07 Feb Bank of Canada says housing affordability is about boosting supply, not lowering interest rates
Canada’s real estate market is notoriously unhinged. Home prices are up more than 35 per cent in just four years. Mortgage interest costs are up 30.9 per cent year over year. And rental prices are continually hitting record highs.
As inflation comes under control, there is a growing chorus calling on the Bank of Canada to cut interest rates, easing at least some of those affordability issues.
But Bank of Canada governor Tiff Macklem says a lower interest rate isn’t the silver bullet people are hoping for.
“Housing affordability is a significant problem in Canada but not one that can be fixed by raising or lowering interest rates,” Macklem said during a speech in Montreal on Tuesday.
Macklem said the real issue is that housing supply has fallen short of housing demand for years.
“There are many reasons why: zoning restrictions, delays and uncertainties in the approval processes and shortages of skilled workers. None of these are things monetary policy can address,” he said in his address to the Montreal Council on Foreign Relations.
Macklem admits the emergency low interest rates during the COVID-19 pandemic helped fuel the run-up in home prices during that time. And the central bank’s own research shows that “shelter inflation” continues to drive inflation.
Falling housing starts blamed on high interest
Randall Bartlett, senior director of Canadian economics at Desjardins, said prices for both rented and owned accommodation are projected to continue growing above their pre‑COVID pace beyond the end of 2024.
“One of the key takeaways from the Bank of Canada’s January 2024 Monetary Policy Report is that shelter inflation is likely to be the single most important driver of year-over-year price growth in the first half of 2024,” he wrote in a research note.
The issue of affordability is not a new one in Canada. But it has accelerated in recent years.
RBC Economics has something called the “aggregate affordability measure.” By the end of last year, that index was “at or near worst-ever affordability levels in many markets,” with particular concerns in hot spots like Vancouver and Toronto.
“Close to 60 per cent of all households could afford to own at least a regular condo apartment in 2019 based on their income. That share has plummeted to 45 per cent in 2023,” assistant chief economist Robert Hogue wrote in a paper released in December.
“An even tinier 26 per cent could now afford a (relatively more expensive) single-family home.”
The Canadian Home Builders’ Association says housing starts (a measure of how many new buildings have begun construction) have fallen for two consecutive years. And its CEO says high interest rates are at least part of the reason.
“Interest rates are directly lowering the feasibility of building much-needed new housing supply — we saw this in 2023 and it will continue in 2024,” Kevin Lee said.
The Canada Mortgage and Housing Corporation (CMHC) surveyed developers constructing purpose-built rentals last fall. Three main concerns were raised: significantly higher construction costs, development fees and higher lending rates.
“More restrictive financial conditions have limited the flow of private investments into new purpose-built rental housing, resulting in a decrease of planned projects and further fuelling the affordability crisis,” the CMHC report said.
A balancing act
Macklem said everyone — from prospective homeowners to developers to policy-makers — wants the same thing.
“It’s very clear. The solution to housing affordability is to get supply up,” he said.
But while supply and demand are out of whack, Macklem said the Bank of Canada can only do so much. And, he said, central banks really have only one tool to use.
The Canadian housing market is expected to remain soft at least for the first part of 2024 while interest rates remain high. But some parts of the country will see busy markets as investors look for lower prices outside of Toronto and Vancouver, forecasters say.
“The impact of raising the policy rate is actually to bring the housing market into better balance, not by reducing supply but by reducing demand and bringing it more in line with supply,” he said.
Balance is something that has been lacking from the Canadian housing market for many years.
The good news is that most economists believe the Bank of Canada is going to start cutting interest rates this summer. That should provide some relief to developers worried about financing their next project and to homeowners struggling with significantly higher mortgage payments.
But some believe the mere anticipation of changes to the central bank’s key overnight lending rate may lead to a flood of pent-up activity in housing sales.
“Data from late 2023 and early 2024 suggests the housing market could very well be revving up again as lower bond yields and mortgage rates and more favourable prices [mean] more buyers jumping off the sidelines to front-run expected future rate cuts,” wrote Bryan Yu, chief economist with Central 1 Credit Union in Vancouver.
If that’s the case, affordability will only get worse as construction slowed, even while the pool of potential buyers swelled — with Canada experiencing record levels of immigration last year.
WATCH | Bank of Canada governor Tiff Macklem speaks in Montreal: