Bank of Canada backs tighter mortgage stress test amid hot housing market

Central bank worried that soaring demand for homes coupled with limited supply could lead to speculation and cause economic strain

Article content

The Bank of Canada is acknowledging that limited housing stock is spurring strong price growth across the country, but expects recent policy initiatives to help rebalance the market, according to its latest monetary policy report.

The central bank on Wednesday threw its support behind a tighter mortgage stress-test proposal and measures outlined in the budget designed to cool the red-hot housing market, which has been spurred by unique economic conditions borne out of the pandemic.

“With so many households working and studying at home, we see many people want more space and interest rates have been unusually low, making borrowing more affordable. While the resulting house price increases are rooted in fundamentals, we are seeing signs of extrapolative expectations and speculative behaviour,” central bank governor Tiff Macklem told reporters.

“Given elevated levels of household debt and the risks that households may overstretch in the face of rising housing prices, we welcome the recent proposal by the Superintendent of Financial Institutions to introduce a fixed floor to the minimum qualifying rate for uninsured mortgages. New measures just announced in the federal budget will also be helpful,” Macklem said.

Article content

The Office of the Superintendent of Financial Institutions (OSFI) this month proposed strengthening the mortgage stress test in a move that would dampen demand on housing. Beginning in June, the qualifying rate for uninsured mortgages will be either two percentage points above market rate or 5.25 per cent — whichever is higher. The current qualifying rate is 4.79 per cent.

On Monday, the Liberals in their new budget proposed $3.8 billion dedicated to the construction, repair, or support of 35,000 additional housing units.

Prior to endorsing the new policy initiatives, the central bank had only sparsely acknowledged the heated state of the country’s housing market, despite calls for it to intervene.

At the end of March, Macklem told the Financial Post he was seeing “worrying” signs in the market, in which households were taking on increasing levels of debt to chase rising prices. In February, he had said the housing market was showing signs of “excess exuberance.”

As the central bank announced it was pulling forward its growth projections from some time in 2023 to the second half in 2022, Macklem said it will be watching developments in the housing market “very closely.”

Article content

Acknowledgment on three fronts that the strength we’re seeing is excessive

Robert Kavcic, Bank of Montreal

Robert Kavcic, senior economist at the Bank of Montreal, pointed out that the bank’s indication that interest rates may rise sooner than previously expected could help change the tide of speculative activity.

“You almost have acknowledgment on three fronts that the strength we’re seeing is excessive, and probably needs to be dealt with in some fashion,” he said, referencing today’s central bank announcement and proposals by OSFI and in the budget.

Two weeks ago, Kavcic told the Post that he believed the central bank would need to raise interest rates in order to address demand in the housing market that had “completely vapourized” supply.

With the latest policy developments, “the housing market might not even require (the Bank of Canada) to raise rates right now,” he said. “Acknowledging that there is some excessive strength in the housing market, and pulling forward guidance … might be enough to start changing the psychology in the housing market, even if just a little bit.”

On the flip side, Royal Bank of Canada senior economist Robert Hogue believes the calendar bump for interest rate action will have a negligible impact on the housing market in the near term.

“It might have more of an impact later on,” Hogue said. Either later this year or early next year, as we get closer to the possibility of an interest rate hike, that could be a driver of increased activity “and people trying to lock in rates before they start rising.”

With the pickup of residential construction — which slowed at the beginning of the pandemic — and expected moderation of demand, the central bank still expects housing activity to “remain well above pre-pandemic levels” but that it should soften, it said in its monetary policy report.

• Email: bbharti@postmedia.com | Twitter: biancabharti

Listen to Down to Business for in-depth discussions and insights into the latest in Canadian business, available wherever you get your podcasts. Check out the latest episode below: