Bank of Canada Needs Higher Rates To Stabilize Real Estate & Counter Fed: Scotiabank

One of the country’s largest banks sees Canadian real estate getting out of control, and it can hit the whole economy. Scotiabank warns the Bank of Canada (BoC) needs to hike rates soon, or real estate and inflation will get out of control again. Failing to do so won’t just drive home prices higher, but also inflation and the risk of economic instability. Let’s see what these wacky bankers are on about. 

Bank of Canada Should Hike Rates To Throttle Real Estate Surge

The Bank of Canada (BoC) has one primary objective—to create stable inflation. Housing shouldn’t be a concern when making decisions, but it was when they drove the country’s real estate frenzy. Households carrying high debt loads also drove the central bank’s decision to pause rate hikes. As a result, real estate investors see the market as protected by the central bank, igniting a second wave of activity. 

“The BoC should definitely pay attention to housing, whatever others think,” argues Derek Holt, head of Capital Markets Economics at Scotiabank. 

He adds, “Macklem guided in April that the BoC expected a rebound in housing in the second half of the year, yet, as chart 3 vividly depicts, that is already happening.” 

Scotiabank’s numbers show substantial growth when it comes to home sales. Seasonally adjusted monthly growth in April for home sales surged in Toronto (+27%), and Vancouver (+24%). May also followed with even further growth—a rapid acceleration for such a brief period, and it’s all related to eroding interest costs. 

“Some folks won’t like this but in my professional opinion Canada needs monetary policy and macropru[dential] tools to further tighten the screws,” he argues. 

Canadian Real Estate Can Become A Big Driver of Inflation Again

Holt emphasizes that housing is also a driver of inflation, and a drag on economic growth. “[The concern is] not only housing’s direct and indirect contributions to CPI, but also housing’s contribution to growth and the overall output gap framework,” he explains. 

Shelter, both rents and mortgage payments, are factored into the CPI directly. BMO has previously pointed out, the measure used lags, and isn’t a reflection of reality, but that’s not today’s point. It’s a direct contributor to inflation, and it’s reigniting again. 

Canada Faces Greater Instability Risks With Higher Prices

Holt further argues the BoC needs to pay attention to housing due to economic stability (or the lack thereof). “Housing also matters from the standpoint of driving stability concerns,” he said.  

“I still think is more about stability risks due to unfettered housing strengths rather than exaggerated downside concerns.” 

He doesn’t dive into the stability issue further than inflation, but there are significant concerns with “bubbles.” Beyond a workforce without stable shelter, the higher shelter costs rise, the more money spending is diverted from other industries. It serves up both a hit to other industries, while also making the country more dependent on shelter.

“The stability risks of allowing this to get out of hand once more outweigh the downside risks that an over-leveraged minority tail of households pose to the outlook,” said Holt. 

Bank of Canada Can’t Count On The Fed

Holt sees housing as a problem the BoC played a significant role in causing, and needs to resolve.  

“In my opinion, the BoC has played a role in past bouts of runaway gains in house prices with rates that were too low for too long and it is very much within its scope of influence to do something about it in the context of its overall inflation forecasting framework.”

He’s not alone in that thought. The Bank of International Settlements (BIS), the central bank for central banks, produced research that found the recent home price surge was due to rates being “too low for too long.” Heck, even BoC execs have said that lower rates helped to create higher home prices for the past 30 years

Holt acknowledges that non-monetary policy levers should have been used to tame the demand. However, the failure of the Federal government has turned into the BoC’s inflation and economic risk problem. 

“It [the Bank of Canada] cannot count upon other policy levers to do so since, to be totally candid, the country’s policymakers get an ‘F’ for consistently applying excess stimulus to housing demand while paying short shrift to the supply side of the picture,” he explained. 

Waiting for the Fed’s heart to grow three sizes, and change course isn’t just unlikely. It would take too long to get to market to prevent the resurgence occurring months before the BoC anticipated. Plus, the Fed quietly rolls back any potential demand throttles almost right after the press conference is done. 

“Any further delay in raising the policy rate would only fan housing imbalances to a greater degree and the BoC would be allowing one of the most interest-sensitive sectors that used to be a drag on growth return as a significant driver of growth and with that inflationary pressures,” warns Holt.

15 Comments

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  • Ray 11 months ago

    See, this is called setting the narrative. They’ll be raising the rates very soon. The banks are looking to make a Titanic full of extra cash. They want to bring in everything they can before the ship hits the iceberg. 😆

  • Peter 11 months ago

    No rate hikes will stabilize real estate as long as they find ways to keep it propped up.
    Everything is cheap and nothing is unaffordable with payments extended to infinity and with negative amortization.
    Sucking and blowing harder will not stabilize nothing.

  • Syed 11 months ago

    Dont understand the policy advise to increase BoC rate from Scotia Economists. It is hurting businesses very badly. All the banks are equally responsible for overpriced for Canadian real estate. Real estate is a big piece of cake for them. They softened higher interest rate pressure by allowing longer amortization along with pre-pandemic level of mortgage payment to make mortgage borrower more resilient and creating seller market again.

