With the Bank of Canada taking a break on rate hikes, it’s a good time to reflect on whether we’ve seen the worst for rising borrowing costs.
The answer is a hard no for Royal Bank of Canada clients who carry a credit-card balance. Next month, the interest rate on purchases for most RBC credit cards will rise to 20.99 per cent from 19.99 per cent. Other banks have already made this change on at least some of their cards.
Mortgages, credit lines and loans got more expensive in the past 12 months as the Bank of Canada increased rates to fight inflation. But the rise in credit-card rates is the harshest of all. The very definition of financial stress is carrying a big credit-card debt. That was true at 19.99 per cent, and it’s even more so at 20.99 per cent.
If you’re a collector of credit-card rewards like me, you’re complicit in all of this. More than ever, credit-card rewards are an ethical swamp where struggling households help subsidize trips, cash and merchandise for others by paying double-digit interest rates.
RBC said in a statement e-mailed by a media-relations person that it understands changes in interest rates or fees are a sensitive topic for clients, and that it works hard to keep costs down. The increase in card rates, the first since 2010, “is consistent with changes in the competitive marketplace, and brings us in line with most of our competitors.”
Low-rate cards aside, a wide selection of offerings from Bank of Montreal, Bank of Nova Scotia, Canadian Imperial Bank of Commerce, National Bank of Canada and Toronto-Dominion Bank apply a 20.99-per-cent rate on balances that aren’t paid in full. The move from the old standard of 19.99 per cent has gained momentum over the past year, concurrent with the Bank of Canada raising rates.
But credit-card interest rates aren’t actually connected to the central bank’s overnight rate. Instead, they reflect a bank’s calculation about how much it needs to squeeze out of clients to be profitable after covering fraud losses, defaults and the cost of reward programs.
Banks feel they need to squeeze harder now, and it’s easy to understand why. You just have to look at how they’ve been setting aside more money to offset loan losses. Over-burdened borrowers will default more, which means banks need to charge higher rates on credit cards to compensate.
RBC announced the increase for card rates in a recent client bulletin that shows current fees and terms for the bank’s Visa card lineup. Annual fees are mostly untouched, which tells us the bank is unwilling to increase costs for all of its cardholders. Just the ones spending more than they can afford to pay back in full right away.
A basic rule of personal finance is to avoid credit-card interest by paying your balance in full each month, and most people do this. In our recent survey on debt levels, 20.9 per cent of participants reported a card balance. A survey by the consulting firm MarketSense last year found that 35 per cent of people regularly carried a balance.
Resist the temptation to dismiss these people as over-spenders paying the cost of their bad judgement. Economic conditions today are way too complex to support easy generalizations like that.
While some households are financially stable or better right now, others are feeling the strain of inflation and high interest rates. Between higher mortgage payments and the soaring cost of food, it’s realistic to estimate families paying $500 or more extra per month compared with between 12 and 18 months ago.
Credit cards are the grease that keep households in this position moving forward. If the mortgage and putting food on the table leaves too little to pay for a car repair, the credit card covers the gap.
Expect more people to be in this position as the year rolls out. Economic growth has slowed, and the full impact of high rates and inflation is gradually accumulating. This helps explain why people have been signing up for new credit cards at a faster pace than before the pandemic. Credit cards buy you time if you’re financially stressed, but at an exceptional cost.
Now, that cost is going up. Bank profits and cardholder rewards will flow on, financed in part by people paying 20.99 per cent.
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