2.7.3 How Interest Rates are Set
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The Bank of Canada is the country's central bank. Its role is to promote Canada's economic and financial well-being. It serves the federal government, and other central banks, commercial banks and financial institutions.
The Bank of Canada sets the target for the overnight rate (the rate banking institutions charge each other for large overnight loans). The overnight rate is negotiated among banks daily. When the Bank of Canada changes its target for the overnight rate, it also forces a change in the prime rate.
Bank of Canada
The Bank of Canada sets the target for the overnight rate (the rate banking institutions charge each other for large overnight loans). The overnight rate is negotiated among banks daily. When the Bank of Canada changes its target for the overnight rate, it also forces a change in the prime rate.
The target for the overnight rate is used to compare Canada's interest rates to those of other countries. It corresponds to the U.S. Federal Reserve's target for the federal funds rate, and the Bank of England's two-week report rate, for
example. The ability to compare accurately these rates is important when Canada deals financially with other countries.
Bank of Canada
Commercial banks (such as the Toronto-Dominion Bank, the Royal Bank of Canada, the Imperial Bank of Commerce, the Bank of Nova Scotia, and the Bank of Montreal) set the prime rate.
To make a profit, commercial banks must earn more interest on the money they lend than the cost of the interest they pay on the money they borrow.
When borrowing money, commercial banks pay the interest rate set by the Bank of Canada. This rate affects the prime rate and the interest rates commercial banks charge their customers.
Various commercial banks charge various interest rates.
Most mortgages, personal and business loans, and the interest that consumers earn on savings deposits and investment certificates are linked to the prime rate.
To make a profit, commercial banks must earn more interest on the money they lend than the cost of the interest they pay on the money they borrow.
When borrowing money, commercial banks pay the interest rate set by the Bank of Canada. This rate affects the prime rate and the interest rates commercial banks charge their customers.
Various commercial banks charge various interest rates.