The pros and cons of BoC’s interest rate cut

Market-linked GICs could see lower returns

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TORONTO – In slashing its key interest rate to 0.5 per cent, the Bank of Canada is aiming to boost both consumer spending and business investment by providing cheaper access to capital. But the rate cut could also pose some risks to the country’s economy.

Here is a look at some of the positive and negative implications that could stem from the central bank’s announcement Wednesday:

TOURISM: Rate cuts tend to make a country’s economy seem less attractive to foreign investors, which typically drives the currency lower.

Canadians looking to vacation abroad may have to dig a little deeper into their pockets, as a slide in the value of the loonie reduces their purchasing power. On the plus side, a cheaper loonie could lure more Americans north of the border, a boon to the Canadian tourism sector.

Bank of Canada governor Stephen Poloz offers the following travel advice.

“Try to get yourself a room somewhere in P.E.I. this summer,” Poloz said after announcing the rate cut. “It’s going to be a good year.”

How the Bank of Canada influences mortgage rates »

MORTGAGE DEBT: Variable-rate mortgage holders could get some relief as Canada’s big banks move their prime rates lower. TD Bank (TSX:TD) was the first out of the gate to announce a reduction in its prime rate — which is used to determine variable-rate mortgages, home equity lines of credit and other kinds of variable-rate borrowing. But the lender only passed on 10 basis points of savings to borrowers, rather than the full 25 basis point cut.

The Royal Bank later decreased its prime lending rate by 15 basis points to 2.70 per cent.

Reduced mortgage rates could cause house prices to soar higher in red-hot markets like Toronto and Vancouver, says Phil Soper, CEO of Royal LePage. That could leave some Canadians struggling to service their debts once interest rates begin to rise.

But Soper says the second consecutive rate cut could also reduce consumer confidence and temper home sales to some extent, thus reducing the impact on consumer borrowing.

Interest rates and you »

INVESTMENTS: People stashing their money in high-interest savings accounts and market-linked GICs — instruments that are both tied to the prime rate — could see lower returns, according to Penelope Graham of RateSupermarket.ca.

“This is really discouraging for savers, because they’re saving their money and they’re getting less of a return back,” says Graham, who recommends exploring alternative avenues such as fixed-rate GICs.

Soami Kohly, fixed income portfolio manager at MFS Investment Management, says the stock market could see a bit of a boost, as the weaker loonie will likely serve as some stimulus for Canadian exports.

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