May 24, 2012
Title: Housing helped by hamstrung BOC
Sub-title: With Canadian housing prices at continued high levels, the central bank would normally raise interest rates to cool things down. The fact that it can’t acts as a continued sector spur.
The Canadian economy continues to show surprising recent strength on a variety of key fronts ranging from job creation to inflation data. So much so, that at its last meeting, the Bank of Canada hinted that it might move to raise interest rates, in part to cool things down a bit. That said, it is far from certain that anything of the sort will occur. And even if it does, those rate hikes will likely be small at best.
Canada’s housing sector for its part continues to go great guns, defying the global downtrend in many advanced economies. According to the Canada Mortgage Housing Corporation the seasonally adjusted annualized rate of housing starts hit a stunning 244,900 units last month, up from 214,800 units in March. That’s a pace far above what would be dictated by current demographic demand.
Existing home sales increased as well, as did selling prices. According to the Canadian Real Estate Association the average price of homes traded via its Multiple Listing Service increased by 0.9 percent compared to the same month last year. It’s not much, but its far better than the decreases we have seen in other markets
Rock bottom rates and global uncertainties
According to one expert, a key driver of strong housing demand remains cheap money. “With mortgage rates at rock bottom through the early part of this year, and job creation heating up through part of March and April, it is not surprising to see continued growth in Canadian homes sales,” said Diana Petramala, of TD Economics. “Absent of an external negative economic shock, demand should remain supported by a continued low interest rate environment through 2012.”
Much of the reason for that low interest rate environment remains the uncertain global environment, which remains fraught with two key risks says Sebastien Lavoie, assistant chief economist at Laurentian Bank Securities. These include the rising threat that Greece will spark turmoil in Europe if it leaves the euro zone. The country is going to the polls again in coming weeks after a previous election failed to produce a majority coalition. More worrying several parties that favour abandoning the country’s debt obligations (and reneging on a previous deal that already cut those obligations substantially), gained considerable support the last time around. There is fear that this trend could continue.
The second risk says Lavoie, is the “fiscal cliff” that is approaching in the United States towards the end of this year. This includes a series of strong austerity measures and tax increases that would come into effect if Congress does not reach a budget deal before then. If these measures are implemented there is a chance that the United States and possibly even Canada could head into a slowdown and maybe even a recession.
As if that weren’t enough, Peter Buchanan of CIBC WorldMarkets warns of increasing signs that China’s economy, a big driver of demand for Canadian raw material exports, could be slowing.
Tied to developments down south
As a result of the uncertainty, Lavoie, like Petramala, also believes that interest rates will stay low. LBS’s current forecast is that the Bank of Canada will made 25 basis point rate hikes, in December 2012, and January 2013, bringing its policy rate to a still-low 1.5 percent. However even those hikes are far from certain. “The Canadian economy is not an island unto itself,” concludes Lavoie. “If the US Federal Reserve were to resort to monetary loosening measures, investors would quickly rule out a Bank of Canada policy rate increase anytime soon.”
In fact BOC policy is closely tied to actions south of the border. If it tried to raise rates on its own, that would lead to a vast inflow of dollars into Canada from US and other investors seeking to profit from the improving yield spreads. This would drive up the loonie, making Canadian exports less competitive in foreign markets, thus hurting exports jobs, and would thus risk sending the country into recession.
Over the near term, a hamstrung central bank is great news for Canadian housing sector stakeholders. That’s because as Petramala notes, those low interest rates continue to sustain demand. The longer they stay low, the better chance that resale activity, prices and housing starts have of remaining strong.
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