Canadian interest rates are surging higher and setting up a hurdle for prices. So last week, when a former Bank of Canada (BoC) appeared on Bloomberg, his statement on prices being too high for current rates was clear. Most, including Bloomberg, paired this with the mortgage rate burden. Clearly, interest rates need to come down, right? That’s not so clear if you’ve been paying attention to the BoC’s previous research. More likely, high home prices are the ones getting dumped in this relationship.
Canadian Real Estate Prices Are Too High For Current Rates
Canadian interest rates are too high to support home prices at the current level. An objective statement made by former BoC Deputy Governor Paul Beaudry on Bloomberg. There’s two takeaways from it though—either home prices or rates need to come down. In math terms, there’s no universe where the two exist. At least not in this quantum reality.
The former narrative is how most of the industry interpreted this, including Bloomberg. In a written piece titled Home Prices In Canada Are Too Rich For Higher Rates, Ex-Central Banker Says,” it’s paired with the narrative of higher rates “straining owners’ finances.” Not the words used by Beaudry, but it’s easy to see it interpreted that way. However, that’s not the point he’s making in that interview. Beaudry simply states home prices are too expensive for these rates. Adding, if rates fall to pre-COVID levels, current prices and tight rentals make sense.
Not quite the same. If you saw his 2021 speech on interest rates and home prices, it’s clear he’s referencing the opposite move.
The BoC Believes Low Interest Rates Have Eroded Affordability For Decades
Back in 2021, Beaudry shared a large miscalculation with the low rate narrative. Traditionally, the belief was lower rates helped households with interest costs. Housing demand was thought to be inelastic, since people don’t just buy extra houses. If there was no additional demand, home prices wouldn’t rise. Less money spent on interest means more free cash flow.
That’s not how reality played out. “…on average, the long-run decline in interest rates over the past two decades hasn’t lowered the debt servicing costs of Canadian households,” explained Beaudry.
Source: Bank of Canada.
Adding, “This is because the amount a household can borrow is largely dictated by the DSR that it can afford: when interest rates fall, many households simply adjust by borrowing more. Lower interest rates and higher borrowing have tended to offset each other.”
To put it bluntly, no one saved any money. Sellers were able to capture more as the credit capacity expanded. This provided investors with an immediate payoff that was more lucrative than rents.
Central banks can print money faster than interest rates, helping to boost prices. “… fairly inelastic housing supply, [and] the extra borrowing induced by lower rates has partly translated into higher house prices. So we now find ourselves in a situation with high debt and high house prices but rather constant DSRs,” he explained.
He didn’t dive into it, but we also found out people do buy more houses as money becomes cheaper. Investors went from people running calculations on cap rates, to everyone trying to snipe quick gains. The latest data shows investors own over half of new housing built, and investors are displacing end-users for existing home sales. Even the CEO of Canada’s largest bank called the situation with investors outcompeting end-users, “sad.”
Central bankers are increasingly saying asset values are unsustainable at current levels. What people hear depends on how they see the world. Are homeowners or those trying to buy a home at a bigger disadvantage? If you’re looking for an objective statement on affordability, it’s clear. Low rates eroded affordability for decades and lowering them just reinforces the issue. Home prices have yet to adjust to higher rates, since speculators believe the country can’t function without credit cheaper than inflation.
Interesting, but no one is paying attention that basically unelected persones have making decisions over decades that have caused a lot of damage and are not responssible in any way for all mistakes which increasingly look like crimes in any way.
Look no further than the current Green Belt scandal. 14/15 parcel of land is linked to developers close to the premier. A little on the nose… forgot the wipe the dust off.
Between the media and people that have a mortgage me excluded, are more in denial then my ex when I told her we’re getting divorced. Hello MCFLY if interest comes down before it does its job the pain will only be worse. Interest should of went up a decade ago but you all want to spend like drunken sailors…here we are