Recently, the Bank of Canada made a surprising announcement, as the central bank said it would be reducing its overnight interest rate from 1 percent to 0.75 percent. This fueled speculation that the benchmark rate decrease would push financial institutions to reduce their mortgage interest rates, but some Canadian economists and strategists believe that consumers should not expect too much in the light of this.
Generally, these specialists believe that banks may decide to cut mortgage rates, but the rate cuts will not be as significant as the quarter percentage point (25 basis points) decline many are expecting or hoping for. “The banks will charge whatever the market will bear, unless there’s a change in demand,” said CMC Markets chief market strategist Colin Cieszynski. “If people still accept the mortgage rates banks are offering now … then it’s a win for the banks.”
So far, banks have had some reservations decreasing mortgage rates, as some of Canada’s leading financial institutions have chosen to stand their ground. For example, TD Bank announced last week that it will not be reducing its prime rate for the meantime. Royal Bank and Scotiabank were more cagey when asked about the matter, with representatives for both banks quoted as saying they will take rate declines under consideration, but will not make any snap decisions just yet.
Canadian financial institutions are not legally mandated to change rates parallel to the Bank of Canada’s rate changes, which means banks may choose not to make any changes if it ends up benefiting their bottom line. After all, lower interest rates could have an egregious effect on banks and their respective lending divisions’ solvency.
However, there is always a chance that one leading bank would try to undercut the competition by offering lower prime rates, which would then force the hand of its competitors, making them reduce their rates as well.
Taking everything into consideration, banks have to keep several variables in mind when they decide what interest rates to offer consumers. For starters, Canadian variable mortgage products have their rates predicated on the prime rate of each commercial bank, which is in turn predicated by the Bank of Canada’s rate changes. Then again, a mortgage interest rate is not entirely representative of the central bank’s moves. One general rule of thumb is that banks would typically ensure that their prime rates are within 25 to 50 basis points of the central bank’s rates.
Going back to what consumers can expect from the Bank of Canada’s surprise rate drop, Sauder School of Business associate professor Thomas Davidoff posited that they may be in for a slow burn of sorts. “Rates will fall, but it’s not going to happen instantaneously,” said Davidoff. “It takes time, and it’s not going to be one-for-one.” However, other experts, such as Mortgage Intelligence adviser Sebastian Patrizio, believe that consumers may instead benefit from lower auto loan rates. He cautioned against the tendency to take on larger debt. “Rates will eventually go up, and consumers have to realize it could happen quickly,” he said.