Bank of Canada Will Not Be Happy With This Inflation Report

General Bob Rees 19 Oct

Thank you to our Chief Economist, Dr Sherry Cooper for the below.  HOWEVER, I’m curious how effective increasing Prime Rate is on reducing inflation if the Federal Government continues its spending and printing of money ……. that might be the real question we should be asking?

 

Bank of Canada Will Not Be Happy With This Inflation Report
Canada’s headline inflation rate ticked down slightly last month to 6.9%, but measures of core inflation remain stubbornly high, and food prices hit a 41-year high. Lower gasoline prices were primarily responsible for the decline in inflation in the past three months. Bond markets sold off on the immediate release of the data this morning, taking the 2-year yield on Government of Canada bonds to over 4%. This is the last major data release before the Bank of Canada’s policy rate announcement next Wednesday, October 26, which puts the potential for a 75-bps hike back in play. At the very least, the Bank will take the overnight rate up 50 bps to 3.75%, but I wouldn’t rule out another 75-bps move. Judging from experience, we may see a nod in that direction by Governor Macklem before the Governing Council meets.

Excluding food and energy, prices rose 5.4% year-over-year (y/y) in September, following a gain of 5.3% in August. Prices for durable goods, such as furniture and passenger vehicles, grew faster in September compared with August. In September, the Mortgage Interest Cost Index continued to put upward pressure on the all-items CPI Canadians renewed or initiated mortgages at higher interest rates.

Monthly, the CPI rose 0.1% in September. On a seasonally adjusted monthly basis, the CPI was up 0.4%.
Average hourly wages rose 5.2% on a year-over-year basis in September, meaning that, on average, prices rose faster than wages. The gap in September was larger compared with August.

In September, prices for food purchased from stores (+11.4%) grew faster year-over-year since August 1981 (+11.9%). Prices for food purchased from stores have increased faster than the all-items CPI for ten consecutive months since December 2021.

Contributing to price increases for food and beverages were unfavourable weather, higher prices for essential inputs such as fertilizer and natural gas, and geopolitical instability stemming from Russia’s invasion of Ukraine.

Food price growth remained broad-based in September. On a year-over-year basis, Canadians paid more for meat (+7.6%), dairy products (+9.7%), bakery products (+14.8%), and fresh vegetables (+11.8%), among other food items.
Bottom Line

Price pressures might have peaked, but today’s data release will not be welcome news for the Bank of Canada. There is no evidence that core inflation is moderating despite the housing and consumer spending slowdown. The average of the Bank’s favourite measure of core inflation remains stuck at 5.3%. Combined with the Governor’s recent harsh rhetoric, the high probability that the Fed will hike rates 75 bps at the next Federal Open Market Committee Meeting and the weak Canadian dollar, there is no doubt the Bank will increase their overnight policy target to at least 3.75%, and could well go the full 75 bps to 4.0% next week. I would bet that they will not quit there, with further hikes to come in December and next year by central banks worldwide.

The Government of Canada yield curve is now steeply inverted, reflecting the widely held expectation that the economy is slowing. The prime rate will increase sharply next week, increasing variable mortgage rates again. Fixed mortgage rates will rise as well, but not by as much, continuing a pattern we’ve seen since March when the Bank of Canada began the current tightening cycle. We are unlikely to see a pivot to lower rates in the next year as inflation pressures remain very sticky.
 

Dr. Sherry Cooper
Chief Economist, Dominion Lending Centres

 

Forty-Three Years Ago, I Was Fed Chair Paul Volcker’s Special Assistant

General Bob Rees 17 Oct

Thank you to our Chief Economist, Dr Sherrry Cooper, for this insight!

 

Forty-Three Years Ago, I Was Fed Chair Paul Volcker’s Special Assistant
Inflation appears to be book-ending my career. I started my work as an economist in the Research Division of the Federal Reserve Board in Washington, D.C., in the late 1970s. Inflation had been trending higher for years. Neither Arthur Burns nor G. William Miller, the Fed chairmen preceding Volcker, had the fortitude to raise interest rates sufficiently and keep them there long enough to reduce inflation to a low sustainable pace. Paul Volcker pulled it off–for which he was personally vilified at the time. But since then, Paul Volcker has become a legend, esteemed as the central banker whose brute-force campaign subdued inflation for decades.

You can see in the chart below that in late 1979, the Volcker Fed hiked the overnight policy rate to levels well above the inflation rate and kept real interest rates (nominal rate minus inflation rate) positive for an extended period.

The current Fed Chair, Jay Powell, has expressed deep admiration for Paul Volcker, calling him “the greatest economic public servant of the era.” Last month, Powell alluded to his predecessor’s record of persistence, saying that policymakers “will keep at it until the job is done” — invoking Volcker’s memoir, “Keeping at It.”

The Bank of Canada was no slouch on the inflation front as well. As the chart shows, the Bank hiked interest rates in lockstep with the Fed in the Volcker years and even more in the early 1990s when Ottawa was fighting Canadian budgetary red ink to the ground.

This time around, Tiff Macklem has been ahead of the Fed in hiking interest rates and, in a speech on Thursday, said that the economy is still “clearly” in excess demand, with businesses facing an extremely tight labour market, wage gains broadening and underlying inflation pressures showing no signs of letting up. Macklem said that the sources of inflation, which started with goods prices, are broadening to the service sector. “. Labour markets remain very tight. Job vacancies have eased a little in recent months but remain exceptionally high. Our business surveys report widespread labour shortages. And wage growth has risen and continues to broaden.”

