In the last couple of years, housing prices in Canada have been on a significant upswing. And while Canadians generally own their homes as a way to maintain their purchasing power as an inflation hedge, they probably did not expect a gain of 28% over the last two years on what was likely their largest asset, their homes.
The Globe and Mail released an article in February detailing some of the issues involved in the recent surge and that over the next extended period, housing prices are likely to do something they haven’t done in decades: stagnate. The article below will offer an overview of why that is the case and some expectations in the future.
STAGNATION AHEAD – COORDINATION PROBLEMS
Many recent commentaries have housing prices in Canada going two directions – either much higher, or much lower. But as the Globe and Mail reported, there is a likelier third option, and that is for prices to be rangebound for the foreseeable future.
Why is this the case? First, we must understand the dynamics of the recent boom in prices from 2000 to 2015, where the average Canadian home in the 11 major cities grew 146%. There were three main culprits to the gains in the housing market: inflation, rising wages, and falling interest rates. The first two are self-explanatory, as housing prices generally increase in inflationary environments (the gain to housing was 90.3% over those 15 years when you strip out inflation). Rising wages (18.7% gain over that period) allowed Canadians to afford more homes, increasing demand.
However, the major impact on making up for the balance of gains over that period was falling interest rates.
THE INVERSE INTEREST RATE CORRELATION
This is the biggest factor, it seems, in how prices gained in value from 2000 to 2015 could be explained by interest rates. As noted in a Bank of England (BoE) paper that looked at the inverse correlation between British home prices and interest rates, a move of “just 1 per cent [can] result in real house prices ultimately moving by roughly 18 per cent” in the other direction.