  • Wayne 11 months ago

    Confusing as banks drove the markets into overdrive by providing high risk loans. The bank of Canada’s solution is to increase interest rates yet not investment profits, is more than suspicious banking? Hmmm!

  • Allen B 11 months ago

    And bringing in a million new people a year only increases demand for housing way beyond anything that the current supply can cope with.

    • Vito 11 months ago

      BANKS WANT HIGHER INTEREST RATES SO THEY CAN CHARGE MORE FOR PEOPLE WHO NEED LOANS, ETC! WHY DOESN’T THE GOVERNMENT FORCE THE BANKS TO LOWER CREDIT CARDS INTEREST FROM 20 % TO SAY 10% ! BANKS ARE TOO GREADY . IN THE MEANTIME THEY PAY 1/2 OR LESS PERCENT ON YOUR DEPOSITS AND USE YOUR MONEY TO LEND TO PEOPLE WHO NEED TO BORROW AND CHARGE HIGH INTEREST RATES. I LOVE TO SEE WHAT THE BANKS WOULD DO IF EVERYONE CLOSE ALL THEIR ACCOUNTS AT THE SAME TIME! WE WOULD BE IN THIS MESS IF THE RATES ARE AT AFFORDABLE RATES AND PEOPLE WILL BE ABLE TO BUY HOMES ETC… THE GOVERNMENT SHOULD ALSO STOP GIVING MILLIONS TO PRIVATE COMPANIES, TAX INCENTIVES ETC. WHILE COMMON PEOPLE ARE TAXED TO THE ROOF!

    • Khurram Jamil Butt 11 months ago

      Allen B, if you don’t bring in those million new people a year – (actually its just 550,000) – the economy will stagflate. The local Canadian is not that interested in developing the skill set to keep the economy growing. Its the immigrants – the doctors and engineers and computer geeks – who are contributing to the emerging employment sectors. So the govt is stuck in a situation where they actually NEED the fresh blood but are not creating the capacity to house them. If you want to stop immigration, just get better at doing the techy things yourself.

  • Earl 11 months ago

    Seriously! Can you do this without affecting personal lines? We are being beaten to death with interest rate increases. When I can only get maximum 1% increase per year but everything else goes up 5 – 7% that’s negative action for the worker bee. Not fair coming from the Ivory Tower

  • Ike 11 months ago

    I think Scotia wants their mortgage customers to lose their homes

  • Jay 11 months ago

    Why do you guys keep calling the federal government The Fed? That’s highly confusing as literally everyone else uses it to refer to the U.S. Federal Reserve.

  • Bill 11 months ago

    Rate hikes will primarily hurt renters and first-time buyers. Investment property owners in the GTA and Vancouver (the first city being the only one with decent-paying jobs), can raise rents with near-impunity.

  • Ray Hoskins 11 months ago

    So every person that has a mortgage or is considering getting a mortgage has to pay a penalty because of the lack of housing driving up prices. Build more housing and prices will stabilize. But no, keep the working person in debt to the bank instead because we all know the money going to the banks and wealthy will trickle down to the peasants. Yah right.

  • Banker 11 months ago

    People need to accept the fact that the run up in real estate values and the stock market over the past 15 years was derived from rock bottom interest rates an era of free money. The value of the average persons home has increased on a yearly basis more then they earn while working at their jobs. This is completly unproductive and these inflated asset values have put our financial system at risk. Money is not free and people need to remember that the gains in the market and in real estate are only realized when one sells out not by taking a line of credit out against the equity. Once the Bond Rating Agencys get around to downgrading the canadian banks all hell will break loose. Now is the time to sell and realize gains or those in a loss position should sell to minimize their exposure. The government can no longer suppress rates to artificial levels. The pain is coming.

  • Andrew Baldwin 11 months ago

    Derek Holt is like so many financial experts. He sees nothing wrong with the existing target inflation indicator of the Bank of Canada although it is clearly defective. In the short term it should be changed to exclude mrotgage interest. In the long run, it should switch to a macroeconomic measure of consumer prices, distinct from the CPI, with an owner-occupied housing component based on the net acquisitions approach. The only G20 central bank that has done this is the Reserve Bank of Australia, but the Australian CPI has adopted the “net weight net price” approach, i.e. lot prices are excluded from both index weights and price indexes. The Canadian index should adopt a “gross weight gross price” approach, similar to the NP1 experimental index that I introduced in 1985 as part of the StatCan indexes with special treatments of owner-occupied housing. This would make the Bank’s decisions much more sensitive to house price movements, protecting Canadians against damaging housing bubbles.

  • Blue Chevy 11 months ago

    We caused gas prices to go up ,
    We caused food prices to go up,
    We spent government money
    as there
    was no tomorrow ,
    We allowed corps to make record profits.
    We did none of this and we get the bill with higher rates.
    Unfair.

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