Understanding Interest Rates
For borrowers, low interest rates are positive as the interest
cost on mortgages and other loans is reduced. For investors, however,
low interest rates mean a reduction in the interest earned from
fixed-income investments.
People often talk about interest rates going up and down as if
all rates moved together. In reality, there are many different
interest rates influenced by a variety of factors.
Short-Term Interest Rates
Short-term interest rates generally refer to periods of one year
or less and are influenced through changes or expected changes
to the Bank Rate, which is used by a country’s central bank
to manage the pace of growth in the economy.
How the Bank Rate is managed
If the Canadian economy is growing at a rapid rate, the Bank of
Canada may become concerned that inflation will rise, leading to
an overall increase in the price of goods and services. To offset
inflationary pressure, the Bank Rate is often increased in an attempt
to slow growth and keep prices from rising too quickly.
Impact of changes to the Bank Rate
An increase in the Bank Rate results in a higher cost of borrowing.
This usually slows overall levels of spending, which translates
into more moderate economic growth. Similarly, if the Canadian
economy is slowing, the Bank of Canada may lower rates in order
to stimulate spending and economic growth.
There are two key points to understand about short-term interest
rates:
- Changes to the Bank Rate will generally affect other interest
rates, including mortgage rates and other lending rates charged
by banks (e.g. prime rate).
- The Bank Rate is the only Canadian interest rate that is directly
controlled by the Bank of Canada. All other interest rates in
the market are driven by supply and demand.
Long-Term Interest Rates
While changes in short-term rates will impact long-term rates,
there are a number of additional factors to consider. Long-term
interest rates are primarily driven by supply and demand in anticipation
of future levels of inflation, economic growth and investor confidence.
Just as the value of a company’s stock will fluctuate based
on expectations for the future, long-term interest rates will also
change based on the outlook for the economy and investor confidence.
Talk to your advisor about how changing interest rates impact
your portfolio. Your advisor can help you determine appropriate
investment solutions for your portfolio in the current environment.
To learn more about developing an investment plan, please continue by choosing one of the following
topics:
To learn about individual RBC Funds and how they can address your
investment objectives, access our Fund
Updates. If you are ready to invest now, contact your advisor
or explore the options
available to invest with RBC Financial Group.
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