“With demand running ahead of supply, competition is posing less of a restraint on price increases, and businesses are passing through higher input costs more quickly. As a result, higher energy and material costs are showing up in the prices of a growing list of goods and services. So even if there is some relief at the gas pumps, price pressures remain high and continue to broaden. In August, the prices of more than three-quarters of the goods and services that make up the CPI were rising faster than 3%.”

Macklem continued, “As we look for a more fundamental turning point in inflation, measures of core inflation are becoming increasingly relevant…after taking out volatile components in the CPI that don’t reflect generalized changes in prices, inflation is running about 5%. That’s too high. We can also see that our core measures have yet to decline meaningfully even though total CPI inflation has come down in the last couple of months. Going forward, we will be watching our measures of core inflation closely for clear evidence of a turning point in underlying inflation.” In conclusion, the governor said, “there is more to be done….We know we are still a long way from the 2% target. We know it will take some time to get there. We also know there could be setbacks along the way, and we can’t afford to let high inflation become entrenched.”
So given the clear statements by the Fed and the Bank of Canada, it makes no sense why Bay Street economists are betting that the overnight rate in Canada will peak at around 4% by yearend. They are still forecasting a decline in short-term interest rates next year due to a slowdown in economic activity. I don’t buy that.

There are many views on how far the central banks will have to hike rates from here, but the critical issue is to reach a point where rates are meaningfully restrictive. A rule of thumb is that the overnight policy rate must rise to exceed the inflation rate. Fed Chairman Powell has said that he believes that real interest rates should be positive across the yield curve. Today, long and short US rates are still the lowest compared to inflation since the Burns era in the mid-1970s. (see chart below). Traders are betting that the US overnight rate will rise another 125 basis points (bps) by yearend and continue to rise next year to a median estimate of 4.6%.
Chair Powell has clarified that he is willing to tolerate much slower growth. As Bloomberg economists suggest, “Canada is seen having both faster growth and lower interest rates over the next three years — a peculiar mix of economic outcomes that assumes the country is more buffered from global headwinds — including a potential US recession — but won’t face the same pressure to match the Fed higher.”

Short-term money markets are betting the Bank of Canada will stop its hiking cycle at about 4%, versus a Fed benchmark rate peaking at about 4.6% and remaining below US short-term rates for at least another three years.

This is especially unreasonable given the fall in the Canadian dollar, which is now trading at US$0.728 compared to US$0.814 one year ago. This depreciation reflects the inordinate strength of the US dollar–the global safe-haven currency in a time of enormous uncertainty and volatility. The Canadian dollar has fared far better than other G-7 countries over this period. But the decline in our currency will raise the prices of the many US products and services we import, adding to inflation.

Inverted Yield Curves

In Canada and the US, 2-year yields have risen sharply to levels well above 5-year yields. As of October 6, the 2-year Government of Canada bond yield is at 4.0% compared to the 5-year yield at 3.49% and the 10-year yield at 3.31%. This implies the markets expect a slowdown in economic activity, but that does not mean that the overnight policy rate will fall in 2023 as Bay Street expects, especially if core inflation remains well above 2%. The Canadian prime rate is currently 5.45%, well above the 5-year yield of 3.49%. When the Bank of Canada Governing Council meets again on October 26, it will likely raise the policy rate by at least 50 bps to 3.75%, taking the prime rate up to 5.95% or higher—clearly improving the relative attractiveness of fixed-rate mortgage loans.
Bottom Line

For most of my readers, inflation is a brand-new experience, and so are rising interest rates. Inflation in Canada was at 2.2% when the pandemic began, and the 5-year bond yield was a mere 1.3%. Quickly the central bank cut the overnight rate from 1.75% to 0.25%, the prime rate fell from 3.95% to 2.45%, and the 5-year bond yield fell to a low of about 0.32%. Housing demand exploded and continued strong until it peaked in February 2022 when the Bank of Canada began to hike interest rates.

Interest rates will not fall to pre-pandemic levels next year or even the year after. And we will likely never see interest rates at pandemic levels again, at least I hope not, because it would take another global economic shutdown. Hence, mortgage-borrower psychology will change. Many more homeowners will choose to lock in fixed interest rates, and by the time this is over, a new generation will realize that interest rates don’t just fall but sometimes rise to levels higher than expected and stay there longer than expected—a painful lesson to learn.
 

Dr. Sherry Cooper
Chief Economist, Dominion Lending Centres

Orderly Housing Correction Continues

General Bob Rees 14 Oct

Orderly Housing Correction Continues
There are many unusual aspects to the current housing correction, but fundamentally the most noteworthy is how orderly and non-chaotic it has been. Home sales have slowed, but so have new listings, so the price declines are more muted than we might have expected. This is not a housing collapse. It is a housing correction. We’ve seen little distressed selling, as most would-be sellers have lots of home equity and low mortgage rates–not anxious to buy new properties immediately. Moreover, with rents surging, most potential down-sizers aren’t keen to make that trade-off.
The full effects of the most recent rate hikes have not yet manifested. Statistics released today by the Canadian Real Estate Association (CREA) show that the slowdown that began in March in response to higher interest rates continued in September. Home sales recorded over Canadian MLS® Systems fell by 3.9% between August and September 2022. From May through August, month-over-month declines have been progressively smaller. The September result marked a slight increase in the current sales slowdown that began with the Bank of Canada’s first rate hike back in March.While about 60% of all local markets saw sales fall from August to September, the national number was pulled lower by the fact markets with declines included Greater Vancouver, Calgary, the Greater Toronto Area (GTA) and Montreal.

