What’s Driving US Interest Rates – And Why Canadians Should Care

US Interest Rates

It’s widely expected the U.S. Federal Reserve will raise interest rates in 2015. Economists believe the only roadblock would be inflation, which still remains under the Fed’s target of 2 per cent. Despite this, the Fed believes the U.S. economy is poised for a robust 2015 after years of uneven recovery. Now, the country is experiencing steady job growth (252,000 jobs were added in December, the biggest spike since 1999), and rising business activity.

As the U.S. and Canada’s economies are intricately dependent on one another, a rate hike there would traditionally signal change for our own monetary policy – meaning Canadian borrowers would see their rates rise along with our American neighbours.

Here’s a look at what’s driving improvement in the U.S., and the potential impact for Canadians.

The Effect of Falling Oil Prices in the U.S.

The price of oil has plunged more than 50 per cent in the last six months. Despite the U.S. being an oil producer, economists believe the result on the American economy will be net-positive.  After the Federal Open Market Committee meeting in December, Fed chair Janet Yellen talked about the real consequence of cheap gas for everyday Americans. She says lower oil prices are “something that’s certainly good for families, for households. It’s putting more money in their pockets.” She adds, “It’s like a tax cut that boosts their spending power.” In the minutes from that meeting released this week, Fed members said “the real economy may end up showing more momentum than anticipated” this year.

Oil Prices and the Effect on Canada

We’re a resource-rich country and to a large extent our economy depends on a strong performance from the oil and gas sector. The message isn’t as clear from economists in Canada on what the effect of lower oil prices will be in the long term. But there’s optimism cheap gas will also benefit Canadian consumers, and extend their disposable incomes.

A report by RBC says lower oil prices won’t be negative for our economy. The falling price of oil means a lower Canadian dollar and because a strong performance is expected from the U.S. economy this year, Canadian exporters selling there will benefit. Overall RBC says spending by Canadians will pick up thanks to cheaper fuel.

Debt Remains Top Concern

Former Chief Economist for RBC Global Asset Management Patti Croft is among those who expect rates to rise in the U.S and Canada this year, and remains optimistic about the economy. What she finds more concerning are the high levels of consumer debt carried by Canadians. “This could also be the year of the rude awakening because I think the U.S. Fed will raise interest rates and that will be a wake up a call for all North Americans that low interest rates are not going to be here forever. So you need to ask can you afford the debt that you hold in a higher interest rate environment.” She adds everyone should start “stress testing” their debt to see if they could afford payments it rates were a few points higher.

Most Experts Still Expect a Rate Rise

It’s just a matter of time before rates start to rise according to most economists in Canada and in the U.S. The minutes released from the Fed meeting in December suggests they don’t have to wait for inflation to be back to 2 per cent before hiking rates. In fact, Fed members said inflation would probably remain below target for a while due to lower energy prices and a stronger U.S. dollar. The Fed meeting minutes show as long as they’re “reasonably confident that inflation will move back toward 2 percent over time, they could make the move to hike rates this year. The expectation is Canadian rates will rise closer to end of this year after the Fed makes its decision.








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