Who wins and who loses when the Bank of Canada raises interest rates?

So who are the winners and losers?

A report by Equifax indicates that Canadians are incurring more consumer debt. In Q2 it rose to $2.32 trillion, representing a 8.2% increase in comparison to last year. Credit card balances, or the amount people owe, reached its highest level since 2019. The average credit limit on new cards now surpasses $5,800, which is the highest level in the last seven years.

“Without a doubt the main losers are those with variable-rate mortgages, but we should also include those with personal lines of credit and those who carry credit card debts, as these tend to carry variable rates as well,” says Brown.

During the pandemic, Canada’s No. 1 worry was deflation, explaining why the Bank of Canada lowered its overnight interest rate to 0.25, spurring Canadians to save — and spend — post-lockdown. However, as inflation started to take hold, the rate was increased to 0.50 in March this year, one in April, 1.50 in June and then hit a huge jump to 2.50 in July. In September, the bank made the move to 3.25%.

According to a July Canada Mortgage and Housing Corp report, the allure of the low interest rates era made about 53% of homebuyers and loan renewers opt for variable-rate mortgages in the final six months of 2021.

However, following the increase in interest rates, there was yet another reaction when more buyers moved back to fixed-rate mortgages. Fixed-rate mortgages were about 49% of all home loans in May, up from 43% in March — the lowest proportion since the Bank of Canada started tracking the data in 2013.

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Debt a key factor

Factoring in debt is also key to understanding the winners and the losers.

“Canadians and small businesses with a lot of outstanding debt incurred at a variable interest rate are big losers in this hike,” Nikola Gradojevic, professor of finance at the University of Guelph.

This also includes Canadians who are retiring soon but are still paying their variable-rate mortgages, and those with a lot of credit card debt, he added.

“Because banks will adjust interest rates on cards to stabilize their interest income during the hike. However, the extent of the adjustment will also depend on borrowers’ credit scores,” Gradojevic explained.

The Sept. 6 Equifax report shows that the average non-mortgage debt per consumer is now $21,128, an increase of 2.4 per cent compared to Q2 2021.

Variable interests simply make debt heavier, at least in the recent months.

“The unpaid principal amount for such loans is relatively large and the resulting interest payments (calculated as the percentage of the principal amount) will increase with the interest rate hike,” said Gradojevic.

Are GICs the winning ticket here?

Those who are lucky enough to be debt-free and have cash to invest, may be well positioned to benefit from higher rates.

Reports have emerged that more and more Canadians are opting to invest in Guaranteed investment Certificates (GICs) since rates have passed the four percent figure.

In late August, RBC’s chief financial officer Nadine Ahn said more than $10 billion was pushed into the GIC book. But are they the winners?

“Those who invested in variable rate GICs will surely benefit from interest rate increases,” says Gradojevic.

However, Gradojevic explained that the case doesn’t apply for those who invested in fixed-rate GICs.

“The investment return on a variable rate GIC is linked to the so-called prime rate that commercial banks use to calculate interest rates for variable loans, lines of credit, and variable-rate mortgages,” added Gradojevic.

“When the Bank of Canada’s policy interest rate goes up, so does the prime rate.”

There is also another caveat for savers.

“Savers are only better off if they have cash holdings that can now be saved at higher rates, but any savers who are also invested in equities or housing will have also seen the value of those assets decline,” Brown said.

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Not always black and white

When trying to further clarify who is the winner and the loser, there can be numerous factors that can complicate things. However, there are general rules that some experts use to judge.

David Gray, professor of economics at the University of Ottawa, says “More generally, unanticipated inflation hurts savers and helps borrowers.”

“Once the actual inflation has been factored into nominal interest rates, then borrowers start to lose,” Gray adds.

For those suffering from the scorching heat of debt, Gradojevic advises to refinance any current variable-rate debt if it is “sensible,” lower consumption when possible and invest in a high interest savings account or term deposit.

“Be patient, the light at the end of the tunnel may be closer than you think,” said Gradojevic.