The actual (not seasonally adjusted) number of transactions in September 2022 came in 32.2% below that same month last year. It stood about 12% below the pre-pandemic 10-year average for that month (see chart below).

“September was another month of lower sales activity, although, with many sellers also opting to play the waiting game, the market remains on the tighter side of balanced market territory,” said Jill Oudil, Chair of CREA. “It makes for an interesting dynamic, one that doesn’t really have many historical precedents. The market has changed so much in the last year, and the adjustment to higher borrowing costs is still underway.”

“Up until recently, higher borrowing costs had disproportionally affected the fixed-rate space, with buyers able to qualify more easily if they went with a variable rate mortgage,” said Shaun Cathcart, CREA’s Senior Economist. “The Bank of Canada’s most recent rate hike in early September finally closed that door, so it was not a big surprise to see additional softness on the sales side. The important thing to remember is we’re still in the middle of a period of rapid adjustment, with buyers and sellers trying to feel each other out while a lot of people have had to take their home search plans back to the drawing board. As such, resale markets may remain on the quiet side for some time yet, with the flipside of that coin being even more pressure on rental markets.”
New ListingsThe supply of homes is still historically low. The number of newly listed homes edged back a further 0.8% on a month-over-month basis in September. This built on the 6.1% and 4.9% declines recorded in July and August, respectively, as some sellers appear content to stay on the sidelines until more buyers are ready to get back into the market. It was an even split between markets where new supply was down in September and those where it increased, with the most significant declines in the GTA offsetting the largest gains in British Columbia’s Lower Mainland.

Unusually, new listings would be so listless during a housing slowdown. However, the CREA data only go back 42 years, when interest rates trended sharply downward. Sellers today typically have mortgages at far lower than current rates, which no doubt dampens their enthusiasm to sell. Distressed sellers apparently listed their homes earlier this cycle, with the rest remaining on the sidelines for now. That could change if interest rates rise substantially further, although the incentives to stay in place continue high.

With sales down and new listings seeing a minor change in September, the sales-to-new listings ratio eased to 52% compared to 53.6% in August. The September 2022 reading for the national sales-to-new listings ratio was back on par with those in June and July and slightly below its long-term average of 55.1%.

There were 3.7 months of inventory on a national basis at the end of September 2022, up slightly from 3.5 months at the end of August. While the number of months of inventory is still well below the long-term average of about five months, it’s also up quite a bit from the all-time low of 1.7 months set at the beginning of 2022.
Home PricesThe Aggregate Composite MLS® Home Price Index (HPI) edged down 1.6% on a month-over-month basis in August 2022, not a small decline historically, but smaller than in June and July.

Breaking it down regionally, most of the monthly declines in recent months have been in markets across Ontario and, to a lesser extent, in British Columbia; however, in August, Ontario markets contributed most to the overall national decline.

Looking across the Prairies, prices in Alberta appear to have peaked. Prices still rise slightly in Saskatchewan, while Manitoba recorded the only decline. In Quebec, prices have dipped somewhat in the last couple of months. On the East coast, the softening of prices confined to Halifax-Dartmouth is now also appearing in New Brunswick, Newfoundland and Labrador. By contrast, prices in PEI continue to edge ahead on a month-over-month basis.

The non-seasonally adjusted Aggregate Composite MLS® HPI was still up by 7.1% on a year-over-year basis in August. This was the first single-digit increase in almost two years, as year-over-year comparisons have been winding down at a brisk pace from the near-30% record year-over-year gains logged just six months ago.

The Aggregate Composite MLS® HPI edged down 1.4% on a month-over-month basis in September 2022, not a small decline historically, but smaller than in June, July and August.

Breaking it down regionally, most of the recent monthly declines had been in markets across Ontario and, to a lesser extent, in B.C. The standout trend in August and September was that quite a few of those Ontario markets saw monthly price declines get stopped in their tracks, mainly in the Greater Golden Horseshoe. In a few markets prices even popped up a bit between August and September.

Looking across the Prairies, prices in Edmonton and Winnipeg are down a bit from their peaks, while prices are sliding sideways in Calgary, Regina, and Saskatoon. Similarly in Quebec, prices have dipped in Montreal but are mostly flat in Quebec City.

On the East Coast, price softness that had been confined to the Halifax-Dartmouth area appears to now be showing up in parts of New Brunswick and Newfoundland and Labrador, while prices in Prince Edward Island have flattened out in recent months but have not yet moved any lower.

The non-seasonally adjusted Aggregate Composite MLS® HPI was still up by 3.3% on a year-over-year basis in September, a far cry from the near-30% record year-over-year gains logged in early 2022.
The table below shows the decline in average home prices in Canada and selected cities since prices peaked in March when the Bank of Canada began hiking interest rates. More details follow in the second table below. The largest price dips are in the GTA and the GVA, where the price gains were spectacular during the Covid-shutdown.
US Inflation Surprises on the High Side in September

In other news, US CPI data, released yesterday for September, show inflation remains stubbornly high, assuring another 75 bps increase in the US overnight policy rate when the Fed meets again on November 3.

A closely watched measure of US consumer prices rose by more than forecast to a 40-year high last month, pressuring the Federal Reserve to raise interest rates even more aggressively. The core consumer price index, which excludes food and energy, increased 6.6% from a year ago, the highest level since 1982. From a month earlier, the core CPI climbed 0.6%. On the heels of a solid jobs report last week and record-low unemployment, the inflation data likely cement an additional 75-basis point interest rate hike at the Fed’s November policy meeting. Even more noteworthy, however, is that immediately following the release of the inflation report, the market assessment of the maximum overnight rate rose from 4.6% to 4.85% for March of next year, substantially above the current overnight rate of 3.25%.

