Interest rates will soon return to more normal levels after more than a year of loose monetary policy, says a manager with BMO Financial Group in Red Deer.
“Our BMO economics department, they predict the rates are going to move up between now and 2015 at kind of a steady incremental pace,” said Ross Purdy, senior manager for agriculture and agribusiness with the Bank of Montreal.
“Right now, the Bank of Canada prime (overnight rate) is 0.25 percent. They predict that it will go up to 3.5 percent, for an increase of 3.25 percent by end of 2011.”
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The overnight rate, which is the interest rate at which major financial institutions borrow from each other for one day, has remained at 0.25 percent in Canada since April 2009.
However, economists at BMO and forecasters at other Canadian banks believe this period of cheap money will soon come to an end.
According to outlooks on their websites, TD Bank and RBC Royal Bank are also forecasting an overnight rate of 3.5 percent by December 2011.
TD Bank economist Diana Petramala said the anticipated rate hike is connected to expectations that the Canadian economy should return to full capacity by the end of 2011, which means interest rates will have to rebound to a more normal level.
“Interest rates should be back somewhere in the neutral zone,” Petramala said.
“The neutral rate, for the Bank of Canada (overnight rate), is about 3.25 to 4.0 percent.”
An overnight rate of 3.5 percent equates to a prime lending rate of 5.5 percent, Purdy said, which means borrowers have an opportunity now to fix low rates.
“As you go forward, you’re not going to get the opportunity to lock in at a lower rate in the near future.”
Purdy said the benefits of locking in rates vary from farm to farm, but all producers should test the financial sensitivity of their operation by asking “what if?” to determine the amount of risk they’re willing to tolerate.
“Assuming prime goes to seven percent, what does that mean to my individual operation?” he said. “If the rate is at seven and I’m still OK, perhaps continue floating the rate.”
However, if such a rate would make it difficult to service existing and potential debt, producers should lock in as soon as possible.
“What are the opportunities right now for a three, five or seven year term rate?” Purdy said.
“If you’re comfortable with that rate and your farm operation can meet the commitments based on that rate, then I’d go ahead and seriously consider fixing some, if not all, of the term operating advances that you may have.”
Purdy said producers who are going to fix their debt should also think about stabilizing their income.
“They may want to look at locking in prices, as far as what they’re selling, so they can minimize those risks in the operation.”
Producers should also consider all options before applying for another loan.
“Maybe not just borrowing money to purchase something. Looking at leasing, looking at renting, looking at sharing with other people.”
However, Petramala said borrowers who are planning to lock in a long-term loan should act now.
“We anticipate that the Bank of Canada will start to hike interest rates as of June 1 and move up a gradual 25 basis points thereafter,” she said.
