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Focus: Banks and Interest Rates

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Focus: Banks and Interest Rates Focus: Banks and Interest Rates Focus Sheet FAST FACTS The Bottom Line There are a number of Interest rate decisions by individual banks different factors that and other financial institutions are business influence a bank’s decision to adjust its decisions made in a competitive marketplace. lending rates in addition to the Bank of Canada’s Target for the Overnight While the Bank of Canada’s Target for the Rate including: Overnight Rate does influence the pricing of credit, it does not set the interest rates that • Conditions in lending markets consumers pay on their loans or receive on their deposits. • Cost of funds in financial markets For example, between April 2020 and July • Credit worthiness of 2021, while both the Bank of Canada’s customers Target for the Overnight Rate and the banks’ prime rate had remained stable, effective interest rates on bank loans fell and currently 1 sit near historically low levels. How does the Bank of Canada affect bank lending rates? There is a common misconception that the interest rate on loans paid by bank customers is solely driven by the Bank of Canada’s Target for the Overnight Rate. The Bank of Canada’s Target for the Overnight Rate is one of several factors that influence bank lending rates. Lenders continually assess market conditions to determine the interest rates they charge on loans, whether for short- term or long-term loans. An individual bank’s decisions on lending rates are impacted by conditions in lending, markets, the cost of funds borrowed by banks in financial markets, and the credit worthiness of individual customers. Changes in the Target for the Overnight Rate are meant to influence interest rates in the market, including the lending rates of the banks and other lenders, not set them. There is a common misconception that the interest rate on loans paid by bank customers is solely driven by the Bank of Canada’s Target for the Overnight Rate. The Bank of Canada’s Target for the Overnight Rate is one of several factors that influence bank lending rates. Target for the Overnight Rate: The interest rate that the Bank of Canada uses to signal the direction of monetary policy. It is the target interest rate that the Bank of Canada wants major financial institutions to use when lending and borrowing one-day funds among themselves. Prime Rate: A benchmark rate of interest set by individual banks and other lenders from which the interest rate charged on loans to customers is calculated. Lending rates to consumers and businesses can change despite no change in the Target for the Overnight Rate and bank prime rates Data from the Bank of Canada demonstrates that despite the fact that the Target for the Overnight Rate (0.25%) and the banks’ prime lending rates (2.45%) remained stable between April 2020 and July 2021, lending rates paid by borrowers decreased to historically low levels. Consumers and businesses were able to benefit from lower lending rates despite no change to the Bank of Canada’s Target for the Overnight Rate or the banks’ prime lending rates. According to a report from Mortgage Professionals Canada, the average mortgage interest rate fell to 2.6% in 2020 from 3.14% at the end of 2019. And of the mortgage holders who renewed their 2 mortgage during 2020, 84% saw a reduction in their rate. 1 Bank of Canada Website, Trends in The Canadian Bankers Association is the voice of more than 60 Key Interest Rates domestic and foreign banks that help drive Canada’s economic 2 Annual State of the Residential Mortgage Market in Canada, Mortgage Professionals growth and prosperity. The CBA advocates for public policies Canada, December 2020 (Published March that contribute to a sound, thriving banking system to ensure 2021). Canadians can succeed in their financial goals. Canadian Bankers Association Last updated: August 2021 .
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