The Bank of Canada raised its benchmark interest rate by half a percentage point to 1% on Wednesday in its latest move to contain high inflation.

The bank interest rate affects Canadian businesses and consumers by affecting the rates they pay and receive on things like mortgages, GICs and savings accounts.

The bank cut its rate to barely above zero in March 2020 when the pandemic began.

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While the move helped the economy ride out the unprecedented uncertainty of COVID-19, in recent months inflation has returned to its highest level in decades, prompting the central bank to start unwinding all that credit. cheap.

“Inflation is too high,” Bank of Canada Governor Tiff Macklem said at a news conference announcing the news. “We need higher interest rates.”

WATCH | Bank of Canada Governor Tiff Macklem explains the need to reduce inflation:

It’s the second time in as many months the bank has raised its rate, and as such Wednesday’s move is both the bank’s first consecutive rate hike since 2017, as well as its biggest single hike. since the year 2000.

Economists expected this change, and with inflation flirting with 6%, they expect more to happen, at least until the central bank rate hits 2% – and maybe beyond.

Sell ​​bonds too

Raising rates isn’t the only thing the bank is doing to remove stimulus from the economy,

Earlier, during the pandemic, the bank launched a bond-buying program to keep money flowing and reduce borrowing costs. Known as “quantitative easing”, the bank has been signaling for some time that the bond-buying program may be coming to an end, and on Wednesday the bank announced that it is now moving in the opposite direction, getting rid of all these obligations on its books as they expire.

“Maturing Government of Canada bonds on the bank’s balance sheet will no longer be replaced and as a result the size of the balance sheet will shrink over time,” the bank said.

WATCH | Rate hikes will not be enough to control inflation, according to this economist:

Bank of Canada rate hikes won’t reduce inflation, expert says

Inflation in Canada is driven primarily by global forces such as the war in Ukraine and supply chain disruptions, says Frances Donald, chief global economist for Manulife Investment Management. This means that interest rate hikes by the Bank of Canada will not help reduce inflation, but could reduce growth. 3:54

This will increase the cost of borrowing, because removing the central bank as the guaranteed buyer of all these bonds will force those who issue them to have to pay a higher rate to borrow money.

These rates were headed higher even before the bank’s decision. The yield on a five-year bond rose above 2.7% this week, the highest rate since 2013. Just a month ago it was below 1.5%, and at some point earlier in the pandemic, it bottomed out below 0.5%. hundred.

The bank’s decision to implement a “quantitative tightening” program will drive these yields even higher, making fixed-rate mortgages more expensive.

Variable rate loans, on the other hand, are pegged to the bank’s rate, so they will also be directed higher accordingly. Within hours of the central bank’s decision, Canada’s five largest lenders – RBC, TD, Scotiabank, CIBC and BMO – had raised their prime rate by 50 basis points to match the central bank’s rate hike.

Harder to buy

Anyone with a fixed rate loan is sheltered from the higher rates for now because they’ve locked in, but one of the biggest impacts of this rate hike will be on first-time buyers. , as higher rates will raise the bar for the stress test which calculates how much they are allowed to borrow.

Mortgage broker Leah Zlatkin of Lowestrates.ca says the exact amount will depend on people’s circumstances, but in general, every 25-point move in the bank rate results in a loss of about $12,000 in purchasing power. Wednesday’s 50 point hike is double that.

“Because of this, people are going to be entitled to a little less money than before,” she said in an interview.

Although home loans are the most obvious way interest rates affect Canadians, anyone in debt is likely to feel the effects.

The other more expensive debts too

In Edmonton, Michelle and Candace Lister know firsthand how manageable debt is usually until it’s not. Although they both earn good incomes and own their homes, their stable financial lives began to deteriorate after a car accident destroyed their vehicle in 2019.

They owed more money on their written-off van than it was worth, so that debt was turned into a new car loan in 2020.

Then they both contracted COVID-19, which left them unable to work for a time, which caused their income to plummet while they were on CERB to the point where they could no longer keep up with payments.

“We ended up going deeper and deeper into credit cards and then it was really hard to get out of it,” Michelle told CBC News.

The couple are currently negotiating a settlement with their creditors, but they feel compelled to share their story as a cautionary tale to others about how easy it is to drown in a high rate environment.

“I think there are more people than you might imagine…in the same situation,” Michelle said.

Rate hikes are ‘good and bad’

Bank rate changes can be bad news for borrowers, but they also have a positive impact on the other side of the ledger. Toronto resident Paul Fotia is a fixed-income retiree, and he says anyone trying to live off their savings will appreciate higher rates.

“The people who are negatively affected by it certainly outweigh the others,” he told CBC in an interview, “but hopefully it will do what it’s supposed to do with the rate of inflation.”

He remembers a time when something as simple as keeping money in a bank could earn a saver 14% or more. “Now you have to look for places to put it and scratch…a few percentage points.”

That’s part of why, for consumers, rate hikes are “both good and bad,” according to Bruce Sellery, CEO of Credit Canada Debt Solutions.

“They are bad in that it will cost you more to borrow money, but they are good in that they are the action a central bank can take to try to control inflation,” he told CBC News in an interview.

Canada’s inflation rate hit 5.7% last month, and the price of everything from food to housing to gasoline is rising at its fastest rate in decades. “Something has to be done so that we don’t pay such ridiculous prices for things,” Sellery said.