Why the Bank of Canada’s ‘wait-and-see’ approach is best for homeowners and the economy: report

The Bank of Canada has stepped to the sidelines since it last hiked the overnight rate, which influences rates on the mortgage market, this past October.

Leaving the policy rate at 1.75 percent since then is a departure from the central bank’s gradual efforts to push interest rates higher: The Bank of Canada has embarked on five consecutive hikes, beginning in July 2017.

Though the bank has not been as aggressive of late as market watchers might have predicted if asked last year, in a report published this week, TD economists Beata Caranci and James Orlando suggest this tempered approach is indeed the right one for the Canadian economy.
For the past 10 or so years, they note, Canada has been able to count on the energy sector, housing, or both for economic growth. That isn’t the case today.

“Now we have a situation where both are going through what could be a prolonged adjustment period to a lower level of activity. This warrants a Bank of Canada pause,” reads their co-authored report titled “Patience is a Virtue.”

While lower oil prices and pipeline delays have been battering the Canadian economy, until relatively recently housing had picked up the slack. But with Canadian home prices posting their biggest decline since 1995, the economy is now facing another headwind, a situation TD nonetheless expects to clear up in the first half of the year.

“Our expectation is that evidence of housing stabilization and a rebound in the energy sector should become apparent in second quarter data, offering the central bank more confidence to resume its normalization process with interest rates thereafter,” the economists continue, saying the next rate hike is likely to occur in July.

However, TD notes that the data may not show the anticipated uptrends and risks may emerge.

“Household leverage and elevated sensitivity to interest rate changes have long been highlighted as the biggest risk to the economy,” the report states.

While TD’s view is generally in line with that of other big banks, there has been increasing speculation that the Bank of Canada may be encouraged to reverse at least one of its recent rate hikes in the event of a prolonged downturn in the housing market.
But BMO Chief Economist Douglas Porter isn’t buying that scenario.

“Another round of sour Canadian home sales figures, and a further cooling on household borrowing, seems to have awoken some of the big bears on Canadian housing,” Porter writes in a separate report.

“But before everyone goes all ‘sell Canada on the coming melt in housing’, we would just point to a variety of countering facts,” he adds.

For starters, policymakers were aiming at curbing out-of-control price gains when they implemented mortgage stress testing, hiked rates, and implemented foreign-homebuyer taxes in BC and Ontario — with that accomplished, more action isn’t likely for the time being.

Further, banks have begun cutting rates for five-year fixed-rate mortgages, the most popular type of mortgage for borrowers in Canada.

“As we have pointed out at every available occasion, do not forget that Canada is currently experiencing the strongest population growth in a generation,” Porter piles on.