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U.S. Federal Reserve hikes key interest rate to twice that of Canada's

Higher rates in the U.S. likely to spill over into Canadian fixed-rate mortgages

Yellen Federal Reserve

The U.S. Federal Reserve, led by Janet Yellen, has raised its benchmark interest rate once again on Wednesday, the third time it has decided to do so since 2015. (Susan Walsh/Associated Press)

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The U.S. central bank raised its benchmark interest rate a quarter of a percentage point on Wednesday, in line with what economists were expecting, but a sign that consumers need to get ready for even higher interest costs.

The Federal Reserve, which is the U.S. equivalent of the Bank of Canada, announced that it had decided to raise its target rate by a quarter point to a range of between 0.75 per cent and one per cent.

"Monetary policy remains accommodative, thereby supporting some further strengthening in labour market conditions," the Fed said in a statement. 

That's the central bank's way of saying it thinks rates will still be low enough even after a small hike, so it's unlikely to shock the U.S. job market given how strong it has been of late. The U.S. economy added 235,000 jobs in February, reducing the unemployment rate to just 4.7 per cent.

"Waiting too long to scale back [cheap lending]," Fed chair Janet Yellen said at a press conference on Wednesday, "could potentially require us to raise rates too rapidly some time down the road."

The Fed's outlook for U.S. economic growth remains almost unchanged. The central bank now expects the U.S. economy to grow at a rate of 2.1 per cent in 2017 and 2018, then slow to 1.9 per cent growth in 2019.

Wednesday marks the third time the U.S. central bank has decided to hike rates since 2015. That stands in sharp contrast to Canada's central bank, which has cut its rate over the same period in an attempt to stimulate the economy.

Canadian impact

The move has been telegraphed for months, as bond yields have been inching higher in anticipation of the move since last week. But while expected, the interest rate increase is unwelcome news to Canadian borrowers, who are affected by monetary policy in the U.S.

Even though variable-rate mortgages may be affected by what the Bank of Canada does, most Canadians have fixed-rate mortgages. Rates for those mortgages are based more on bond rates, which will be affected by the Fed's move on Wednesday.

"The quarter-point increase in the U.S. Federal [Reserve] interest rate typically results in the same increase for fixed-rate mortgages here in Canada, which we should expect to see in the coming weeks," said James Laird, co-founder of rate comparison website RateHub.ca

Many of Canada's biggest banks have already hiked mortgage rates in anticipation of today's increase since Donald Trump was elected president.

Based on the Fed's projections Wednesday, as many as two more rate hikes could be coming this year followed by three more in 2018, making borrowing more expensive. But the Fed was quick to stress that it continues to expect any future rate hikes to roll out "gradually."

Overall, "the Fed is a bit more confident, but no more hawkish than it was in December," economist James Marple with TD Bank said.

"There is good reason to expect rates to continue to rise this year. However, flanking this view are considerable risks on both the upside and downside."

In the wake of the Fed's move, the Canadian dollar closed Wednesday at 75.15 cents US, up 0.99 of a cent. The loonie's gain was supported by higher prices for crude oil and a weaker U.S. greenback.

On equity markets, the S&P/TSX composite index rose 141.30 points to close at 15,520.91. The rise was led by gold, materials and metals stocks.

On Wall Street, the Dow Jones industrial average closed at 20,950.10, up 112.73 points, while the broader S&P 500 finished the trading day at 2,385.26, up 19.81 points. The Nasdaq composite closed at 5,900.05, up 43.23 points.

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