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RBC: Housing Affordability Won’t Spark Crash

Mortgage-Carrying-costs Low rates have underpinned Canadian home prices for several quarters.  It makes you wonder what will happen when mortgage rates normalize.

RBC economist, Robert Hogue, wondered the same thing, so he performed a study that simulated a return to “normal” rates. (He defines normal as roughly 150 basis points higher than today, based on long-term inflation-adjusted averages.)

The effect of Hogue’s simulation was that home ownership costs jumped from 41% of pre-tax median family income (today) to 46%. The long-term average is 39% and in 1990 it hit 54%.

If we assume median income to be $67,000, for example, it suggests that normalizing interest rates would drive up home ownership costs by roughly $279 a month for the typical household.

This resulting drop in affordability would “continue to cool demand for housing in Canada,” but not pull the rug from underneath it, says Hogue.

The exceptions may be places like Vancouver and Montreal, in which demand could drop “substantially,” he writes.

Here is RBC’s full report. Hogue calls housing affordability “the best measure of underlying stress” in the real estate market. See page 9 of this for RBC’s affordability calculation methodology.