Bottom Line

The Bank of Canada’s next policy announcement date is October 26, when we will likely see another hike in the overnight policy target of at least 50 bps to 3.75%. Much will depend on next week’s release of the September CPI report for Canada on Wednesday, October 19. All eyes will be on the Bank’s measures of core inflation, which have been stubbornly sticky at above 5% on average. If the data disappoint on the high side, we can’t rule out a 75-bps rate hike the following week.

I believe both the Bank of Canada and the Fed will hike overnight rates further later this year and into next year. They are also not likely to begin to reverse these rate hikes until 2024.
Dr. Sherry Cooper, Chief Economist, Dominion Lending Centres

Job Market Weakens As Economy Slows

General Bob Rees 12 Sep

Job Market Weakens As Economy Slows
The August employment report, released this morning by Statistics Canada, was considerably weaker than expected. Higher interest rates have slowed the red-hot labour market. The Canadian economy shed 39,700  jobs in August, missing market expectations of a 15,000 rise and bringing cumulative declines since May 2022 to 113,500 (see chart below). The job losses were most significant in education and construction. Education employment in the summer months can be distorted by seasonal factors and changes in the start of the school year.

We know that residential construction projects have been postponed or cancelled owing to the rise in borrowing costs and the slowdown in home sales. There were also fewer workers in construction (-28,000; -1.8%) in August, with the decrease spread across several provinces, led by Alberta (-11,000; -4.6%) and Ontario (-10,000; -1.6%).Total employment fell in British Columbia, Manitoba, and Nova Scotia, while it increased in Quebec. There was little change in the other provinces.

Total hours worked were unchanged in August, following a decline in July (-0.5%). On a year-over-year basis, total hours worked were up 3.7%.

Hybrid Work Continues

Working from home continues to be an important feature of work for many Canadians, although the specific nature of the arrangement continues to shift. As of August, 16.8% of employed Canadians reported that they usually work exclusively from home, down from 18.0% in July and down 7.5 percentage points since the beginning of 2022. The proportion of workers with a hybrid work arrangement—those who usually work both at home and at locations other than home—increased by 0.7 percentage points to 8.6% in August.
The Unemployment Surged From Record Low

The unemployment rate was 5.4% in August, up 0.5 percentage points from the record low of 4.9% observed in June and July. This was the first increase not coinciding with a tightening of public health restrictions since May 2020, when the unemployment rate reached its pandemic peak.

The unemployment rate increased for four of the six main demographic groups in August, including young men aged 15 to 24 (+1.2 percentage points, to 11.0%); women aged 55 and older (+0.7 percentage points, to 5.2%); core-aged men (+0.6 percentage points, to 4.6%); and core-aged women (+0.4 percentage points, to 4.5%). It was little changed among young women and older men.

The adjusted unemployment rate—which includes people who wanted a job but did not look for one—rose 0.5 percentage points to 7.3% in August. This increase was largely due to the rise in the number of unemployed rather than an increase in those who were outside the labour force but wanted work.

The hope is that the rising number of unemployed Canadians will help to fill the record job vacancies.

 
Wage Inflation Accelerates To 5.4% in August

Particularly troubling for the Bank of Canada is the further acceleration in average hourly wages, which rose 5.4% on a year-over-year basis in August, compared with 5.2% in June and July (not seasonally adjusted).

Bottom Line

The Bank of Canada will welcome the cooling labour market, which will ultimately take the pressure off wage inflation. I don’t expect today’s weaker jobs report to change the Bank’s view that interest rates need to rise further in the coming months to return inflation to its 2% target level.

In Other News Today, OSFI Refuses To Succumb to Pressure To Loosen B-20
Bloomberg News reported that despite the rise of mortgage rates heightening “the risk of a correction that could affect asset valuations and repayments” for Canadians, Peter Routledge, the Superintendent of Financial Institutions,  said the Office of the Superintendent of Financial Institutions (OSFI) would not adjust the standards in B-20.

OSFI first created its Residential Mortgage Underwriting Practices and Procedures Guideline (B-20) in 2012. The guideline set expectations for residential mortgage underwriting for federally regulated lenders.

“The uncertainty and anxiety caused by a rising interest rate environment have, understandably, caused some Canadians to advocate for a loosening of the underwriting standards in Guideline B-20,” Routledge said.

“Let me reassure those of you who oppose a loosening of underwriting standards that OSFI will not do that.”

In June, Canada’s banking regulator announced that it tightened underwriting standards on combined loan plans such as reverse mortgages, mortgages with shared equity features and combined loan plans.

Routledge reiterated that OSFI is “constantly evaluating the MQR (Minimum Qualifying Rate) to measure its efficacy in sustaining sound residential mortgage underwriting.”
“Because Guideline B-20 touches home ownership, it gets an extraordinary amount of public attention – at least relative to all our other regulatory guidelines,” Routledge said.

“We accept this reality – housing is crucial to all Canadians, and Guideline B-20, whether we at OSFI like it or not, matters to Canadians. And so, our job is to address concerns with B-20 transparently and forthrightly”.
 

