The Bank of Canada, Canada’s central bank, has been implementing interest rate hikes in an effort to tame inflation. While this has had the effect of slowing things down, Canada’s Consumer Price Index indicates around 7% annual inflation as of August 2022 according to Statistics Canada.

What this means is that the Bank still has not managed to get inflation under control. This has widespread implications for consumers and businesses in Canada, but one of the most affected areas is housing.

Real estate makes up a large portion of the economy in Canada. With so many Canadian consumers (as well as foreign investors) hoarding real estate, excess demand isn’t abating, and falling prices could put a huge dent in the overall Canadian economy.

Keep reading to find details on how the Bank of Canada is addressing the issue of Canadian real estate, as well as information on why it might not be enough.

Housing Prices and the Canadian Economy

In order to stimulate the housing market, the BoC was purchasing large amounts of mortgage bonds up until April 21, 2022. This was intended to encourage lending by major Canadian banks in order to keep real estate from collapsing.

The Bank is now in the “reinvestment phase” of its asset purchase program and moving toward what is known as quantitative tightening. This comes on the coattails of BoC officials making misleading comments on quantitative easing and the housing market.

In short, the BoC has been promising one thing (deflation) while fervently struggling toward the opposite outcome with bond purchases. Now that they have pivoted toward quantitative tightening, we have begun to see housing start to come down.

Interest Rates and the Real Estate Market

Another reason prices are starting to come down is the aforementioned interest rate hikes. As the BoC continues to increase interest rates, the desire for loans is expected to fall, allowing real estate to come down somewhat.

The problem is that mortgage demand in Canada is largely driven by foreign investors, and costs are hugely inflated due to investors hoarding real estate while making money elsewhere.

The areas most affected by outrageous real estate prices are Vancouver and Toronto. The average house price in Vancouver and Toronto clocks in at between 100–120% of the median household income.

In addition to interest rate hikes from the BoC, housing sector demand has been addressed by the federal government in the form of a 1% underused housing tax. Although these measures are a step in the right direction, they may not be enough.

What The Bank of Canada Says

According to the Bank of Canada website, the objective of their monetary policy is to maintain low, stable, and predictable inflation. They also note that Canadian housing affordability has been unusual after the pandemic.

The BoC acknowledges that average house prices are sitting around 4.5x the average household disposable income. This is significantly higher than the 3.5x observed over the last 25 years.

While interest rate hikes affect the cost of financing houses and debt, mortgage rates are ultimately at the behest of the financial markets. There are many factors that affect these rates which are outside of the Bank of Canada’s control.

They also acknowledge that the financial vulnerability and debt today is at a nine-year high, indicating that few Canadians are financially prepared for a major economic upset. This may be offset by a high average household net worth, but household debt remains high.

Government officials have also had questionable things to say about the issue, such as Parliamentary Secretary for Housing Adam Vaughan, who stated on “The Agenda with Steve Paikin” that the Canadian market is geared towards foreign investors.

What do Critics Think?

Many economists and politicians have weighed in on the issue, with many criticizing the actions of the BoC. Pierre Poilievre, the recently elected leader of the Conservative Party, even called the BoC “financially illiterate” on Twitter.

Robert Kavcic, who works as a senior economist for the Bank of Montreal, expects the recent rate increases to “cast an even deeper chill on the housing markets through the fall, and reinforce the change in housing market psychology.” in comments to the Globe and Mail.

Other banks and economists have weighed in as well, with TD Economics downgrading their home sales and average price forecasts between 2022 and 2023, with economist Rishi Sondi saying they expect a 12% pullback in real estate prices in 2023.

ReMax noted in August that the Canadian Real Estate Association reports a 5.3% fall in national home sales during July of 2022. Meanwhile, they also show that the annualized MLS Home Price Index actually increased by around 10.9%.

The Globe and Mail report that financial stability concerns vis a vis climate change are still worrisome. The transition to a lower-carbon economy could put an even heavier damper on real estate prices.

Bank of Canada Charts Path Toward Real Estate Crash by David Bico | Canadian Real Estate Wealth