Bank of Canada lowers benchmark rate to 0.5%

By d.neuman from Ottawa, Canada, via Wikimedia Commons                           Image Courtesy: d.neuman from Ottawa, via Wikimedia Commons

Canada’s big banks have all reduced their prime lending rates by 0.15 percentage points, to 2.7 per cent. This cut-down took place within 24 hours of the Bank of Canada lowering its key interest rate by 0.25 percentage points.

This is the second time the central bank has cut its key rate this year, after holding it steady for four years. It previously lowered the rate by a quarter point in January, leading to a total decrease of 0.50 percentage points from last year.

Changes in the prime rate directly affect the amount charged on loans, such as variable rate mortgages, affecting the borrowing rate for commercial banks. The banks are not obligated to pass on the savings, or the costs to their customers.

TD Bank announced within minutes of the Bank of Canada’s decision that it will cut its prime lending rate by 0.10 percentage points. However, shortly after TD’s announcement, other top banks like the Royal Bank of Canada, the Bank of Montreal, Scotiabank, and CIBC, all declared a reduction in their prime lending rates by 0.15 percentage points, to 2.7 per cent. TD decided to followed suit, dropping its rate further to match the other banks.

The interest rate changes led to a fall in the value of the Canadian dollar. The loonie fell more than a cent in value, closing at 77.40 cents to the U.S. dollar. This is the lowest level observed since 2009, when Canada was in a recession. Holding all other factors steady, rate cuts usually drive currency values lower because they make the country’s economy less attractive to foreign investors.

Naturally, house prices have soared as borrowing costs have fallen. According to estimates by the Bank of Canada, house prices may be overvalued by as much as 30 per cent. The Canadian debt rate has also achieved new heights, bringing with it the vulnerabilities of rising unemployment levels, or an eventual increase in borrowing costs.

“We are in such an unusually low-interest-rate environment that the traditional rules of one-for-one [reductions in the prime rate and the Bank of Canada’s key interest rate] don’t work,” Peter Routledge, an analyst at National Bank Financial, said in an interview.

Bank of Canada Governor Stephen Poloz, however, appeared unconcerned by the banks’ response, emphasizing that lending rates can be affected by many factors.

“That’s how financial markets work,” Mr. Poloz said at a press conference. “All we’re trying to do is have an influence on [the lending rate], as opposed to determine it.”



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