The Bank of Canada increased the key rate by 4.75% in less than two years, from 0.25% to 5%. These successive increases have created a major multiplier effect, particularly on mortgage payments and enormous financial pressure on family homeowners.
Nothing, to my knowledge, would prevent the Bank of Canada from establishing a modulated key rate, that is to say a separate rate for the economy and/or to slow inflation, as it is today ‘today at 5% and with this in mind why couldn’t we establish a sub-key rate of 2% specifically reserved for the savings and mortgage sector. This new modulation of rates would have the effect of reducing the base rate for this sector to 4.2%.
Remember that the central bank was created in 1934 to, in particular, stimulate the economy after the Great Depression of 1929, regulate the Canadian currency and lend to banks according to the key rate it sets. Incidentally, the institution specifically exercises its power to tackle inflation when it gets out of control.
Mortgage pressure
The prime rate, when increased, creates enormous stress especially on mortgages. First of all, on the base rate of Canadian chartered banks (the latter add 2.2% to the key rate to find their profits). Here is a use: on April 14, 2022, the base rate was at 3.20% whereas today it is 7.20%, a difference of 4 points, leading to a catastrophic consequence on monthly mortgage payments.
Another example, purchasing a house or apartment in a condominium in the greater Montreal area during the COVID period generally required bidding up by 10%, 20%, or even more, compared to the asking price. It was not uncommon for a buyer to have to take out a mortgage at the limit of their financial capacity.
The purchase in April 2022 of a property for $350,000 would have required its buyer to take out a mortgage loan of more or less $300,000 at a variable interest rate of 3.20% over 5 years, amortized over 25 years.
The amount of his monthly payments would have been $1,450.70. Today, with an interest rate of 7.20%, his monthly payments would instead be $2,138.42, an increase of $687.72 or 47.41%! Let’s imagine the pressure on those whose mortgage renewal deadline is imminent!
Ultimately, if there were a key sub-rate for this key sector of the economy, today the mortgage rate would be reduced to 4.2% and, in the example mentioned above, the monthly payments would be 1610 $.75, an increase of $160.05 or 11.03%, still representing a significant increase, but certainly more acceptable.
There is undoubtedly a great paradox between the fact of increasing the key rate aimed at reducing inflation and the pressure that this same rate induces on the cost of housing. According to Statistics Canada: “The increase in borrowing costs has contributed to the acceleration in the average annual growth of rental prices and the cost of mortgage interest. The mortgage interest cost index increased by 28.5% in 2023.”
As housing represents more or less 35% of the budget of a person or a couple, we can easily think that the pressure on inflation will not decrease, quite the contrary.
With this in mind, it could be judicious and both daring for the Bank of Canada to consider this strategy of a modulated key rate. Some will say that this has never been done, one more reason to dare!