While monetary policy plays a crucial role in the housing market, lowering interest rates isn’t a silver bullet for resolving Canada’s housing affordability crisis, Bank of Canada Governor Tiff Macklem said today.
He made the comment in prepared remarks at the Montreal Council on Foreign Relations.
“Housing affordability is a significant problem in Canada—but not one that can be fixed by raising or lowering interest rates,” he said.
He said there were numerous reasons why housing supply has fallen short of demand for “many years,” including zoning restrictions, delays and “uncertainties” in the approval process and a shortage of skilled workers.
“None of these are things monetary policy can address,” he continued.
Instead, where monetary policy does have an impact is on housing demand, he said. One need only look back several years to the pandemic, when rock-bottom interest rates—alongside demand for more living space—contributed to a surge in housing demand, Macklem added.
Since supply couldn’t keep pace, house prices in Canada skyrocketed more than 50% in two years.
But even after the Bank’s rapid pace of rate hikes since March 2022—10 rate increases in 17 months—home prices have fallen much less than would have been expected due to the ongoing supply shortage.
On the other hand, Macklem did tout the Bank’s success in bringing down inflation from a high of 8% in 2022 to its current level of 3.40%.
As of December, the average price of a home was $657,145, according to the Canadian Real Estate Association. That’s down nearly 20% from the peak of $816,204 reached in February 2022.
Rather than making housing more accessible for homebuyers, the sharp pace of interest rate hikes has instead further eroded affordability by raising the cost of borrowing.
The impact of shelter costs on inflation
The Bank has recently started to acknowledge the impact high interest rates are having on shelter inflation, including in its latest Monetary Policy Report released last month.
The Bank expects shelter costs will account for about half of total inflation over the next two years, nearly double its current 26% weighting in the CPI basket, economists from National Bank pointed out.
“Acknowledging the problem is one thing, but whether the BoC will be willing to accommodate a source of inflation over which it has little control remains to be seen,” wrote Stefane Marion and Jocelyn Paquet.
“If the BoC remains reluctant to see through shelter inflation for too long, there is a risk that monetary policy will remain overly restrictive in the coming months, causing undue pain to the economy and exacerbating housing supply imbalances against a backdrop of surging population,” they added.
Governor Macklem recently addressed those who say inflation is practically back to its target of 2% when shelter costs—driven higher by the Bank’s interest rate hikes—are removed.
“First of all, Canadians are paying shelter costs. They’re a real cost and we can’t just ignore them,” he told the House of Commons finance committee last week.
Macklem also argued that if you strip shelter costs, then you also have to remove some of the “unusually weak” items that are impacting inflation on the downside. “If you use a more systematic approach to strip out the unusual ups and the unusual downs, inflation looks to be about 3.5%.”
Featured image by DAVE CHAN/AFP via Getty Images
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Last modified: February 6, 2024
Sir,
Thank you for creating these articles. They have proven very helpful the last year and half for myself during time of Financial Burdens, the opinions of Economists, Financial Institutions and the Bank of Canada.
I do not necessarily agree with all of their explanations for the magnitude of Prime rate hikes that have occurred the last year and half.
In early 2023, I believe it was, the Bank of Canada focused most of its reasoning for these hikes due to the unrealistic sales prices of housing and Mortgage holders of variable rate mortgages either with or without a credit line attached. Wages too high, more leverage being in the hands of the employee rather than the employer etc.
I definitely agree that the expected prices of housing was and still is unrealistic, however I did not agree with the latter. It seems to be forgotten that it was the BOC who lowered the prime rate and the banks who offered the low rate mortgage products.
When i look at my financial history, in 2021-2022 my total principle paid towards my mortgage was returned to the bank in late 2022-2023.
The bank essentially took back their money with high risk and cost to the client.
Still, thank you for the information that you provide in your articles. I always look forward to reading them.