Here’s Why the Heck You Should Care About Higher Interest Rates in 2018

12 February 2018
Joshua Chisvin

Last summer, for the first time in seven years, the Bank of Canada raised the interest rate. To be exact, they hiked it from 0.5% to 0.75%. Then, in the autumn, they did it again! The new rate? 1%. Oh yeah, then in January, they did it one more time for good measure. It currently sits at 1.25%. Ummmm, yeah, it’s been something Canadians across the country can’t stop talking about. And why not? They want know what higher interest rates mean for them.

For starters, higher interest rates means the brakes are definitely being put on growth across the household debt-to-income ratio. In my opinion, that’s a positive thing. Ten years ago, Canadians owed $1.39 for every dollar of disposable income they earned. But by the end of 2017’s first quarter, that had increased to $1.67. In fact, since 2011, over $1 trillion in debt has been racked up by Canadian households and companies.

This is a pace unrivaled by any other of the world’s developed nations, and you can thank historically low interest rates for driving it. In other words, Canadians are accustomed to cheap debt. But with the cost of borrowing jacked up a bit, they will probably be deterred from welcoming debt at such swift rate. Again, I deem this a good thing. And you know what else is a good thing? A rising Canadian dollar!

Even before the Bank of Canada heightened their interest rate in July, the loonie had already shot up against the American dollar in anticipation — roughly 6%, to be certain. Then, once they actually did it, our dollar soared — trading at U.S. 78.70 cents — its best position in almost a year. The loonie has dipped since then, yes, but its improvement can’t be shortchanged.

On the flipside, higher interest rates also allow the possibility for escalating mortgage rates, as well as a diminished housing market. I don’t need to tell you that neither of these are much to brag about. In regards to the former, Canadians with variable mortgages have already seen those rates shift with the Bank of Canada’s, meaning they’re now paying more on a monthly basis for a mortgage than they in the past. And incidentally, banks like RBC, BMO and CIBC have hiked up their fixed mortgage rates, as well, which have similarly resulted in higher carrying costs for Canadians.

And with respect to the latter, low interest rates have always significantly influenced the residential real estate market, as buyers have been enabled to take on bigger mortgages. Obviously, as those costs get increased, the opposite is true. Okay, some might see a cooled off housing market as a positive: deflated prices, reduced competition, less bidding wars and so forth. But if you can’t even keep up with a mortgage to take advantage, really, how does this benefit you?

Finally, with the Bank of Canada raising its rate, this has driven up the cost of all kinds of loans. That means the debt service ratio — which measures the costs to pay down loans compared to disposable income — is estimated as climbing to 16% over the next few years. That’s up from 14%, where it’s hovered around for the last decade. The aftermath might lead to Canadians — who can’t afford it — to default on their housing loans, plus have less money to spend… itself a probable drag on the economy.

What does this all mean? For one, that higher interest rates can be a double-edged sword — a factor for both good and bad. The important thing is you always stay aware. Because as Canada and the world itself motions toward a higher rate environment, you and your cost of living will be going along for the ride.

  Real Estate