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Mortgage interest rates have risen significantly and continue to put pressure on Canadian households. The logical question we have to answer every day is: when will rates stop rising and begin to come down?
On the one hand, Canada’s overall inflation rate has increased for the second month in a row, and some experts warn that this trend could mean another Bank of Canada rate hike in October. On the other hand, the Canadian economy showed only minimal growth last month, supporting the view of some economists that the central bank needs to pause, even though inflation remains high. Let’s take a closer look at both of these factors, since they directly influence the Bank of Canada’s decisions. And for those who find economic forecasts boring, feel free to skip straight to the end of the article and read a few practical recommendations.
Inflation rose to four percent in August, according to Statistics Canada’s Consumer Price Index report published on September 19, with the acceleration driven mainly by higher food and gasoline prices. This was the second disappointing CPI report in a row for Canada, Sal Guatieri, Director and Senior Economist at BMO Capital Markets, told Bloomberg. What is concerning is that the median CPI rate has now climbed back above four percent. Remember, the Bank of Canada has been very concerned about the slow pace of decline in some of these core inflation measures, and these numbers will only add to its concerns.
In addition to high food and energy prices, Guatieri noted that higher prices in the services sector, including rent, are putting pressure on Canadian consumers. The Bank of Canada is scheduled to make its next interest rate decision on October 26, after holding the rate at five percent in September.
Some experts believe the latest inflation data could lead to another Bank of Canada rate hike at the next meeting, while others think the central bank will leave rates unchanged as long as the economy remains stagnant. The unexpected August inflation report means another rate hike is now back on the horizon, said Tu Nguyen, an economist at accounting and consulting firm RSM Canada. Although inflation was expected to rise because of gasoline prices, rent, and base-year effects, there is no way around it: four percent is simply too high for comfort. Nguyen said that if inflation remains persistent in the September CPI report as well, an October rate hike will become even more likely, and the economy could enter a recession as a result.
Sal Guatieri, however, noted that he considers a rate hike next month unlikely, as it would further slow an economy he described as already lying on its back.
Preliminary data released by Statistics Canada on September 29 supported the BMO economist’s conclusions. According to the report, gross domestic product rose by only 0.1 percent in August, as declines in retail trade and the oil and gas sector partially offset growth in wholesale trade and finance. This followed virtually flat GDP growth in July, which fell short of expectations for a 0.1 percent increase.
The economy is currently on track to grow at an annualized rate of 0.2 percent in the third quarter, assuming output remains unchanged in September. This is below the consensus forecast of 0.4 percent, according to a Bloomberg survey.
Although this means Canada may avoid a technical recession thanks to a rebound from the second-quarter decline, the pace of growth is much weaker than the 2.6 percent recorded during the first three months of the year.
The report indicates that the economy remains in a weak state, as higher interest rates put pressure on indebted households and limit spending. This gives the Bank of Canada room to keep short-term borrowing costs steady at the end of October, despite the deteriorating inflation backdrop.
So who should borrowers listen to when choosing a mortgage today, and what should we expect from interest rates in the near future?
In our view, interest rates are currently at their peak, and Deloitte Canada’s latest forecast supports this position. In the short term, Canada’s economic difficulties are expected to ease, and next year, as economic growth resumes, the Bank of Canada will begin lowering its key lending rate, according to Deloitte Canada.
Improved economic forecasts in the United States and Canada’s continued population growth are offsetting some of the negative pressure from high household debt, sharply rising interest payments, and stubborn inflation, according to the firm’s latest economic outlook report. “We do have an economy that gets back on its feet in the first half of next year,” said Dawn Desjardins, Chief Economist at Deloitte Canada and co-author of the report. The recovery is expected to gain momentum in the second half of 2024, because that is when Deloitte expects the Bank of Canada to begin moving away from the high interest rates we are living with today, she said. The report estimates that GDP will grow by one percent this year and by 0.9 percent next year.
However, the next two quarters will be difficult for the Canadian economy, Desjardins said. Canada’s economy has entered a challenging period, and growth is likely to be very modest, she noted. In fact, the forecast includes several negative quarters.
The slowdown is the result of months of Bank of Canada measures aimed at fighting high inflation, which have increased household debt burdens and loan payments.
Desjardins noted that one-third of Canadian households have a mortgage, adding that an increasing number of them are considering refinancing their properties because they are struggling to keep up with monthly mortgage payments — a trend that is expected to continue. “We think the housing market will remain relatively sluggish in the short term,” Desjardins said, adding that this will also affect other sectors. When this happens, people do not buy durable goods such as refrigerators, stoves, and washing machines, which they would normally purchase when buying a new home.
Despite the affordability crisis and the housing crisis, Deloitte Canada said that stronger trade with the United States and population growth in Canada appear to be helping the country avoid a deeper recession.
Canada’s population is expected to grow by 2.7 percent this year. The only time the country came close to such population growth was back in 1971, when it grew by 2.2 percent.
Economists expect population growth to outpace job growth in the coming months, while the unemployment rate is forecast to reach 5.9 percent early next year. Slower hiring will push unemployment higher and, in turn, slow consumer spending.
Canada’s record population growth has also forced Deloitte to revise its expectations for consumer spending. The report says real consumption per capita has fallen by 1.5 percent over the past year, which is more consistent with declining real wages and high interest rates. “We have finally seen evidence that consumers are pulling back,” Desjardins said. The Bank of Canada’s rate increases are putting pressure on some household budgets.
The report suggests that consumer spending will grow by two percent this year, but slow to 1.2 percent in 2024.
Deloitte Canada estimates that by the middle of 2025, the overnight interest rate will fall to a neutral level of three percent, compared with five percent today.
Based on the scenarios described above and on our daily work advising clients who are choosing a mortgage, we would like to offer several practical recommendations for anyone arranging a mortgage today:
- Canada’s economy is strongly affected by global processes and shocks, which means economists often revise and change their forecasts. For this reason, clients with fixed incomes should build their budgets around more conservative scenarios.
- Because real estate prices remain extremely high and many borrowers need to qualify for the maximum possible mortgage amount, they often have little choice today but to accept a five-year fixed rate, since it is still lower than other available options.
- Well-qualified clients should consider a variable-rate mortgage, based on forecasts suggesting that rates may begin to decline in a year or a year and a half.
- Homeowners who already have a mortgage at a good rate but need additional funds do not necessarily have to break that mortgage and complete a full refinancing. It may be possible to arrange a line of credit or a short-term second mortgage to address immediate needs today, and then refinance later when rates come down.
- Those who are finding it difficult to make mortgage payments because of sharply higher costs, or whose renewal is approaching at a higher rate, should contact their bank or a mortgage broker in advance. Today, there are established options for temporarily reducing the financial pressure on homeowners’ budgets and ways to get through the period of high interest rates calmly.