Insights and Strategies

Housing, Inflation, and Interest Rates

This month we look at the housing market in Canada, and specifically how interest rate hikes have put pressure on affordability, adding to inflation pressures. If the Bank of Canada (BoC) were to cut policy rates, would that drive up prices, adding to inflation, or reduce shelter costs, helping to reduce inflation? Are higher mortgage costs putting too much pressure on consumers, risking a (more severe) recession?

While fixed-rate mortgage holders have been relatively unaffected by all the rate increases over the past two years, variable-rate mortgage holders have been grappling with the burden of elevated monthly payments or negative amortization. In its latest meeting in March, the BoC decided to keep its target rate steady at 5 per cent, citing underlying inflation as a reason to hold off on rate cuts.

Currently, Canadian financial markets have priced in a 20 per cent chance of a rate cut in April and an 80 per cent chance in June, versus 37 per cent and 82 per cent, respectively, on March 4, just before the latest policy update. The economy has also proven to be more resilient than expected and the unemployment rate remains below its historical average, giving the BoC greater leeway to further delay the start of rate cuts.

However, is prolonging the current interest rate level the answer to continued inflation improvement, or is inflation already sufficiently contained, or on the right trajectory, and could further delays possibly trigger a (more severe) recession in the Canadian economy? We believe that the BoC should cut sooner rather than later and exclude shelter inflation from its considerations, for the benefit of the overall economy. To delve deeper into this, we will examine three key aspects: shelter inflation, household financial health, and long-term housing supply.

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