This morning the Bank of Canada raised interest rates for the first time in nearly seven years, which means there’s going to be a few changes for your finances.
Basically, borrowing money is going to cost a little more than we’ve been used to for a long time. That being said, the new overnight interest rate of 0.75% — from 0.5% — is still fantastically low, historically speaking. Unfortunately, many Canadians have become reliant on debt to finance their lifestyle, and that means it’ll cost more to service debts, unless you’re able to make increased payments to the principal of your loan.
While pretty much everyone and their dog knows that this will mean more expensive mortgages, Canadians hold plenty of non-mortgage debt to worry about as well. Here’s how the interest rate hike will affect your financial products and what, if any, moves you should make to deal with a higher interest rate environment.
Banks set mortgage rates based on their prime rate, which in turn follows the ups and downs of the overnight rate set by the Bank of Canada. Of course, they also tend to do whatever makes them a profit. In 2015, when the Bank cut the rate 25 basis points to 0.5%, banks refused to drop their own prime rates by the same amount.
Now that the overnight rate has increased by 25 basis points, expect to see prime rates creep up by at least that amount — though it’s very likely they’ll increase by slightly larger amounts, passing on the cost of higher rates to the consumer and then some.
That means people who are shopping for mortgages should be prepared to see the lowest rate options out there get slightly higher. Many banks have already begun raising rates on mortgages due to other economic factors, and this will only add to it. For people who already have mortgages, it’s a little different. Those with variable rate mortgages will immediately see their next payment increase — though not by much. People with fixed rate mortgages won’t see any change yet, but when they go to refinance, they’ll likely have to choose a higher rate than before.
Historically, variable rate mortgages work out to be cheaper than fixed rate mortgages, despite having fluctuating rates. This is due to Canada having relatively stable rates.
Lines of credit
Non-mortgage debt is at an all time high and personal lines of credit are one of the big reasons why. While they can be convenient and cheap ways to borrow cash for unexpected emergencies, expensive home projects, and more, if you’re not careful, they can take a long time to pay off. Higher interest rates may not affect how much you pay every month to your line of credit, but it will cause more of your payment to go towards interest, taking you longer to pay down the principal loan.
You can save money by increasing the amount and frequency of payments on your line of credit — however, that will increase your monthly costs.
Student loans from financial institutions are affected almost exactly the same way as lines of credit when it comes to rate changes. Your payment will remain the same, but you may end up having to make more of them to clear your debt. Increase the amount or frequency of your payments to offset this.
The Canadian auto industry has been having an amazing year with sales tracking to break records. And though purchases of cars will likely continue to increase and do well, a rate increase may also end up hurting sales, because it is in all likelihood about to get more expensive to own a car.
Lower interest rates make it easier for dealerships to offer special pricing and 0% interest financing. That drives more buyers into their showrooms. On top of this, Canadians have become increasingly comfortable with long-term car loans, often purchasing a new car while still owing money on their old one.
Expect the rate hike to affect new car loan interest rates. Those who already have car loans don’t need to worry about any changes to their payments, because once your loan’s terms are locked in, they won’t be changed.
Similar to car loans, installment loans are typically negotiated and locked in before you get to touch any of the money, meaning rate hikes won’t affect your loan. However, there are some variable rate personal loans, which will be affected by the hike. Higher overnight rates will either increase the amount of each installment or the amount of installments to adjust for the variable rate.
It’s difficult to say how the hike affects the rates lenders offer new borrowers. Rates are often determined by assessing the applicant’s credit profile, so there’s little chance this will make it significantly more expensive to get an installment loan.
The Bank of Canada is likely to continue raising interest rates through 2017 and into 2018, albeit at a slow pace. Economists at CIBC, for instance, expect that we’ll see the benchmark interest rate go up to 1% by October of this year.
While it may cause quite a stir in the world of financial journalism, the day-to-day change will be quite small for the average consumer. More than anything, this rate hike is a indicator that Canadians should be doing more to reduce their debt loads so that they aren’t overwhelmed when servicing that debt starts getting more expensive in the coming years.
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