How lending banks respond to Bank of Canada’s interest rate hike?

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Aug 30 2017

On July 12, 2017, Bank of Canada took a landmark decision to hike its overnight rates by 0.25 of a point after seven years. As a result, five banks have hiked their prime rates from 2.70 percent to 2.95 percent.

As we can see, this high rate is not absorbed in between but passed on as it is to the borrowers. This is in contrast with banks’ response when Bank of Canada dropped its interest rates by 0.5 of a point in 2015. Banks did not allow the complete benefit to pass on to the borrowers. There were two cuts in 2015 of 0.25 of a point each in Jan and July.

Banks responded to that by decreasing their prime rates by 0.3 of a point instead of complete combined 0.5.

This pattern adopted by banks is not altogether technically wrong. They’re expected to show identical increase and decrease in prime rates instead of simply mirroring the point hike or drop in overnight rates.

However, the major impact is on mortgage market and other businesses. 0.25 % hike means a lot in the long run. Mortgage rates will increase. However, Mortgage Division continues to offer best and lowest variable mortgage rates in Mississauga.

Effect on businesses will be much extensive. As the lending rates for buying raw materials increase, and businesses decide to extend the same to consumers, there’ll be a hike in goods and services cost. That’ll discourage the local products and exports will see a decline.

On the contrary, imports will see a surge as comparatively cheaper products will be favored. A shift in production centers is on the cards as goods manufactured in Canada will bear the effect of inflation.

Even though a hike of 0.25 is being termed insignificant to bring about such a major paradigm shift, it’s good to be aware of what banks do with this increase. They exhibit an unpredictable response to central bank’s decision. It’s advisable to keep a close watch on what they do with mortgage’s borrowing costs, line of credit, and lending rates. How they manage their savings rates is also noteworthy. Will a hike in Bank of Canada’s interest rates be reflected in their savings rates as well? Keep your eyes and ears open.

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