Essential Knowledge Series
Everyone knows when interest rates go up, generally borrowed funds are going to get more expensive. With that being said, most people who prepare for rate changes are looking to find out long ahead of time and prepare.
This isn't going to be a regular article about top-level, news conversation. If you're looking for an estimate, I would say there is a 90% chance of a 0.50% interest rate increase in July and a 20-30% 0.50% rate increase in September. I'll get into the reasoning below. This will help you prepare either way, whether rates go up or stay level.
Why are Interest Rates Increasing in the First Place?
The short answer is the Canadian interest rate chart below:
This chart from Tradingeconomics.com gives us a visual of what inflation has been over the last 25 years. What sticks out? Three dates: 2008-2010, 2020 and 2020-June 2022. In 2008 we had the start of the last great recession and people were scared to purchase so we actually had deflation. In 2020, the pandemic started and again, for a short time, people stopped purchasing because they were scared of what was next. Now, following the dip in 2020, we've seen a steady increase until the present date. Higher than what we've seen in the last 25 years.
But what is the cause of this inflation? There are two main factors that are causing prices to skyrocket. Free money and supply chain issues.
The free money includes the support money that was being given out by the government of Canada to Canadians who had lost their jobs or were laid off due to pandemic lockdowns. In many cases, people received this money and either saved it and are now spending it or spent it either way. In any case, these benefits gave a lot of money to people who might have otherwise still been working and/or never worked before. For example, students received benefits in Canada even if they hadn't been working.
All of this printed money added to the economy along with a short supply of every product led to the inflation we are seeing today. There are multiple issues that led to the supply chain issue but I'll only mention the two major factors.
The two main issues include the staff shortages due to covid and bad policy in many countries. These two issues are actually intertwined so I will mention both together. As most people know, a lot of people lost their jobs or were laid off due to the pandemic. In many of these scenarios, people were forced to stop working because of the government shutdowns. I'm not saying that these shutdowns weren't warranted, although the data now suggests they probably weren't, but they happened nonetheless. Fewer people working led to shipping troubles both internationally and nationally. Everyone remembers seeing the ships off the coast of Florida and California waiting to be unloaded.
In many of these cases, the product was en route but stuck on ships. That alone caused major issues, not to mention the employee shortage in North America. Fewer employees led to less production. In North America, this had a significant impact and more importantly in places like China, a major manufacturing country.
But down to the more important question, how many rate increases are we going to see. I gave my percentages earlier but what does history say?
As we can see in the chart above, many ups and downs. The key thing to notice about this chart is the lagging inverse relationship between rates and inflation. When rates go up, inflation comes crashing down shortly after. And when rates go down, inflation goes soaring up. Every one of those times, such as the early 70s, 80s and 90 will have had their differences, but the correlation has remained relatively consistent. The outstanding factors of during those time periods and today will have caused potentially greater increases/decreases in inflation but the general rule applies.
After looking at today's data, we don't really see a difference. We had historically low-interest rates for 2 years, now we are having historically high inflation. In each of these historical cases, after multiple increases, we've seen a significant decrease within a 3-year time span.
Am I saying that is what's going to happen now? I'm not sure. Although I would say we're more than likely to see rate decreases if we begin to see stagflation or even deflation. If that is the case, we'll likely see rates come down just as quickly as they've gone up. In other words, expect rates to continue to rise with inflation and once we see it level off, I would give good odds to immediate rate decreases.
If you're concerned about rates and want to have a chat to find out if you should be worried about your situation, don't hesitate to give us a call or email. We're always available to chat!
One last thing about looking into the future and at the past is, “More and more, I tend to read history. I often find it more up to date than the daily newspapers.” – Joe Murray
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