Bank of Canada raises interest rates—again, but how will it impact everyday Canadians?

Prices have been climbing, and it can feel like the Bank of Canada is working against us by

increasing interest rates. Indeed, the Bank of Canada raised the benchmark rate another 25

basis points last week for an overall increase from 0.25% to 4.50% in less than a year. This may

lead Canadians to ask, why has the Bank of Canada been increasing interest rates, and what

does the benchmark rate mean for my student loans, debt, mortgage and car payments? To

answer these questions, we need to understand the Bank of Canada, how it makes choices and

why.

The Bank of Canada largely operates independently, however, it is responsible to the

government through its mandate—to keep inflation around 2 per cent (within a band of 1-3 per

cent). Inflation is the rise of average price levels over time. While there may be a sudden price

increase to gas, chicken, or lumber, inflation is when the rise in prices is pervasive, wide and

encompassing. The inflation rate, year over year, reached a high in June of 2022 of over 8 per

cent.

The Bank of Canada targets a low, stable, and predictable inflation rate to support strong

economic growth. Stable prices preserve consumers and businesses confidence. Certainty in

the value of money helps Canadians make long term financial plans.

Financial institutions frequently borrow from the Bank of Canada at what’s referred to as the

“benchmark rate”. When the benchmark rate increases, it becomes more costly for financial

institutions to borrow money. Financial institutions pass that cost onto everyday Canadians

through the borrowing rates they charge. Put simply, the benchmark rate is the foundation to

all interest rates, if it increases, so do other interest rates. The higher the benchmark rate, the

higher interest rates the average Canadian will face when they borrow money.

As higher interest rates make it more expensive for Canadians to borrow money, many will

likely spend less and save more. This means that fewer goods and services are purchased and

demanded by Canadians and in response, firms will choose to produce less. These actions, in

turn, reduce average prices. Recall that inflation is a consistent rise in price levels, and by

shifting consumer demand, we can reduce price levels.

So then why has the Bank of Canada been increasing interest rates since March of 2022? To

influence consumers to buy fewer goods and services, which can in turn drive prices down and

reduce the rate of inflation.

Canadians are facing higher prices on everything from gas to groceries due to an increase in

inflation, while battling higher debt payments from increasing interest rates. Higher interest

rates discourage consumers from spending, which results in reduced prices levels. The Bank of

Canada expects to have inflation back to 2 per cent by the end of 2024, but only time will tell

whether the interest rate hikes will be sufficient to tame inflation.

The next scheduled announcement by the Bank of Canada is March 8 th , 2023.

Alexia Hill is a Master’s student at the University of Calgary’s School of Public Policy.