 

Dr. Sherry Cooper
Chief Economist, Dominion Lending Centres

Housing Slowdown Continues in July

General Bob Rees 15 Aug

Housing Slowdown Continues in July

Statistics released today by the Canadian Real Estate Association (CREA) show that the slowdown that began in March in response to higher interest rates continued in July, albeit at a slower pace. Home sales recorded over Canadian MLS® Systems fell by 5.3% between June and July 2022. The pace of home sales last month was well below its 10-year moving average as buyers and sellers moved to the sidelines in response to rising mortgage rates and a reassessment of the outlook. While this was the fifth consecutive month-over-month decline in housing activity, it was also the smallest of the five.Sales were down in about three-quarters of all local markets, led by the Greater Toronto Area (GTA), Greater Vancouver, Fraser Valley, Calgary and Edmonton.

The actual (not seasonally adjusted) number of transactions in July 2022 came in 29.3% below that same month last year.

Housing market analysts at the Canadian banks continued to revise their home price forecasts over the next year. Royal Bank, TD, Desjardin and BMO all project that Canadian benchmark prices will fall roughly 20%-to-25% from their February peak by the end of 2023. Of course, this will vary from region to region. The hardest hit has been the geographies where prices surged the most, especially in the Greater Golden Horseshoe in Ontario and, to a lesser extent, in BC.

However, even if these forecasts prove to be correct, home prices in most regions will remain well above the levels posted before the pandemic began in early 2020. Housing in Canada’s largest cities will remain unaffordable for median-income households.
New ListingsThe number of newly listed homes fell back by 5.3% month-over-month in July. The decline in new supply was broad-based, with listings decreasing in about three-quarters of local markets, including most significant markets.With sales and new listings down by 5.3% in July, the sales-to-new listings ratio remained unchanged at 51.7% – slightly below the long-term average for the national sales-to-new listings ratio of 55.1%.

There were 3.4 months of inventory on a national basis at the end of July 2022, still historically low but up quite a bit from the all-time low of 1.7 months set at the beginning of 2022.

Home PricesThe Aggregate Composite MLS® Home Price Index (HPI) edged down 1.7% month-over-month in July 2022. This was similar but less than the 1.9% decline in June.

Regionally, most of the monthly declines in recent months have been in markets across Ontario and, to a lesser extent, in British Columbia.

Prices continue to be more or less flat across the Prairies while only now showing minor signs of dipping in Quebec. On the East Coast, prices continue to rise at a much slower pace. The exception is relatively more expensive Halifax-Dartmouth, where prices have dipped slightly.

The non-seasonally adjusted Aggregate Composite MLS® HPI was still up by 10.9% on a year-over-year basis in July. However, those year-over-year comparisons have been winding down quickly from the near-30% record year-over-year increases logged in January and February.
Bottom Line

The Bank of Canada raised the overnight policy rate by a percentage point on July 13, so the full effect of this jumbo hike will likely spill into the August data. Inflation fell a bit more than expected last month in the US. We expect to see a decline in Canadian CPI inflation in July, as well, when it is published tomorrow morning. Nevertheless, central banks will continue to tighten monetary policy further. CREA today said they expect an additional 100 bp hike in the remainder of this year, which would take the policy rate up to 3.5% by yearend. That would imply a prime rate of 5.7%.

In contrast, the five-year government of Canada bond yield is hovering just under 2.8%, reflective of the economic slowdown in Canada in the second half of this year. This could make fixed mortgage rates more attractive to future borrowers. Should the prime rate hit those levels, many fixed-payment variable rate borrowers that first booked their mortgages when prime touched 2.45%–it’s low posted since mid-March 2020– might be hearing from their lenders regarding potential trigger points. Will this temper Bank of Canada rate hikes?

Probably not. The Governing Council makes its next decision on September 7. Another 50-to-75 bps is baked in at this point.
Dr. Sherry Cooper, Chief Economist, Dominion Lending Centres

The Canadian Economy Is Slowing–Job Markets Will Begin To Shift

General Bob Rees 5 Aug

The Canadian Economy Is Slowing–Job Markets Will Begin To Shift
The July employment report, released this morning by Statistics Canada, is a real head-scratcher. The job numbers fell for a second consecutive month, but so did the number of job seekers, so the unemployment rate remained unchanged at a historic low of 4.9%. I have been pondering the profusion of labour market data for longer than usual today to decide where I come out on this. My bottom line is the Canadian economy is slowing in response to the whopping rise in interest rates. Labour markets across the country are still very tight as massive job vacancies continue, but the market’s tenor (or mood) is shifting.

There are still labour shortages in businesses that need customer-facing employees–think restaurants, hotels, travel, retail, household services, as well as in construction and the trades. But we are also now hearing of layoffs and cutbacks in businesses that boomed during the lockdowns. Many of those over-expanded and are currently cutting back. A great Canadian example is Shopify, but the same can be said of major retailers like Walmart and Target, which now find themselves overstocked.

The housing markets in Canada are slowing sharply, especially in the highest-cost regions around the Greater Vancouver and Toronto areas.

Central banks worldwide took interest rates down to near-zero levels in the early days of the pandemic, triggering a massive boom in housing. Canada’s boom was second to none, reflecting the long-standing housing shortage. Since 2015, home construction for rent and purchase in Canada has paled compared to the rising demand generated by surging immigration targets. First-time buyers’ FOMO, combined with record-low mortgage rates, especially on variable rate loans, triggered a buying frenzy. Millennial parents helped by tapping their homeowner equity to make those down payments possible. Some of those parents could be left with the legacy of home equity loans whose monthly payments have sky-rocketed with the prime rate. Cabin fever during lockdown generated a host of other buyers who just wanted more space and were willing to move to the exurbs and beyond to afford it. Investors, long tantalized by the surge in condo prices and the growing demand for rental properties, piled on.

