FFWD REW

Breaking the bank

The Bank of Canada’s key interest rate — the percentage charged for inter-bank loans — was finally making a comeback. Following the staggeringly low rate of 0.25 per cent announced in April 2009 the central bank had been indicating post-recession optimism with three additional bumps to the rate before pegging it at one per cent for half a decade. It was low but by no means in the same realm as the Eurozone’s dropping percentage (the European Central Bank has sported a 0.05 per cent interest rate since September 2014).

Then oil went and plummeted in price. Dramatic cuts in capital spending and jobs ensued. The Conference Board of Canada warned of a recession in Alberta in 2015. On January 21 to the surprise of many economists Bank of Canada governor Stephen Poloz announced that the key interest rate would be cut by a quarter of a per cent a tool which — to reiterate — hasn’t been used since the global economic implosion of 2008.

David Macdonald senior economist at the Canadian Centre for Policy Alternatives sees the move as a predictable response to the looming crisis. “The federal government at this point is completely uninterested in running any type of deficit to offset the fact the business sector in the oilpatch has cut $20 billion from the economy in one fell swoop. There’s a political decision that we will not run a deficit. That’s bad economic planning particularly when we’re seeing the chopping of the growth rate.”

If banks adjust their prime interest rates the decision won’t affect fixed mortgages or credit cards. Imports will be slightly more expensive. Purchasing power overseas is also hurt. On the plus side new or renewed mortgages won’t cost as much and exporting will be more attractive. But in addition to all that Macdonald suggests that the slip in oil prices — which precipitated the drop in rate — may actually lead to a diminishing of economic inequality in Calgary given the intimate relationship between billionaires and oil and gas stocks.

“It’s in part why Calgary is the most unequal place in the country: that’s being driven by oil extraction while most benefits of oil extraction are not going to Canadians but are going to the financiers and CEOs who manage the business as opposed to folks who work there” he says. “One of the interesting side effects of this is if we continue to see a decline in oil and gas stocks we’ll actually see a slight decline in income inequality.”

TD Bank one of Canada’s biggest depositories has already announced that it won’t adjust its prime lending rate in accordance with the Bank of Canada’s decision. It’s a verdict that Macdonald doesn’t find particularly shocking given that banks tend to adjust their prime rate less and less the closer the key rate gets to zero although RBC and BMO have both cut their rates. However bond yields are plunging which should lower the price on fixed-rate mortgages.

“Bondholders barely want their money back” Macdonald notes. “They just want inflation. They don’t even want a rate of return: they just want two per cent for 30 years. We will never see rates this low for government bonds. Now is the time for governments to rebuild infrastructure to rebuild social programs to support people who have lost their jobs. That’s really how we can drive economic growth but unfortunately the federal government is unwilling to do that. We’re at the limits of what the banks can do.”

Federal finance minister Joe Oliver has stated that the budget which he postponed to April will be balanced. The Bank of Canada will announce any further changes to the key rate on March 4.

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