Bank of Canada Lowers Interest Rates: How This Affects Life Insurance

Posted on January 22, 2015 and updated January 22, 2015 in Life Insurance Canada News 4 min read
Bank of Canada Low Interest Rates

 

Bank of Canada Cuts Key Interest Rates

Bank of Canada shocked the Canadian finance community yesterday when it announced that they have cut their overnight lending rate by 0.25 per cent. The Central Bank of Canada attributes that the cause of the cut in key interest rates is due to the falling price of oil. In the past six months, the price for oil has decline to US $50 from US $105. Oil importing economies, for example the United States, benefit from the low cost of oil. In addition, the low oil prices are expected to boost global economic growth and create divergence among economies as well. Meanwhile, in economies that export oil, for example Canada, will experience negative growth and inflation. Bank of Canada’s action to lower key interest rates was to provide a counter against inflation and keep financial stability. The Bank predicts that oil prices will rise again to US $60 per barrel in the medium term.

Along with the overnight rate lowering to 0.75 per cent, the Canadian dollar has also lowered to 81.07 cents compared to the US dollar. To give an idea of how low both key interest rates and the Canadian dollar are, Bank of Canada has not changed their key interest rate since September 2010 and the dollar has not closed this low since April 2009.

The lower price of oil, the cut of key interest rates and the weakened Canadian dollar attributes to a negative impact on the country’s economy. The Bank now forecasts GDP growth to be 2.1 per cent for 2015, down from the original 2.4 per cent prediction from October 2014. However, by 2016 the economy is expected to make a turn around by the end of 2016 hitting GDP growth of 2.4 per cent.

Why Low Interest Rates Are Bad For Your Life Insurance Policy

When Bank of Canada lowers its interest rates the outcome is that forms of borrowing, mortgages, credit card and lines of credit, also have lower interest rates as well. However, lower interest rates for life insurance policies generate the outcome of higher premiums. In order to understand why premiums rise, we need to understand how life insurance companies turn a profit.

If you own a permanent life insurance policy, and calculate the premiums you expect to pay during your lifetime, the total sum would equal less than the death benefit. Since companies do not collect enough premiums to equal the death benefit then they are losing money. So how do they make a profit?

One way life insurance companies turn a profit, is from clients cancelling their policies creating revenue from lapsed policies. The problem with this method is that not enough people are cancelling their life insurance policies for companies to make a profit. This creates a situation where life insurance companies have to raise the cost of premiums to pay out the death benefit of other customers.

Another method is through long term investments. While you are paying your premiums, insurance companies invest your money in long term investments for, example, bond markets. This is one of the factors that determine the price of your premium. If an investment they make return at a reduced amount, insurance premiums increase. An insurance premium may have cost a certain amount before the Bank of Canada decided to lower key interest rates. That same policy may now cost more in terms of premiums after the new interest rates take place. For those that have locked in their insurance policies with guaranteed rates, they do not need to worry about their premiums changing. In the long run, interest rates do affect new consumers, as well as, anyone planning to change or cancel their policy.

What Can You Do?

If you have been holding off on buying permanent life insurance coverage, the time to act is now, especially since the Bank of Canada has lowered interest rates to 0.75 per cent. Waiting is never a smart choice when it comes to life insurance. You could hope to wait until the Bank of Canada decides to increase the interest rates again but there is no guarantee when it will happen and to what percentage.

 

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