Central banks kept interest rates too low for too long. They should have started to raise them when inflation percolated. They thought inflation was transitory, and we all thought vaccines were the magic bullet to end the Covid pandemic. The Russian invasion of Ukraine created the perfect storm, exacerbated by China’s zero Covid policy. Supply chains crumbled further, and commodity prices surged.

Now that oil prices below $90 a barrel have returned to pre-war levels, and gasoline prices have fallen since early June, inflation might have peaked. But central banks must continue tightening to return policy interest rates to normal levels. This means an overnight rate in Canada of roughly 3.5% and nearly 5% in the US. That’s still a far cry from today’s level of 2.5%. And the central banks will not and cannot return rates to last year’s lows. Not soon, and possibly not ever. Unless you believe an equivalent global shutdown will be required sometime in the foreseeable future.

The economy lost 30,600 jobs last month, adding to a loss of 43,200 jobs in June. Canada’s job market is losing momentum as the broader economy is cooling. The job loss also reflects labour shortages and insufficiently trained new workers. Just look at the chaos at Pearson Airport. Labour market conditions are still very tight, and wage rates are rising, up 5.2% y/y last month.
In Direct Contract, US Employment Surged in July 

In other relevant news today, Bloomberg reports that “US employers added more than double the number of jobs forecast, illustrating rock-solid labour demand that tempers recession worries and suggests the Federal Reserve will press on with steep interest-rate hikes to thwart inflation.” So much for a Fed pivot. The idea that the bond market rallied on the premature news of a US recession made no sense at this point in the cycle.

Similarly, the Bank of Canada is still likely to hike the policy rate by 75 basis points when they meet again on September 7. That would take the prime rate up to 5.45%. Currently, the 5-year government of Canada bond yield is 2.87%, well below its peak of 3.6% in mid-June. Consequently, we may see variable mortgage rates rise above fixed rates before year-end.
 

 

Dr. Sherry Cooper
Chief Economist, Dominion Lending Centres

 

Canadian Inflation Surged to 7.7% In May

General Bob Rees 22 Jun

Canadian Inflation Surged to 7.7% In May
Canada’s consumer price index increased 7.7% in May from a year earlier, up from 6.8% in April, the fastest inflation pace since January 1983. The release confirms that the Bank of Canada is staring down the most dangerous burst of Inflation since it started targeting the consumer price index in the early 1990s.Excluding gasoline, the CPI rose 6.3% year over year in May, after a 5.8% increase in April. Price pressures continued to be broad-based, pinching the pocketbooks of Canadians and, in some cases affecting their ability to meet day-to-day expenses.

The acceleration in May was mainly due to higher gasoline prices, which rose 12.0% compared with April 2022 (-0.7%). Higher service prices, such as hotels and restaurants, also contributed to the increase. Food prices and shelter costs remained elevated in May as price growth was unchanged year-over-year.

Monthly, the CPI rose 1.4% in May, following a 0.6% increase in April. On a seasonally adjusted monthly basis, the CPI was up 1.1%, the fastest pace since the introduction of the series in 1992.

Wage data from the Labour Force Survey found that average hourly wages rose 3.9% year over year in May, meaning that, on average, prices rose faster than wages in the previous 12 months.

Energy prices rose 34.8% on a year-over-year basis in May, driven primarily by the most significant one-month price increase since January 2003. Compared with May 2021, consumers paid 48.0% more for gasoline in May, stemming from high crude oil prices, which also resulted in higher fuel prices (+95.1%).

Crude oil prices rose in May due to supply uncertainty amid Russia’s invasion of Ukraine, as well as higher demand as travel continued to grow in response to eased COVID-19 restrictions.

Grocery prices remained elevated in May as prices for food purchased from stores rose 9.7%, matching the gain in April. With price increases across nearly all food products, Canadians reported food as the area in which they were most affected by rising prices. Supply chain disruptions and higher transportation and input costs continued to put upward pressure on prices.In May, shelter costs rose 7.4% year over year, matching the increase in April. Year over year, homeowners’ replacement costs rose to a lesser extent in May (+11.1%) compared with April (+13.0%), as prices for new homes showed signs of cooling.

Although prices for mortgage interest costs continued to decrease on a year-over-year basis, prices fell less in May (-2.7%) compared with April (-4.4%), putting upward pressure on the headline CPI.
Bottom Line

All central banks worldwide (except Japan) face much more than expected inflation. Today’s 7.7% inflation report for May increases the urgency for the Bank of Canada to quickly withdraw stimulus from an overheating economy for fear of price pressures becoming entrenched in inflation expectations and the economy. Tapping on the brakes isn’t good enough. The Bank must expedite the return to a neutral level of interest rates, which likely means the top of the neutral range at 3% for the overnight rate. It currently stands at only 1.5%.

We expect a 75 basis point hike on July 13, bringing the policy rate up to 2.25%. Markets are currently predicting that rate to go to 3.5% by yearend. That might well be too high, but right now, the Bank needs to prove its inflation-fighting credibility, even if it drives the economy into recession. It will continue to slow the housing market, reversing some of the 50% increase in national home prices over the past three years.

According to Bloomberg News, Senior Deputy Governor Carolyn Rogers was asked today about the possibility of a ‘super-sized’ move. She said, “We’ve been clear all along the economy is in excess demand, inflation is too high, rates need to go up. We’ll get it there.” Suggesting the possibility of an even larger than 75 bp rate hike.

