Monitoring the health of Canada’s financial system

Senior Deputy Governor Carolyn Rogers discusses risks and vulnerabilities in our financial system and what the Bank of Canada is doing to support financial stability.

A strong financial system is essential

Just as low, stable and predictable inflation contributes to economic prosperity, a strong and stable financial system supports economic growth and improves living standards.

We monitor the financial system closely for risks and vulnerabilities. Vulnerabilities are weaknesses that can build up over time. When combined with a trigger such as a shock, they can lead to instability or, in extreme cases, a financial crisis.

We publish our analysis of the health of the Canadian financial system in our Financial System Review every spring and provide an update each autumn. And we are now providing more information on what we examine through our new dashboard, which presents the indicators we use to track the evolution of financial vulnerabilities.

Financial system stability is a global concern

Right now, most countries around the world are facing the same challenges as Canada:

• Inflation—The effects of the COVID-19 pandemic, including repeated closures and quick recovery, are having a dramatic impact on both supply and demand. As a result, inflation has risen in most countries around the world. In response, central banks are raising interest rates rapidly.
• Volatility—Geopolitical tensions such as the Russia’s ongoing war in Ukraine is causing volatility and uncertainty in global commodity markets, especially energy, making prices fluctuate.
• Debt—Governments around the world took on additional debt to support people and businesses during economic shutdowns. Some businesses and individuals have also taken on additional debt to help them get through this difficult time.

Some vulnerabilities in Canada have increased

High house prices and elevated household debt are vulnerabilities that have existed in Canada’s financial system for a long time. But these built up even more during the pandemic. Many people took on more debt to buy a house when mortgage rates were extremely low and house prices were rising rapidly.

This spring, the Bank started raising interest rates to bring down high inflation. Since housing is one area of the economy that reacts quickly to higher interest rates, house prices and housing market activity have started to decline from unsustainably high levels.

Higher interest rates also mean higher mortgage costs for some Canadians. Others may face increased costs when they renew. This will squeeze household budgets.

Our financial system is resilient

So far, Canada’s financial system has proven resilient in the face of significant economic upheaval. The Bank is contributing in two important ways to ensure our system remains strong:

• We will continue to monitor the impacts of higher interest rates on Canadians and on financial system stability.
• We will get inflation back to target.

The road back to lower inflation may cause hardships for some Canadians. But we must stay the course—higher interest rates in the short term will bring inflation down in the long term.