Both Japan and Sweden’s central banks have established negative interest rates. Now, the Central Bank of Canada is making plans to join the desperate move in an effort to bolster its economy.
Most people understand interest rates. It’s the amount of money a borrower pays a lender for the privilege of being able to borrow. When interest rates hit negative territory, it’s an indication of a serious economic problem. It means regular banks will be required to pay the central bank for the privilege of making a deposit.
To clarify, on a 1 percent negative interest rate, a Canadian bank would have to pay the Bank of Canada $10,000 to deposit $1 million dollars. That means the bank loses money with every deposit it makes to the Bank of Canada. Theoretically, the goal behind negative interest rates is to encourage banks to lend more money instead of hoarding it. Should the Bank of Canada cut its interest rates to minus 0.5 percent, banks would lower their lending rate between 1 and 1.15 percent to make borrowing more attractive to consumers. Who wouldn’t want to borrow money at around 0 percent interest rate?
A bank dealing with negative interest rates can then turn around and charge its customers to keep their money. If you deposit $100.00, the bank may keep $1.00 just to hold your money, leaving you with $99.00.
In all likelihood, the Bank of Canada will move to negative interest rates in the second quarter of 2020 if the U.S. Federal Reserve lowers its rates by 25 points in 2019, according to CIBC senior economist Royce Mendes. Mendes believes this will create a negative impact on the Canadian economy. Falling oil prices and President Trump’s trade wars will also affect how the Bank of Canada sets its interest rates. Fourth Quarter GDP dropped by 0.4 percent, while policymakers anticipated an annual GDP growth of 2.3 percent. The revised economic predictions are that GDP will increase only by 1.2 percent. These weak numbers are an indication of more possible economic problems ahead.
Whatever action the Bank of Canada will take is still uncertain, as Stephen Poloz, director of the Bank of Canada, is in favor of a rate hike. Currently, its interest rates have remained steady at 1.75 percent. However, Canada’s stalled economy has the government worried about rising inflation. The Bank of Canada may well attempt to counteract inflationary concerns by lowering its interest rates. Mr. Poloz has called the state of the Canadian economy “fragile.” The Canadian dollar lost a penny of value recently, trading at $.74 cents.
In addition, the Canadian economy is being influenced by the U.S. tariffs on China and Mexico. These are simply more reasons why the Bank of Canada may institute negative rates sometime next year. Chairman of the Federal Reserve Jerome Powell has already stated his willingness to cut interest rates if the current economic climate persists. There has been no mention of any rise in interest rates.
Canada may soon be facing the hiding problem with negative interest rates. While the intent is to stimulate the economy through increased borrowing, history has shown that banks are reluctant to extend negative interest commercial loans. As a result, businesses are likely to suffer, and the economy will likely continue its downward trend. It appears that the Bank of Canada may not have the interest of the country at heart.