% – its highest level since 2007 before the global financial crisis. This represented a stunning 4.25 percentage point increase in borrowing costs over the previous 12 months.

According to data, the average homeowner with a $500,000 mortgage saw their monthly payment jump by over $800 from pre-hike levels due to the higher rates.

“Getting inflation back to the 2% target is a difficult economic challenge. By front-loading increases in the policy rate during 2022, the Bank got monetary policy to its peak faster. We are now seeing a more moderate pace of increases,” said Bank of Canada Governor Tiff Macklem in January 2023.

Pursuing the Inflation Target Through Rate Policy

The Bank of Canada has a clear inflation target of 2% for consumer price growth, as measured by the Consumer Price Index (CPI). When inflation runs persistently above or below this level, the Bank adjusts interest rates higher or lower in an attempt to return inflation to the optimal 2% range.

Inflation surged to a multi-decade high of 8.1% in June 2022 as the post-pandemic economy overheated. Despite slowing to 5.9% by January 2023, this remained well above the 2% target range.

In the Monetary Policy Report published in January, the Bank projected CPI inflation to slow to around 3% by mid-2023 and return to 2% by the end of 2024 – provided the economy evolves in line with their forecasts.

Higher interest rates work to restrain inflation through several key transmission mechanisms:

  1. Increased Borrowing Costs: Businesses face higher financing costs for operations and expansion, limiting economic activity and potential price increases.
  2. Stronger Canadian Dollar: Rising interest rates tend to strengthen the Canadian dollar by attracting greater capital inflows, making imported goods cheaper and curbing inflation.
  3. Reduced Consumer Spending: Costlier borrowing dissuades big-ticket purchases by households, lowering expenditures that fuel demand-pull inflation.
  4. Housing Market Cooldown: Higher mortgage rates make home purchases less affordable, moderating cost pressures in housing – a major household expense.

The Impact on Canadian Homeowners and the Housing Market

Housing affordability deteriorated sharply through 2022 as interest rates climbed from emergency lows. The mortgage stress test level for qualifying uninsured mortgages rose from 5.25% in December 2021 to 7.59% by October 2022.

According to data from the Canadian Real Estate Association, national home sales plunged over 30% from February 2022 peak levels by the end of the year. Average selling prices were down over 11% year-over-year in December.

Canadian Real Estate Market February 2022 December 2022 % Change
Home Sales (Seasonally Adjusted) 54,629 37,376 -31.6%
Average Home Price $796,068 $626,318 -21.3%

“The huge compromise in affordability caused by this year’s soaring mortgage rates has ended the pandemic housing boom,” said Jill Oudil, Chair of the Canadian Real Estate Association.

Existing variable-rate mortgage holders experienced the effects of rising costs most directly. A borrower with a $500,000 variable mortgage saw their monthly payment increase by over $950 compared to pre-hike levels.

Business Investment, Trade, and Growth Implications

Higher borrowing costs from rate hikes also impact the business environment in various ways:

Capital Investments: Companies must spend more on financing for major capital projects and expansions, potentially postponing or scaling back plans.

Operating Costs: Floating-rate business loans and lines of credit become significantly more expensive, squeezing profit margins.

Consumer Demand: With households reducing big-ticket purchases and spending, businesses in interest-rate sensitive sectors like autos, home furnishings, and renovations experience softening demand.

The Bank projects business investment will decline by about 2% in 2023 compared to 2022 amid higher financing costs. Outside the housing sector, it anticipates investment growth will remain modest due to elevated economic uncertainty.

On the trade side, net exports are expected to remain a source of strength, supported by solid foreign demand and a still competitive Canadian dollar.

Overall, the Bank forecasts GDP growth of just 1% in 2023 after a 3.6% expansion in 2022 – a pronounced slowdown due to the economic brakes from higher interest rates.

Rate Outlook: Pause or Additional Hikes Ahead?

In its latest January statement, the Bank of Canada signaled its current cycle of rate increases may be nearing an end. Economists believe policymakers are likely to pause hikes soon after pushing the overnight rate to 4.50%.

However, the threat of further hikes has not been eliminated if inflation proves more stubborn than expected. The Bank maintained future decisions will be data-dependent, with a strong emphasis on labor market dynamics, wage growth, and the persistence of price pressures.

Markets are currently pricing in about a 50% chance of one more quarter-point rate increase by mid-2023, according to overnight index swap pricing.

“The Bank continues to judge that the policy interest rate will need to increase further,” stated the January rate announcement, tempering expectations of an imminent pause.

A resilient job market and consumers’ ability to withstand the multiple-percentage-point rise in borrowing costs will be key factors going forward. The Bank appears prepared to take rates above the 4.50% neutral range if necessary to slow still-elevated underlying inflation.

Looking Ahead: The Rate Cut Cycle

Assuming the Bank’s forecasts materialize, the eventual pivot to interest rate reductions could occur in late 2023 or early 2024 once inflation returns sustainably to the 2% target.

According to the central bank’s projections, the overnight rate will begin slowly declining in 2024 as disinflationary forces take hold and economic slack emerges.

However, the timing and magnitude of any future rate cuts remain highly uncertain. It is unlikely the Bank will reverse course quickly after an aggressive hiking cycle aimed at returning inflation to target. A drawn-out process of gradual reductions appears more likely.

The experience of the mid-2000s cycle suggests caution from policymakers. After raising rates steadily from 2004-2007, it took nearly four years after the onset of the global financial crisis for the Bank to fully unwind those hikes as the economic recovery took hold.

For borrowers assuming fixed mortgage rates at elevated levels through 2022 and 2023, refinancing opportunities at lower rates may not emerge for some time. But those patience will eventually be rewarded as the economic cycle turns.

FAQs on Bank of Canada Interest Rates

When is the next Bank of Canada interest rate announcement?

The Bank of Canada makes eight scheduled interest rate announcements per year, approximately every 6 weeks. Following the January 25th rate decision, the next announcement dates are:

  • March 8, 2023
  • April 26, 2023
  • June 7, 2023

What is the current Bank of Canada overnight interest rate target?

As of the January 2023 announcement, the Bank of Canada’s target for the overnight interest rate sits at 4.50%. This is the highest level since 2007.

How do Bank of Canada rate changes affect mortgages?

Changes to the Bank’s benchmark overnight rate impact the prime rates set by Canada’s major banks, to which many variable mortgage rates are directly tied. Fixed mortgage rates are influenced by rate expectations and moves in bond yields.

Why does the Bank of Canada raise or lower interest rates?

The Bank raises interest rates to cool overheated economic growth and bring inflation back towards its 2% target. It lowers rates to stimulate stronger growth and inflation when the economy is underperforming. Rate moves transmit through borrowing costs, consumer spending, business investment, exchange rates, and housing markets to achieve the desired effects.

What is quantitative tightening and how does it relate to interest rates?

Quantitative tightening is when a central bank allows assets (primarily government bonds) acquired during quantitative easing (QE) to roll off its balance sheet. This works in conjunction with rate hikes to tighten monetary policy and control inflation by reducing money supply. The Bank ended QE in 2022 and began quantitative tightening.

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