How a US interest rate hike affects Canadians, oil and the loonie
For the first time in a year, the U.S. Federal Reserve has hiked its key rate by a quarter of a percentage point to 0.75 per cent, fuelled by strong economic growth. This stands in contrast to the Bank of Canada‘s decision to hold its rate at 0.5 per cent, amid sluggish growth.
Wednesday’s hike had already been priced into the market, said TD Bank Group deputy chief economist Derek Burleton. That means there shouldn’t be any dramatic reactions, but there will be ripple effects.
Here’s how the rate hike could be felt in Canada.
“The Canadian dollar is at risk of decline, the U.S. dollar could strengthen, but my hunch is we’re not looking at any large market movements,” said Burleton.
What this hinges on is the indication of how many rate hikes the Federal Reserve has in store for next year. There are four opportunities a year to raise the rate.
“If they signal fewer than four and the U.S. dollar goes down, then the loonie could take off,” said Colin Cieszynski, chief market strategist at CMC Markets Canada.
The suggestion of fewer hikes next year could be due, in part, to a wait-and-see approach by the Fed, hinging on President-elect Donald Trump’s plans for stimulus projects next year.
“My best guess is the Fed takes a cautious approach,” said Burleton.
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The price of oil is unlikely to see much movement, said Burleton, due in large part to its current surge thanks to news of a deal to cut production globally.
However, “if the U.S. dollar goes up, all things equal, that tends to pull down oil prices,” said Burleton.
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The Bank of Canada has held off on raising its key interest rate, and while there won’t be a knee-jerk reaction to the Fed’s decision, it does send things on an upward trend.
“Canada may not necessarily come under pressure to follow the Fed in raising rates, but it certainly discourages the Bank of Canada from cutting rates,” said Cieszynski.
We’re unlikely to see a rate change unless Canada’s economy suddenly kicks into high gear — which would increase the pressure to raise rates, Cieszynski said. Should there be a major emergency (such as a U.S.-style housing crisis), we could see rates drop in order to stimulate growth.
However, the days of rock-bottom interest rates are pretty much behind us.
“In general I think what we’ve seen is, we’ve reached the end of this big long monetary easing cycle, low-interest rates cycle, in some places negative interest rates,” said Cieszynski. “We’re slowly starting to go back the other way.”
This should carry a note of caution for Canadians, as the debt-to-income ratio continues to see record highs.
As interest rates rise, so do mortgage rates.
“If interest rates around the world start to rise, then that could put pressure on the banks to raise mortgage rates at some point,” said Cieszynski.
We’ve already seen mortgage rates in Canada start to creep up, a trend that is unlikely to reverse.
The federal government has put new measures in place to protect against a sudden rate increase triggering a devastating housing market correction.
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