March 14, 2014


Housing valuations debate continues

Local economist questions OECD assumptions


The debate on whether Canadian residential real estate is approaching bubble territory, as continued strong prices in many regional markets appear to suggest, took an interesting turn this week. Will Dunning, a local economist, released a report, which suggests that the Organization for Economic Cooperation and Development, which accumulates metrics that track house prices relative to rents in major markets, which sector bears rely upon, has got it all wrong.


“OECD research has relied on bad data,” said Dunning, who argues that the organization failed to properly account for the effects of prevailing low interest rates. “The price-to-rent ratio has increased, but it is much less than they estimated.”


Canadian mortgage rates, notably benchmark five-year fixed loan costs, have dropped steadily during the past fifteen years, fuelled by loose central bank monetary policy. They have hovered in the middle of the 3.0% to 4.0 range for the past year, according to a chart supplied by Royal LePage. Indications are that that trend is likely to continue. Earlier this month the Bank of Canada announced that it was maintaining its target for the overnight rate at 1.0 percent.


John Murray, the central bank’s deputy governor believes that the loose money policy has been crucial to ensuring “Canada’s superior economic performance during the financial crisis and through the ensuing recovery, relative to that of most other advanced economies.” However in a speech delivered in Victoria early this month, Murray acknowledged that output remains significantly below potential, a hint that the low rates will continue for some time.


Canadian experts versus the world

Dunning, who built his “street cred” in the field, through work he does for the Canadian Association of Accredited Mortgage Professionals, isn’t alone in his analysis. Economists at several large Canadian financial institutions have made similar calls in recent weeks and months. Although most concede that there are some risks on the horizon, such as a weakening Chinese economy, which may cool demand for raw materials, the consensus appears to be that “all is fine.”


Many experts from outside the country lean in the other direction. The International Monetary Fund, Deutsche Bank and the Economist magazine have all published reports suggesting that Canadian residential real estate is significantly overvalued.


Earlier this month Pimco, one of the world’s largest bond management groups, leaned in that direction as well. The highly respected California-based firm, which has been cutting its Canadian holdings has suggested that residential real estate here could pull back by as much as 20 percent in inflation-adjusted terms during the coming years.


The discrepancy between the assessments of Canadian economists and those located outside the country provides an interesting side story. Who can we trust? Those on the ground here who are presumably better connected and closer to the action? Or those who are above the fray and thus likely to be more objective? This one will be interesting to watch.






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