The Impact of High Interest Rates on Canada’s Housing Market: A Deep Dive
In recent years, Canada’s housing market has faced significant challenges, primarily due to rising interest rates. The latest bulletin from the Canada Mortgage and Housing Corporation (CMHC) indicates that these high rates have caused a notable reduction in new housing starts, which are crucial for meeting the increasing demand for homes across the country.
A Significant Decline in Housing Starts
CMHC estimates that higher interest rates have resulted in a decrease of approximately 30,000 new housing units in 2023. This figure accounts for around 10% to 15% of the annual total of homes that would typically be expected, given the annual average of about 250,000 units. To put this in perspective, this national decline is roughly equivalent to the total number of housing starts recorded in Metro Vancouver for the same year.
Understanding Housing Starts
Housing starts are defined as the commencement of construction work on residential buildings. They serve as a critical indicator of the health of the real estate market and the overall economy. A decline in housing starts often signals reduced demand among homebuyers and can lead to a further slowdown in economic growth.
The Ripple Effects of High Interest Rates
High interest rates have a twofold impact on the housing market. Firstly, they lead to lower demand for home ownership, as potential buyers find mortgages increasingly unaffordable. Secondly, they escalate borrowing costs for developers, making it more difficult to finance land acquisitions and construction projects. This combination creates a challenging environment for new housing development.
The Role of Government Intervention
To mitigate the effects of high borrowing costs, various levels of provincial and federal governments have stepped in with initiatives aimed at enhancing the supply of rental housing. Significant repayable low-cost construction financing has been made available to private developers focusing on secured purpose-built rental projects. Some of these initiatives involve converting strata ownership condominiums into dedicated rental housing, thereby adding much-needed inventory to the market.
However, a significant portion of existing rental housing supply comes from strata market ownership condominiums. Individual owners, often investors, rent out these units, and the slowdown in condominium construction has resulted in a stagnant rental housing supply, particularly in high-demand urban centers such as Metro Vancouver and Greater Toronto.
The Impact on Greater Toronto’s Housing Market
CMHC has highlighted that the full extent of high interest rates on Greater Toronto’s housing market might not be fully realized yet. The dynamics are complex. Private developers typically proceed with condominium projects only when about 70% of the units are pre-sold. This means that the rate at which housing starts occur is closely tied to interest rates faced by homebuyers and by corporate investors funding these developments.
The Private Sector’s Dominance
While advocates for public housing emphasize the need for social initiatives, it is essential to recognize that the private sector remains the predominant factor in housing supply in Canada. Approximately 95% of the country’s housing supply comes from private developers. As noted in the CMHC bulletin, these private players are instrumental in meeting the increased demand for housing and improving overall affordability.
Small investors often provide the necessary funding to construct condominium apartments. Developers rely on prospective buyers to secure funds needed not only for down payments but also for completing housing units. Large investors, too, are crucial for financing the construction of large multi-storey, purpose-built rental buildings, which often require significant upfront capital before any revenue can be generated.
Long-Term Recommendations for Housing Supply
To meet long-term housing demands and improve affordability, CMHC recommends that all levels of government encourage the private sector to increase housing supply during favorable economic conditions, especially when interest rates are low. Creating a conducive environment for construction will enable developers to scale up their operations and address housing shortages more effectively.
Future Interest Rate Trends
Looking ahead, the Bank of Canada is expected to continue adjusting its policy interest rate, with a focus on stimulating new housing supply. Currently, the policy interest rate sits at 4.25%, following a series of 0.25% cuts since June 2024. The next announcement is scheduled for October 23, 2024. Some economists predict that, if inflation remains stable, the Bank of Canada could gradually lower the rate to 3.75% by the end of 2024 and further down to 2.75% by the end of 2025.
Conclusion
High interest rates have undeniably had a profound effect on Canada’s housing market, contributing to a significant decline in new housing starts and influencing various facets of housing supply and demand. While government interventions aim to alleviate some of these pressures, the private sector ultimately plays a crucial role in shaping the future of housing in Canada. As we look to the future, closely monitoring interest rate trends and their implications will be key to understanding the trajectory of the housing market and ensuring that the needs of Canadians are met.
