Lang Insights: The impact of higher interest rates

“Interest rates are the main tool that central banks use to curtail inflationary pressures. The main focus is to dampen demand by consumers who will find the costs of borrowing going up and their ability to carry debt diminished. They will find that borrowing to buy durable goods will become more expensive, such as cars or other items that require going to the bank for a loan. With demand decreasing it is expected that supply shortages that led to inflationary pressures to decrease. Other tools that were used to fight inflation in the past were tax increases as ways to dampen consumer spending by reducing disposable income. Yet, tax increases are politically unpopular and as a result, the government has given control to the monetary authorities to fight inflation via the interest rate route, since the independence of the Central Bank makes it less susceptible to political repercussion for its actions. 

Interest rate increases have also overall negative effects on stock prices as these prices incorporate the expectations of a decline in future profits due to the fall in overall demand. So consumers who also hold their savings in stocks will see their wealth decline as well and they will be inclined to be more prudent with their spending. One might argue that interest rates will be beneficial to those with savings accounts, yet the vast majority of savings is in terms of stocks and as such the wealth effect of a rise in interest rates will be also overall negative.”

Dr. Thanasis Stengos,
Professor of Economics, Department of Economics and Finance
 

“An increase in the mortgage rate means that lenders want more for a loan of a given size. Constrained first-time homebuyers have a choice: don't buy, buy a home that has less of what they want (e.g., smaller, older appliances, etc) or buy it in a neighbourhood which is personally less desirable (such as further from work or from great schools, or other amenities). This is the same hard choice that first-time homebuyers are always forced to make.

The mortgage stress test already asks mortgage lenders to account for an increase in interest rates by 2 percentage points and the consensus seems to be that the Bank of Canada will raise the Bank Rate by that amount over the next two years. So, this increase will not cause a massive wave of bankruptcies or mortgage defaults.”

Dr. Paul Anglin
Professor of Estate, Department of Marketing and Consumer Studies
 

“Interest rate hikes increase the borrowing costs for all members of the food supply chain. So, whether that is purchasing machinery or funding the day-to-day operations of their businesses. These costs typically get passed on to consumers in the form of higher food prices and we are predicting food price increases for 2022 to be in the 5-7% range, and higher for some products. A major concern is the impact this has on families who are already struggling with higher housing, fuel and heating costs with wages not keeping pace with these increases.”

Dr. Simon Somogyi
Arrell Chair, Business of Food
School of Hospitality, Food and Tourism Management