Rate hikes confuse already volatile housing market

by Invesbrain Friday, July 21, 2017
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David Madani is among the economists who is perplexed by the July 12 interest rate hike by the Bank of Canada.

The senior Canada economist for Capital Economics and housing market bear thought it was “misguided” for Bank of Canada governor Stephen Poloz to raise interest rates for the first time in seven years. Citing a Canadian economy “still heavily dependent on housing, record household borrowing and consumption to support 90 per cent of GDP growth” Madani opined, with home sales on their way down and a correction in home prices imminent, any easing of monetary policy by the BoC would be short-lived.

Related: Bank of Canada makes a bullish shift

While Poloz did surprise many -- including, for what it’s worth, this space -- by raising the BoC’s benchmark overnight rate by 25 basis points to 0.75%, what shocked Madani was the absence of any mention of Canada’s overheated housing markets, particularly in Vancouver and in the Toronto area.

On June 8, four days before Poloz’s deputy Carolyn Wilkins wrong-footed markets in a speech that saw the BoC suddenly shift to a hawkish stance, the central bank boss took aim at housing prices in a press conference after the bank released its biannual Financial System Review.

“Price increases in Vancouver and Toronto have an element of speculation to them,” Poloz said. “The longer that goes, the bigger it gets, the more you start to be concerned that not necessarily a global recession, but just about anything could be responsible for causing a correction in housing.”

On July 12, the BoC’s policy statement didn’t even refer to housing.

"In some ways the policy statement was quite bizarre, as it made no explicit mention of housing at all. This is perhaps because they aren’t concerned at all, or, more likely, that they are really concerned and don’t want to mention anything right now until it is clearer as to the exact state of the housing market," Madani told BNN after the hike. "We still think, however, that the economy is on the verge of a slowdown due to housing-related weaknesses, which will be reinforced by higher household borrowing costs. As we move through the year, we expect this weakness to become self-evident and this to put the brake on talk of further interest rate hikes."
Before the July 12 hike, Madani said raising rate at “this very late stage in the housing cycle” would be on part with the European Central Bank’s 2011 decision to hike rates twice in the teeth of the Eurozone crisis and harsh austerity measures.

The move by the ECB president Jean-Claude Trichet, according to the New Yorker, exacerbated the debt crisis facing the so-called PIIGS (Portugal, Italy, Ireland, Greece and Spain) and sucked the wind out of bloc’s economic recovery.

Canada’s recent rate hikes come, as Madani points out, with more macroprudential measures set to tighten Canada’s housing markets, on top of measures put in place by the federal government as well as B.C. and Ontario.  

On July 6, according to Bloomberg and the Financial Post, the Office of the Superintendent of Financial Institutions announced it is mulling three measures “targeting over-leveraged borrowers in the uninsured mortage market.”

That market comprises half of the $1.5 trillion mortgages outstanding in Canada. OFSI’s measures include: “asking lenders to stress test uninsured mortgages, or those borrowers who put at least a 20 per cent down payment, and matching the loan-to-value ratios, or the loan amount compared to how much the house is appraised at, with local market conditions.”

The Post noted the OSFI move would squeeze the alternative lending market or the so-called “shadow banking sector” which has been roiled by troubles at Ontario’s Home Capital. Royal Bank analysts wrote in a July 9 note that the measures could mean “residential mortgage debt growth would slow to as little as 2 per cent each year from 6.3 per cent now.”

Related: Housing correction would hit specialty banks the hardest: DBRS

Still speeding

Yet despite slowdowns in sales, Canadian home prices, powered by Toronto and Hamilton, posted record increase in June, according to the Globe and Mail.

The Teranet-National Bank Composite House Price Index, showed prices increased 2.6% from May, the largest increase for June in the 19-year history of the index and a record 17th consecutive month a increase was posted.

Related: Housing start solid, at least for now

Hamilton led the way at 4.1%, followed by Toronto at 3.7% as prices rose in 10 out of 11 markets in the index. Toronto home prices increased 29.3% year over year; Hamilton went up 25.6%.

Vancouver saw also saw prices rise from May to 2.5%.

John Pasalis of Realosophy Realty said rising rates may actually stoke housing markets to greater heights.

“The psychological effects of this rate increase might counterintuitively have a positive effect on the real estate market,” he told BNN. “If buyers believe interest rates will increase even further in the near future, some of those sitting on the sidelines watching the cooling market with uncertainty may get back into the hunt.
“The big unknown is whether the fear of future interest rate hikes will outweigh fears about buying into a market that has seen prices trending down over the past three months. No one wants to buy now if they think prices will fall further.”

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