Bank of Canada lowers interest rates to spur growth!


The Bank of Canada cut its main interest rate to a record low on Tuesday and signaled for the first time that it may take extra steps to pump money into a system that remains stubbornly short of credit.

OTTAWA — The Bank of Canada made a bet Tuesday that, if interest rates were virtually zero, businesses might be more inclined to borrow to build new factories, buy new equipment, and put unemployed Canadians back to work.

The central bank lowered its key overnight rate Tuesday to 0.5 per cent — a record low — and many observers say the bank could even take the rate as low as it could go, to zero, in all all-out effort to make it cheaper and easier for commercial banks to lend money and spur economic growth.

Several commercial banks did lower some of their interest rates within hours of central bank’s announcement.

But the new, lower rates are unlikely, by themselves, to get the economy moving again.

“You can have the cheapest money in the world, but if people keep reading about the layoffs and falling housing prices, that takes away confidence and makes people much more cautious about borrowing, and leaves all the stimulus that you’re trying to put in place basically on the sidelines,” said Warren Jestin, chief economist at The Bank of Nova Scotia.

Consumers tend not to respond to incremental changes in interest rates, in any event, and while business borrowers sometimes respond to those small changes, many businesses right now are worried about their ability to pay any loan, regardless of the terms.

“In a recession, entrepreneurs tend to stay a bit on the sidelines when it comes to developing a new project, putting up a new plant, buying new equipment. They generally want to wait,” said Jean-Rene Halde, the CEO of Business Development Canada, the federal Crown corporation responsible for making loans to businesses.

“So, in a recession, we see (fewer) projects being started. It’s one of the reasons we have a recession,” Halde said.

As far as consumers go, changes in the overnight rate charged by the Bank of Canada is not their biggest motivation. Certainly, interest rates that stay low over time make things such as homes and cars more affordable. But economists say a quarter-point here or a quarter-point there from the Bank of Canada will have a negligible effect on consumer behavior.

Indeed, consumers in Canada have been happily enjoying interest rates that are at low levels not seen in a generation. The number of mortgages taken out by Canadians as of December was 10.7 per higher than in the same month last year. Overall consumer credit, which would include mortgages, credit cards, and car loans, was up 9.1 per cent to about $416.2 billion at the end of December. By contrast, consumer credit in the U.S. has been shrinking.

The biggest motivating factor for consumer borrowing is job security. When consumers are confident they’ll have a regular paycheque, they’re more likely to sign up for those monthly payments on everything from new TVs to new homes.

Jestin says that, with recent job losses — nearly 250,000 Canadians lost their jobs between November and January — consumer demand for credit is almost certain to weaken, no matter the interest rate.

As for business borrowers, the Bank of Canada is hoping the cost of borrowing will be seen as too good for even the most conservative business manager to pass up — and those business managers will respond by borrowing for new investment to create new jobs.

But even that assumption is flawed, said Jestin. “You knock off 50 basis points at these levels, and it’s not likely to have a big effect. We’ve gotten to levels now that are so extraordinarily low that the degree of further impetus in the economy is extraordinarily limited.”

Furthermore, savvy business managers know that low interest rates will be here for a while, which means there’s no rush to start up a new project until they can be sure of firming market conditions.

“That’s the confidence problem,” Halde said. “(Businesses say) I have a great project, but maybe I should wait three months or six months before starting it. They may say, at this price, it’s time get going. And that’s obviously the hope.”

Bankers such as Halde say most of the lending they’re doing nowadays is to shore up existing projects.

But can the Bank of Canada do better than zero and make the cost of borrowing too good to pass up? It can, by using what it described Tuesday as “non-traditional” ways of lowering the costs commercial banks pay to get more money, which they, in turn, lend out to businesses and consumers. The Bank of Canada could, for example, start buying up assets, such as Government of Canada bonds, held by Canadian banks. If the Bank of Canada did this, it would essentially be pumping more cash into the system — and cash, as any good, responds to the forces of supply and demand. When there is more cash available, it tends to be cheaper to borrow it.

0 replies

Leave a Reply

Want to join the discussion?
Feel free to contribute!

Leave a Reply