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Differences in how credit card rates are set in the U.S. and Canada mean American consumers will see more relief as interest rates decline than their Canadian counterparts.Justin Sullivan/Getty Images
With central bank interest-rate cuts now under way in the United States as well, Americans are largely set to see the cost of their credit-card debt slowly decline. But only a few Canadians are enjoying a similar downward ride.
U.S. credit cards typically have variable interest rates that tend to move up or down along with adjustments in the U.S. Federal Reserve’s benchmark federal funds rate. In Canada, by contrast, the vast majority of credit cards have fixed interest rates.
The difference means that while consumers in both countries have been racking up credit-card debt to help manage higher living costs and other financial headwinds, only in the U.S. will central bank rate cuts bring some direct financial relief to most of those borrowers.
The Fed lowered rates for the first time in four years on Sept. 18 with an unusually steep half-percentage-point cut and signalled that more reductions are on the way. That was months after the Bank of Canada kicked off its own rate-easing cycle in June, as concerns over a weakening economy increasingly overshadow worries about inflation.
In Canada the rate cuts have lowered borrowing costs for Canadians with floating mortgage rates and other variable-rate products such as lines of credit. But only a handful of credit cards have variable rates.
One example is Royal Bank of Canada’s RY-T RBC RateAdvantage Visa. On both purchases and cash advances, it charges an interest rate equal to the bank’s prime rate, which generally follows movements in the Bank of Canada’s benchmark rate, plus a fixed percentage rate that can range from 4.99 per cent to 8.99 per cent based on a borrower’s profile, including their credit rating.
With RBC’s prime rate currently at 6.45 per cent, that works out to anywhere between 11.44 per cent and 15.44 per cent, compared with the typical 20-per-cent interest on purchases for Canadian credit cards with fixed rates.
Similarly, Toronto-Dominion Bank’s TD-T TD Emerald Flex Rate Visa Card, which has a $25 annual fee, charges prime plus 4.50 per cent to 12.75 per cent, equivalent to 10.95 per cent to 19.2 per cent.
But that’s not how credit-card issuers usually set rates in Canada. Those borrowing costs are usually based on factors such as a risk assessment of individual card applicants as well as potential losses across a broader pool of borrowers, market competition and overall economic conditions, said Shannon Terrell, a personal finance expert at NerdWallet Canada, a website that provides financial information and tools for consumers.
Even U.S. dollar credit cards for Canadians, many of which don’t charge foreign currency conversion fees on purchases made in U.S. dollars, often have fixed interest rates.
Regulations in both countries allow for both fixed and variable interest rates. But Ms. Terrell said the prevalence of floating rates in the U.S. is likely a product of a more competitive credit-card market, with many more financial institutions vying for consumers’ business.
A February report by the Consumer Financial Protection Bureau found that smaller banks and credit unions, in particular, tended to offer lower rates than those of the 25 largest credit card companies for borrowers in all credit-score tiers.
But the proverbial grass is not necessarily greener on the U.S. side. A different CFPB study published in October found that the average annual percentage rate (APR) margin that U.S. credit card issuers charge has been steadily rising, reaching 15.4 percentage points at the end of 2022, up from 13.4 eight years earlier.
Instead, companies appear to be competing mostly by offering more generous rewards and bigger sign-up bonuses to win new accounts, the report found. The practice is largely benefitting card holders who pay their balances in full each month, the CFPB said.
And then there’s the obvious downside of variable rates: While borrowing costs decline when central banks cut their benchmark rates, they rise when rates move in the opposite direction.
For U.S. consumers, the recent run-up in credit-card margins overlapped with the Fed raising interest rates in 2022 and 2023 to cool inflation. That pushed up the variable portion of U.S. credit-card rates as well, delivering a financial one-two punch for those with credit-card debt.
The average APR for U.S credit cards was 22.76 per cent in the second quarter of this year, according to Fed data.
“By some measures, credit cards have never been this expensive,” the CFPB study said.