What is an Interest Rate?

Whenever someone deposits their money in the bank, the bank pays them an interest on the deposits. This rate of interest is determined by various factors such as the bank’s policies, the duration of the deposit and the type of deposit – whether fixed or recurring. Banks in Canada are obliged to follow the federal government’s guidelines when it comes to their interest rates, yet their range may vary due to the wide array of options for depositing available to customers. Deposits for post retirement benefits are recurring for a long period and so normally earn a good interest. When the banks lend money to its customers, it charges interest based on the prime rending rate, which is decided by the central bank, the Bank of Canada. The rate is very essential to a bank for its very survival as the banks majority source of revenue is the interest.

Due to the current economic climate across the world, governments everywhere are announcing stimulus packages and it has been beyond any doubt that these packages help in reviving the sluggish economy. One way for a government to do that is to announce a cut in its lending rates, which affects the prime rending rates which in turn helps banks sanction loans to customers at a much lower interest rate, thereby encouraging people to borrow for all sorts of reasons like buying a house, a car, etc.

A Bank of Canada report on this issue says that the monetary policy and fiscal stimulus have a great effect on the revival of the economy and help in stabilizing the global financial system, and arresting the economic downturn. Research has also shown that even marginal difference in the prime lending rate can affect how and when people buy houses, cars, travel and choose to pay for higher education, etc. All long term major purchases are affected by the rate of interest of a bank loan. The Bank of Canada in its April Monetary Policy Report has stated that as the Canadian economy is starting to rejuvenate, its rates remain unchanged. It can alter its lending rate as and when needed to ensure stable economy and low inflation.

Currently, the Bank of Canada has extended its record low interest rate to help the economic revival and the common man reeling under these tough times. The Bank has plans to leave its rate untouched until the second quarter of the next year to help the Canadian public and to stabilize the Canadian dollar. However a strong Canadian dollar can make life difficult for exporters as they will lose their competitive edge, which will in turn affect earning of foreign exchange. Thus the central bank and other banks decide on their interest rate and policies after careful deliberation and debate as they can have such far reaching consequences. Pension savings mean a lifetime commitment from the customer to the bank and so they normally attract a good rate of interest. Thus the bank’s rate of interest affects the entire economy one way or the other.