The Bank of Canada Gets Aggressive
For the first time in 4 years, the Bank of Canada has eased monetary policy. Following the US Federal Reserve’s lead, the Bank of Canada surprised some by slashing rates by 50 bps. The Bank of Canada also took a more dovish tone indicating they are ready to do more if necessary. The rate cuts are in response to the global economic slowdown caused by the COVID-19 virus.
Found in the Bank of Canada press release, “COVID-19 represents a significant health threat to people in a growing number of countries. In consequence, business activity in some regions has fallen sharply, and supply chains have been disrupted. This has pulled down commodity prices, and the Canadian dollar has depreciated. Global markets are reacting to the spread of the virus by repricing risk across a broad set of assets, making financial conditions less ac commodative. It is likely that as the virus spreads, business and consumer confidence will deteriorate, further depressing activity.”
The press release went on to promise that, “as the situation evolves, the Governing Council stands ready to adjust monetary policy further if required to support economic growth and keep inflation on target.”
The Bank of Canada Changes It’s Tune
For the last few years, the Bank of Canada has been very reluctant to lower rates. Governor Poloz has already stated they are concerned with the high level of indebtedness upon Canadians. Most economists thought there would be a 25 bps cut but not many expected a 50 bps reduction. The overnight rate now sits at 1.25%.
Moving rates by the full 50 bps is a change of tune. Over the past couple of years, over 30 Central Banks around have been lowering interest rates. The Bank of Canada has sat on the sidelines until now. (Canada previously had the highest interest rates in the developed world) Governor Poloz has pointed to an overheated housing market and high levels of consumer debt for avoiding previous rate cuts. It’s certain other Central Banks will no doubt follow suit, although many already have negative interest rates. (Japan and much of the Euro-zone)
Interest Rates Continue to Fall
Interest rates in Canada continue their downward trajectory in response to the Bank of Canada’s rate cut. The 5-year Government of Canada bond yield plummeted to 0.82% (See below chart), a 50% drop from levels a year ago.
Fixed-rate mortgages have fallen as well, although not as much as the 5-year bond yields. The prime rate has been sitting at 3.95% since October 2018. The last Bank of Canada move was a hike to its overnight rate. This cut to prime rate will lower borrowing costs for variable-rate mortgages and HELOC’s. (Home equity line of credit)
What Happens To Interest Rates Now?
The US Federal Reserve has a regularly scheduled meeting later this month. Their rate cut this week was an emergency cut put in place before their scheduled meeting. President, Donald Trump, has already Tweeted he wants more from the Fed. This has many experts predicting another rate cut at the end of this month.
Easing monetary policy (in response to COVID-19) does not address supply-chain disruptions or travel cancellations. Lowering interest rates is meant to flood the system with liquidity and improve consumer and business sentiments. This was the case during the financial crisis of 2008. Expect fiscal stimulus in the upcoming Federal budget.
The rate cut should give a boost to housing demand even though Chinese demand will remain limited. A potential recession is not good for the housing market. Lower interest rates should help propel a seasonally hot Spring market. Data released by Toronto Real Estate Board show that Toronto home prices soared in February, and sales jumped despite low inventories. The number of transactions jumped 46% from February 2019, which was a 10-year sales low as the market struggled with tougher mortgage rules and higher interest rates. February sales were up by about 15% compared to January.