TORONTO – Canadians’ savings accounts have run out.
With inflation topping eight percent, anyone with money in the bank is seeing their savings run out at the fastest rate on record as interest rates on savings accounts, which are still around one percent, aren’t holding up.
“They will lose money. The value of their savings goes down,” said Claire Celerier, associate professor of finance at the University of Toronto’s Rotman School of Management.
That’s a stark contrast to the last time inflation was this hot. In 1981, inflation peaked at over 12 per cent, but Statistics Canada figures show bank accounts were paying 19 per cent interest and even in 1990, when inflation was just under five per cent, accounts were paying over nine per cent.
There are several reasons for the lag, but part of the problem is the concentration of Canada’s banking sector, Celerier said.
“When there is less competition between banks, it takes longer for them to adjust interest rates on deposit accounts.”
Banks simply don’t have much incentive to change rates unless they have to, she said.
“When banks don’t increase deposit rates, they make more profits. . . . It’s a very easy way to make money, to have a low interest rate on deposit accounts.”
Part of what drove interest rates higher in the early 1980s was the introduction of money market mutual funds, providing a competitive alternative to bank accounts for average savers.
There are a growing number of online banks and credit unions with competitive rates. After the Bank of Canada raised its key interest rate by one percentage point in July, Oaken Financial raised its interest rate from 1.65% to 2.25%, while Duca Credit Union increased its interest rate from 3.1% to 3 .25%, said Natasha McMillan, Director of Everyday Banking at Ratehub.ca.
However, Canadians don’t tend to switch banks very often. A 2020 Accenture survey found that less than four percent of consumers said they had changed their primary bank account in the past year.
Some banks have also started to increase interest rates, although often through short-term promotions and other restrictions, and this is not everywhere.
“Banks are very quick to pass on higher interest rates to borrowers, but much slower to pass on to those trying to save,” McMillan said.
Scotiabank is offering a temporary rate of up to 4.05 percent interest thanks to several limited-time bonuses (some tied to new deposits) on top of their usual 1.35 percent rate. CIBC is offering up to 3.55 per cent interest, which then drops to 0.8 per cent after 120 days, up from a promotional rate of 1.5 per cent in February, which fell to 0.3 per cent.
Meanwhile, TD Bank offers 0.05 percent interest on balances over $5,000 for its high-interest savings account (it offers a separate account that pays one percent on balances over $10,000), RBC offers 0.8 percent for its high-interest account interest and BMO has a one percent savings option.
McMillan said more people turning to alternative lenders could put more pressure on the big players.
“As more Canadians feel more comfortable shopping around or moving to a bank that they might not recognize as much, something like the big five, the big six banks will start to feel that competitive pressure and increasingly start to change their interest rates accordingly.’
Part of the challenge, though, is that banks aren’t as desperate for deposits after Canadians saw savings grow during the pandemic.
“Banks are currently flush with cash and liquidity, and their deposit levels are still high,” said Carl De Souza, senior vice president of North American financial institutions at DBRS Morningstar.
“So there is less pressure to increase deposit rates unless deposits start to decline dramatically or a competitor raises rates.”
De Souza noted that credit unions offer higher interest rates in part because they are designed to serve members, not just make a profit for shareholders like banks, but that there is still some hesitation among consumers.
“Some individuals may be reluctant to put money into credit unions because they perceive them as riskier than big banks, despite the higher rates these credit unions pay.”
However, many credit unions haven’t raised rates much either. Vancity still offers 0.75 percent interest on its core accounts because it also doesn’t have a strong need for more deposits, said Chief Financial Officer Clayton Buckingham.
“Really the way we set rates is to look at the overall funding needs for the organization.”
Higher customer deposits helped meet higher loan demand and buffered the credit union’s need for more funds, but that could change if the market changes more, Buckingham said.
“It all comes down to the competitive market. This drives most of the movement, so if rates go up at the rest of the banks and credit unions out there, then we should follow suit.
He said customers are instead gravitating toward Vancity’s term deposits, which are similar to a guaranteed investment certificate. Products more closely linked to bond rates have risen much faster than deposit rates, with some institutions offering rates above five percent for longer-term commitments.
Buckingham noted that it is still early days for inflation overall with huge uncertainty, so financial institutions are acting cautiously. If deposits continue to trail as people tap into their savings to cover rising costs, then financial institutions may need to raise interest rates to attract deposits, but if demand for loans falls due to economic worries, then lenders may not needing as much available capital.
“We’re only seeing the initial impact of what can happen in a high-inflation environment … for now, everyone is still figuring it out.”
This report by The Canadian Press was first published on July 31, 2022.
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