On Jan. 21, Governor Stephen Poloz made the surprise announcement that the Bank of Canada (BoC) was dropping its overnight rate by 0.25 per cent, from one to 0.75 per cent. It was the first time the rate had been changed in nearly 4.5 years. Until a few months ago, everyone expected Canada’s economy to finally pick up in 2015, and for interest rates to go up along with it.
Unfortunately, as you’ve probably noticed by the cheap gas prices you see around your city now, falling oil prices have already hurt our economy. Profits are down, people are losing jobs… and the BoC’s decision to cut its rate was meant to do one thing: encourage banks to drop their Prime rates, so Canadians who were feeling the negative impacts of what’s been happening in the oil industry could keep up with their existing debt commitments.
Conversely, at first, the banks chose to ignore the BoC’s rate cut and refused to lower their Prime rates. Stating concerns that dropping interest rates further would actually cause Canadians to take on more debt they couldn’t afford to repay, versus help those who were feeling the itch, the banks didn’t want to budge. Finally, one week after the overnight rate was dropped, the big banks all lowered their Prime rates – but only by 0.15 per cent, not the full 0.25 per cent. There’s no telling how long this will last, or if the banks will drop their Prime rates further, but here’s what it means for you.
If you’re a homeowner with a variable mortgage rate, your bank’s decision to drop its Prime rate will result in a smaller monthly mortgage payment. A 0.15-per-cent decrease won’t save you much – maybe $40 per month on a $400,000 mortgage – but it’s still something. And if you are carrying extra debt or want to make a lump sum payment on your mortgage later this year, use this savings to help you do so.
If you’re thinking about buying a home this year, don’t let these lower interest rates make you think you can afford an extra-large mortgage. There’s a lot of uncertainty surrounding this rate cut, and we don’t know how long it will last. It’s really important to buy a home that is below your maximum price limit and to stress test your mortgage; that means tacking on two per cent to the current interest rate and seeing if you could still afford the payment, if interest rates went up.The banks are right to be concerned about Canadians taking on more debt; that’s what happens in low interest rate environments. Take this rate cut for what it’s really worth: a chance to pay down your current debt sooner.