On December 7, the Bank of Canada (the Bank) announced that it will be maintaining its overnight rate at 0.5%, closing out a year of historically low interest rates. The overnight rate is the interest rate at which large institutions, including banks, lend money amongst themselves and is one of the main levers that the Bank can pull in order to effect a particular monetary policy. It forms the basis for other interest rates throughout the economy and, in theory, low borrowing rates incentivize deal-making. We have blogged before about the effect of interest rates on M&A deals, including the interesting consequences of the negative interest rate policy that the Bank was contemplating about one year ago.
In its announcement, the Bank cited uncertainty undermining business confidence as one of the main drivers of it policy. Notably, this is the first such announcement since the United States Presidential election and some commentators have suggested that the election and its aftermath are the chief drivers of the uncertainty to which the Bank has been referring. We recently wrote about the effect that the election might have on M&A deals here. For its money, the Bank appears to be approaching the upcoming months with caution.
In practical terms, these low targets suggest little optimism at the Bank, as it continues to try to spark borrowing and spending. Since the Bank looks forward approximately 6-8 quarters in setting the overnight rate, its prognosis for 2017 and perhaps even 2018 is decidedly reserved. On the other hand, the strong third quarter performance in the Canadian economy may be the Bank's monetary policy over the past year and a half beginning to blossom. The target overnight rate has in fact been less than 1.0% for the past 7 quarters.
Meanwhile, the US Federal Reserve has just announced that it is increasing its benchmark rate to 0.75% (a +0.25% increase). In January, the Bank will release a full update for its outlook on the economy which will undoubtedly have to respond to the US rate hikes; however, it is not expected that the Bank will change its overnight rate any time soon. For the foreseeable future, a stronger US economy and weakening Canadian dollar will likely have positive run-off effects north of the border for some (especially for exporters), but by the same token it may make Canadian companies the potential target of cross-border acquisitions.
The author would like to thank Peter Georgas, Articling Student, for his assistance in preparing this legal update.
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