Because lenders often refer to the prime rate, Canada residents usually understand that prime rates affect what they pay for credit, including mortgages. On this page, we have put together what many consider the most helpful guide to prime rates in Canada and how they influence variable-rate mortgages. This will help you better understand the different variable-rate mortgage products that are also accessible on our site.
Understanding the prime rate in Canada is important because of the way it affects the variable mortgage rates set by different banks in Canada. To understand the prime rate, however, you must first know something about the Bank of Canada and its work.
The Bank of Canada is Canada’s national bank that overseas the printing of Canadian money and is tasked with preventing economic growth from spiraling out of control in either an inflationary or deflationary spiral. In order to moderate or influence economic growth, the Bank of Canada sets the target for the overnight rate, which is also known as the key interest rate or the key policy rate. This overnight rate is the rate of interest at which the major banks borrow money from other banks. Closely related to this is the Bank Rate, which is the rate of interest that the Bank of Canada charges financial institutions to borrow money from the central bank. The bank rate is always the target for the overnight rate plus 0.25 percent.
If the Bank of Canada fears inflation, it will usually increase the target for the overnight rate, which increases the cost to borrow from other major banks and the Bank of Canada itself. This tends to slow the entrance of new money into the economy, thereby curbing inflation. If economic growth has slowed, the target for the overnight rate is often lowered. This lowers the cost of borrowing money, which encourages investment in new jobs and industries in both the public and private sectors. Since November 2000, the Bank of Canada has met eight times a year to decide whether or not to change the target for the overnight rate. The Bank meets once a month in every month of the year except February, June, August, and December, although emergency meetings to change the rate sometimes happen at the bank’s discretion.
Since banks set their prime rates based on the target for the overnight rate, changes in the overnight rate target also causes prime rates to increase or decrease in turn. Each bank sets its own prime rate, but there is not typically much variation between banks as to the prime interest rate that each of them charges because it is so closely tied to the target for the overnight rate.
The reason all of this is important for mortgages is that a lender’s variable interest rate is always based on the lender’s prime rate. Usually, the variable rate is expressed as the prime rate plus or minus a certain number of percentage points. To put it most simply, as the target for the overnight rate changes, so does each lender’s prime rate, and as each lender’s prime rate changes, so does the rate each lender charges for its variable-rate mortgage products.
Since the target for the overnight rate is based on economic pressures such as inflation, deflation, and whether or not the economy is in a recession or a period of rapid growth, you can generally predict the direction that prime rates and variable rates are going to move based on the state of the economy. Variable-rate mortgages tend to be less expensive during a recession than during a period of growth because the prime rate in Canada that each lender sets is lower than it is during times of growth. This is based on the overall tendency for the overnight rate target to be lower during a recession as well.
In recent years, Canadians have enjoyed one of the lowest average prime lending rates in history. As of July 2012, the target for the overnight rate in Canada is 1 percent, and because of this, the average Canadian prime rate has been low as well, staying right at 3 percent or so. During the period 1990–2012, the target for the overnight rate averaged 6 percent, with a record high of 16 percent (February 1990) and a record low of 0.25 percent (April 2009). The current rate of 1 percent is clearly well below the average rate during the past twenty years.
As we have seen, each lender in Canada sets its own Canadian prime rate based on the target for the overnight rate set by the Bank of Canada. Here is a list of the prime rates set by the major banks in Canada as of August 2012 and information on when they were last changed.
• Bank of Montreal (BMO) — 3 percent (since September 2010)
• Canadian International Bank of Commerce (CIBC) — 3 percent (since September 2010)
• HSBC Bank Canada — 3 percent (since September 2010)
• ING Direct — 3 percent (since September 2010)
• National Bank of Canada — 3 percent (since September 2010)
• Royal Bank of Canada (RBC) — 3 percent (since September 2010)
• Scotiabank — 3 percent (since September 2010)
• TD Canada Trust — 3 percent (since September 2010)
This list indicates that as of August 2012, all of the major banks in Canada have had a prime rate of 3 percent since September 2010. That represents an increase of 0.25 percent from the former average 2.75 percent prime lending rate in August 2010. As long as the current recession continues, these rates are likely to stay quite low. In any case, pay attention to the economy. When it is growing, variable mortgage rates are going to be higher than they are during a recession. This means that a recession may be the best time to buy a home if you intend to get a variable-rate mortgage.