Interest rates drop half a point

April 24, 2008 - 10:20

OTTAWA -- For the second time in eight weeks, the Bank of Canada has slashed its policy-setting overnight interest rate by half a percentage point to three per cent.

Bank of Canada governor Mark Carney ordered the cut Tuesday. It has signalled the need for lower consumer borrowing costs and hinted further interest rate cuts may be required to shield Canada from a worse-than-expected slowdown in the United States.

To achieve the desired economy-boosting effect of lower rates, the central bank relies on commercial banks in turn to reduce borrowing costs for consumers, variable-rate mortgage holders and business borrowers.

Commercial banks, squeezed by a nine-month-old credit crunch, waited until late in the day to follow the Bank of Canada's lead by chopping their prime lending rates.

TD Canada Trust became the first major bank to lower its prime lending rate by 50 basis points, to 4.75 per cent. Royal Bank of Canada, the Bank of Montreal, the Bank of Nova Scotia and the Canadian Imperial Bank of Commerce all followed suit with similar decreases, effective Wednesday.

Still, a perceived reluctance by the commercial banks to move quickly on prime rate cuts is raising pressing questions about Mr. Carney's ability to use his most important economic policy tool effectively.

Economists agree a reluctance on the part of Canada's banks to echo Mr. Carney's moves could undercut the Bank of Canada's ability to steer the economy.

In separate speeches in Durham last Friday Finance Minister Jim Flaherty addressed two Durham area organizations including the Durham Region Association of REALTORS annual general meeting held at the Holiday Inn, Oshawa. Later he attended the Durham Region Homebuilders' Association annual awards ceremony at Deer Creek banquet hall in Ajax. He focused on the 2008 Economic Budget and how it plays an integral role in the housing market.

The MP for Whitby-Oshawa noted the importance of low interest rates to support a Canadian housing market that is not in recession like the American market is.

The federal government has already moved to boost the economy at a time of global uncertainty by announcing corporate and personal tax cuts and a reduction in the GST in the fall mini-budget.

Low interest rates have helped drive the housing industry, which in turn supports a healthy economy, he said. That was especially the case, he said, when he was Ontario's finance minister in 2001-2002.

"If it wasn't for your industry the province of Ontario would have gone into recession," said Mr. Flaherty.

"Fortunately, we have strength in our housing market here thanks to you, thanks to the quality of construction, thanks to the financing system we have in Canada; a more responsible financing system perhaps than we have in other economies."

After the subprime mortgage meltdown in the U.S., Americans are going through a substantial correction in their housing market with many losing their homes because of mortgage foreclosures.

It will take time for the credit crunch to work its way through the U.S. economy, he said. It is affecting mortgage availability in the United States, credit markets everywhere and some Canadian banks although the latter are well capitalized.

About 40 per cent of subprime mortgages sold in the U.S. were sold to people in their own homes and some of these people are losing homes now because they were told you are richer than you think and "you can afford that big truck and you can afford that big car."

"This is the kind of thing I'll be talking about with our financial institutions as we go forward and we make sure we don't encourage consumer behaviour that at the end of the day is not in the best interest of people and perhaps encourages people to overextend in terms of credit," said Mr. Flaherty.

As with his G7 counterparts, he will be meeting with heads of Canada's financial institutions with hopes of getting them to live by a set of standards regarding disclosure and reporting publicly so "people will know the risks they are taking in investing" and prevent a repeat of the events of the last year.

"Interest rates are low, inflation is low and stable, our budget is balanced, we run a surplus and I will continue to run a surplus. Unemployment is still the lowest in a generation (33 years). Our economic fundamentals are the strongest in the G7," he said.

--Torstar News Service with files from Kim Downey

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