The 7.7% annual reading may not even represent the peak, given that gasoline prices have picked up further in June.
The full range of core inflation measures surged in May, suggesting that price pressures go well beyond food and energy. The chart above shows that the Bank of Canada has consistently underestimated inflation. So have other central banks. They are bringing out the big guns now, and the housing market will always take the biggest hit.
Dr. Sherry Cooper, Chief Economist, Dominion Lending Centres

Housing Market Correction Gains Steam in May

General Bob Rees 15 Jun

 
Housing Market Correction Gains Steam in May
Statistics released today by the Canadian Real Estate Association (CREA) show that the slowdown that began in March in response to higher interest rates has broadened. In April, national home sales dropped by 12.6% monthly (m/m). National home sales fell by 8.6% between April and May, building on April’s decline, leaving monthly activity at pre-COVID levels recorded in the second half of 2019. (see chart below).

Sales were down in three-quarters of all local markets, led by many larger census metropolitan areas (CMAs), including those in the Lower Mainland, Calgary, Edmonton, the Greater Toronto Area (GTA) and Ottawa. The actual (not seasonally adjusted) number of transactions in May 2022 came in 21.7% below the record for that month set last year. At a little over 50,000 units sold, the May 2022 sales figure was very close to the 10-year average for that month.
New ListingsThe number of newly listed homes climbed 4.5% month-over-month in May. The monthly increase was influenced by a jump in new supply in Montreal, while new listings in the GTA posted a modest decline.

With sales down and new listings up in May, the sales-to-new listings ratio eased back to 57.5% — its lowest level since April 2019. It was also not far off the long-term average for the national sales-to-new listings ratio of 55.1%.

Almost three-quarters of local markets were balanced based on the sales-to-new listings ratio being between one standard deviation above or below the long-term average in May 2022 – the most significant number since the fall of 2019. A little less than one quarter was in seller’s market territory, while a small handful was in buyer’s market territory.

There were 2.7 months of inventory on a national basis at the end of May 2022, still historically low but up by a month from the tightest conditions ever recorded just six months ago. The long-term average for this measure is a little over five months.
Home PricesThe non-seasonally adjusted Aggregate Composite MLS® HPI was still up by 23.8% on a year-over-year basis in April, although this was a marked slowdown from the near-30% record increase logged just two months earlier.

The Aggregate Composite MLS® Home Price Index (HPI) edged down 0.8% m/m in May 2022, following a 1.1% decline in April.

Regionally, most of the monthly declines were in markets in Ontario. While most Ontario markets saw prices dip in May, prices rose in cottage country.

Prices rose in Vancouver Island but were flat in Greater Vancouver. Prices fell modestly in the Fraser Valley and posted a larger decline in Chilliwack. Prices were more or less unchanged across the Prairies save for small gains in Saskatoon and Winnipeg.

Meanwhile, Quebec, New Brunswick and PEI continued to outperform, while prices in Nova Scotia and Newfoundland and Labrador edged up slightly.

The non-seasonally adjusted Aggregate Composite MLS® HPI was still up by 19.8% y/y in May. However, this posted a marked slowdown from the near-30% record increases logged in January and February.
Bottom Line

The three-month slide in Canadian home sales has now returned sales to pre-COVID levels after running roughly 3)% above that level for the  18 months through February. The most significant slowdown has occurred in Ontario, especially outside the core Toronto region. New listings have risen, but inventories remain low. The sales-to-new listings ratio has fallen sharply to 57.5%, its lowest level since early 2019. Prices have fallen moderately, taking the year-over-year gain down to 19.8% from 23.6% y/y in April. The average home price is now up just 3.4% y/y, which is down 11% from the February peak.

Toronto is cooling, but the suburbs are cooling even faster, while the exurbs (think London, Woodstock, Barrie) are seeing the sharpest shifts. The sales-to-new listings ratio for all of Ontario sunk below 50%, a level we’ve only seen during the 2009 recession and the dark days of the early 1990s. Elsewhere, Alberta remains relatively tight, albeit with stalling prices, while Vancouver, Ottawa and Montreal are mixed between the extremes.

Interest rates have risen sharply from their COVID-induced lows. Mortgage rates have risen sharply from lows of about 1.5% to nearly 5% for 5-year fixed rates. Variable mortgage rates are on their way to 4%-to-4.5% by yearend. By late summer, any still-favourable rate holds will be gone, and this new interest-rate reality will fully sink in. Stress tests at the contract rate plus 200 bps are now nearing 7%; they’ll also be pushing above 5.25% in the variable space.

Many potential Canadian homebuyers now expect home prices to continue to fall in some regions. This shift in psychology will also contribute to the housing correction. In a separate report, CMHC reported that housing starts increased sharply in May. Homebuilding is at its most robust pace on record, going back to the 1950s. Given the record-low unemployment rate, home construction is constrained by record-high job vacancies in the sector, shortages of materials, and rising wage rates. Construction costs have risen sharply in the past year. With higher mortgage rates in the future, the deceleration in sales could lead to slower housing starts next year.

