Bank of Canada has decreased their overnight rate by 0.50%, bringing it to 1.25%. Which for most lenders will likely decrease their Prime rate to 3.45% from the previous 3.95%.
This change will have an impact on those with a Variable Rate Mortgage or Home Equity Line of Credit. It will mean a $26 a month payment decrease for every $100,000.
What is the Bank of Canada Overnight Rate?
The overnight rate is generally the interest rate that large banks use to borrow and lend from one another in the overnight market.
The Bank of Canada holds this Key Lending rate. They might lower it to encourage borrowing and spending OR they may increase it to curb inflation and debt levels.
Major lenders typically raise or decrease their prime rate when there is a change to this overnight lending rate. Thats the number they use to set interest rates for loans and mortgages.
Unlike a fixed rate where one is locked in to their rate, those in a variable rate will be affected by these changes. Home owners with fixed rate mortgages won't be affected until they have to renew.
More Increases to come?
Financial markets had expected at least one rate cut this year, but forecasts have pegged the decision Wednesday as the first of what could be multiple reductions to the central bank's key interest rate target.
Globe and Mail
“With today's statement leaving the door wide open to further easing, we still think the Bank of Canada is likely to cut in April in addition to today's larger-than-expected move,” he said in a note. “But it's the response from other policymakers, particularly fiscal and health authorities, that could do more to cushion the blow as the coronavirus outbreak intensifies.”
Current Economic Outlook
Financial Post | Kevin Carmichael
Like the U.S. central bank, Canada’s policy-makers cited the spread of COVID-19 for pulling the trigger on its first interest-rate cut since 2015. It also made sure it was clear to everyone that more stimulus is possible.
“Before the outbreak, the global economy was showing signs of stabilizing,” the Bank of Canada said in a statement. “While Canada’s economy has been operating close to potential with inflation on target, the COVID-19 virus is a material negative shock to the Canadian and global outlooks, and monetary and fiscal authorities are responding.”
In 2015, Governor Stephen Poloz and his deputies on the Governing Council cut interest rates in response to a massive drop in oil prices, which they knew from past experience would severely depress economic growth by erasing wealth earned from energy exports.
The coronavirus represents a similar threat, and possibly a more serious one. The central bank tends to prefer quarter-point moves, reserving larger changes for emergency situations. It resorted to half-point cuts on several occasions at the onset of the financial crisis, until it pushed the benchmark rate down to effectively zero.
Now, world oil prices are already more than US$10 per barrel lower than the Bank of Canada had forecast in January, as traders anticipate weaker demand from a global economy on the verge of at least a mild recession. Supply chains are being disrupted, and tourism will suffer as long as quarantines and travel advisories remain in place. Financial markets are on edge, a present danger to wrecking consumer and business confidence.
“The outlook is clearly weaker now than it was in January,” the Bank of Canada said. “As the situation evolves, Governing Council stands ready to adjust monetary policy further if required to support economic growth and keep inflation on target.” The central bank said markets were functioning well, and that it would “ensure that the Canadian financial system has sufficient liquidity.”
If not for the Fed, the Bank of Canada might have opted for a smaller quarter-point cut. All things equal, lower interest rates will stoke demand for mortgages, and policy-makers worry that Canadian households are already carrying too much debt. Poloz and his deputies noted that consumption was stronger than expected in the first quarter, easing concerns that an important engine of economic growth might have been sputtering.
But external conditions trumped all other considerations. A gap between U.S. and Canadian benchmark rates could have put upward pressure on Canada’s currency, or simply introduce more volatility in the exchange rate. Either would only add to the current trials of exporters. “Business activity in some regions has fallen sharply and supply chains have been disrupted,” the central bank said. “It is likely that as the virus spreads, business and consumer confidence will deteriorate further.”
The confidence of Canadian businesses was shaky before COVID-19 escaped China and spread around the world. The trade wars depressed animal spirits, as profitable companies retreated to the sidelines to wait for the horizon to clear. The Bank of Canada assumed the new North American trade agreement and a truce between the United States and China would spur investment.
Policy-makers acknowledged in the policy statement that they still are waiting for that to happen, offering another reason to assume the near-term outlook will be weaker than expected.
“Business investment does not appear to be recovering as was expected following positive trade policy developments,” the central bank said. “In addition, rail line blockades, strikes by Ontario teachers, and winter storms in some regions are dampening economic activity in the first quarter.”
Those latter headwinds are temporary and wouldn’t call for additional stimulus. COVID-19 should also be temporary, although no one knows how temporary at this point. That’s why today’s emergency cut could be followed by more. The Bank of Canada’s next scheduled policy announcement is mid-April.
Source: Financial Post