Finally, the Federal Reserve hiked interest rates by 75 bps today, intensifying the inflation fight. This opens the door for a 75 bps hike by the Bank of Canada when it meets again on July 13. It is now widely expected that the US policy rate, the overnight fed funds rate will exceed 4% by yearend. Canada’s central bank had already announced its intention to hike the overnight rate here more forcefully and has suggested that it will take an overnight rate above 3% to break the back of inflation. The overnight rate now is only 1.5%. A further correction in housing is likely in the coming months. As the economy’s most interest-sensitive sector, housing is the key transmission mechanism for tighter monetary policy to slow the economy and bring inflation under control.
Dr. Sherry Cooper
Chief Economist, Dominion Lending Centres

 

 

 

 

“Canada’s housing market is cooling down but it is still hotter than the long-term average and will likely stay that way for the next couple of years.”

General Bob Rees 25 May

Thank you to one of our preferred lenders, First National, for the below insight!

 

 

 

May 17, 2022

First National Financial LP

 

Canada’s housing market is cooling down but it is still hotter than the long-term average and will likely stay that way for the next couple of years.

The latest Housing Market Outlook from Canada Mortgage and Housing Corporation looks ahead to 2024 and sees moderating price growth, sales and housing starts.  However, this moderation is relative to record setting numbers posted in 2021, so all three factors will remain above their long-term averages.  These elevated numbers will be supported by continuing demand that is being fueled by robust economic (GDP) growth, higher employment and net migration.

While moderation and stability in the housing market are generally accepted as good things, CMHC is also forecasting an on-going decline in affordability.

CMHC points to sustained high prices and rising interest rates as key factors in affordability.  But in a new and separate “Housing Supply Report” the agency names the main culprit: Supply.

“The biggest issue affecting housing affordability in Canada is that supply simply is not keeping pace with demand,” according to the report.

“Housing starts have struggled to keep up with population growth,” the report adds.

The Housing Supply Report is scheduled to be released biannually for 2022 and 2023.  CMHC says it hopes to be able to estimate the number of housing units needed in Canada to improve home affordability.

 

Canadian Housing Market Feels The Pinch of Higher Rates

General Bob Rees 17 May

Canadian Housing Market Feels The Pinch of Higher Rates
Statistics released today by the Canadian Real Estate Association (CREA) show that the slowdown that began in March in response to higher interest rates has broadened. In April, national home sales dropped by 12.6% on a month-over-month (m/m) basis. The decline placed the monthly activity at its lowest level since the summer of 2020 (see chart below).

While the national decline was led by the Greater Toronto Area (GTA) simply because of its size, sales were down in 80% of local markets, with most other large markets posting double-digit month-over-month declines in April. The exceptions were Victoria, Montreal and Halifax-Dartmouth, where sales edged up slightly.

The actual (not seasonally adjusted) number of transactions in April 2022 came in 25.7% below the record for that month set last year. As has been the case since last summer, it was still the third-highest April sales figure ever behind 2021 and 2016.

Jill Oudil, Chair of CREA, said, “Following a record-breaking couple of years, housing markets in many parts of Canada have cooled off pretty sharply over the last two months, in line with a jump in interest rates and buyer fatigue. For buyers, this slowdown could mean more time to consider options in the market. For sellers, it could necessitate a return to more traditional marketing strategies.”

“After 12 years of ‘higher interest rates are just around the corner,’ here they are,” said Shaun Cathcart, CREA’s Senior Economist. “But it’s less about what the Bank of Canada has done so far. It’s about a pretty steep pace of continued tightening that markets expect to play out over the balance of the year because that is already being factored into fixed mortgage rates. Of course, those have, for that very reason, been on the rise since the beginning of 2021, so why the big market reaction only now? It’s likely because typical discounted 5-year fixed rates have, in the space of a month, gone from the low 3% range to the low 4% range. The stress test is the higher of 5.25% or the contract rate plus 2%. For fixed borrowers, the stress test has just moved from 5.25% to the low 6% range – close to a 1% increase in a month! It won’t take much more movement by the Bank of Canada for this to start to affect the variable space as well.”
New ListingsThe number of newly listed homes edged back by 2.2% on a month-over-month basis in April. The slight monthly decline resulted from a relatively even split between markets where listings rose and those where they fell. Notable declines were seen in the Lower Mainland and Calgary, while listings increased in Victoria and Edmonton.

With sales falling by more than new listings in April, the sales-to-new listings ratio eased back to 66.5% – its lowest level since June 2020. This reading is right on the border between what would constitute a seller’s and a balanced market. The long-term average for the national sales-to-new listings ratio is 55.2%.

More than half of local markets were balanced based on the sales-to-new listings ratio being between one standard deviation above or below the long-term average in April 2022. A little less than half were in seller’s market territory.

There were 2.2 months of inventory on a national basis at the end of April 2022, still historically very low but up from slightly lower readings in the previous eight months. The long-term average for this measure is a little over five months.
Home PricesThe non-seasonally adjusted Aggregate Composite MLS® HPI was still up by 23.8% on a year-over-year basis in April, although this was a marked slowdown from the near-30% record increase logged just two months earlier.
Bottom Line

The fever broke in the Canadian housing market last month. Nevertheless, despite the sizeable two-month slide in sales, activity is still almost 10% above pre-COVID levels and the raw April sales tally was still one of the highest on record.

Markets in Ontario are weakening most, significantly further outside the core of Toronto. Sales in the province slid 21% in April and are now in line with pre-pandemic activity levels. The market balance has gone from drum tight with “not enough supply” to one that resembles the 2017-19 correction period. Elsewhere, Vancouver and Montreal look better with relatively balanced markets, while others like Alberta and parts of Atlantic Canada remain pretty strong.

The Bank of Canada will likely hike interest rates by another 50 bps on June 1.
 

By,
Dr. Sherry Cooper, Chief Economist, Dominion Lending Centres
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