Dave Larock in Monday Interest Rate Update, Mortgages and Finance, Home Buying, Toronto Real Estate News
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Last week was filled with good news for variable-rate mortgage borrowers.
The Bank of Canada (BoC) met last Wednesday and, as expected, left its target
overnight rate unchanged. More surprisingly though, the Bank also eliminated its
oft-repeated warning about near-term rate increases. Here is the exact wording
from the announcement:
While some modest withdrawal of monetary policy stimulus will likely be
required over time, consistent with achieving a 2 percent inflation target, the
more muted inflation outlook and the beginnings of a more constructive evolution
of the imbalances in the housing sector suggest that the timing of any such
withdrawal is less imminent than previously anticipated.
The first notable wording change was the BoC’s “more muted inflation
outlook”, which was supported by the December Consumer
Price Index (CPI), released by Statistics Canada last Friday. The report
showed overall inflation of only 0.80% over the most recent twelve months, along
with core inflation of 1.10% over the same period. (Reminder: core inflation
strips out the more volatile inputs to the CPI like food and energy prices.)
Our inflation rates have fallen steadily over the past year and a half and
are among the lowest in the world. If they remain at current levels, the BoC
will have to think seriously about lowering its overnight rate, not raising it,
to achieve a two percent inflation target over the medium term.
Sound crazy? Let’s look at the other key wording change in the BoC’s latest
statement – the “more constructive evolution of the imbalances in the housing
sector”.
Our borrowing has slowed sharply of late and household credit is now
expanding at a rate of only 3%, the lowest level seen since 1999. If household
credit growth, which BoC Governor Mark Carney has repeatedly called the
“greatest threat to our domestic economy”, continues to stabilize, the BoC’s
interest-rate policy should align more closely with the actual economic data
going forward.
I say this because I have long maintained that the Bank’s repeated warnings
to Canadians about imminent rate increases have not actually been supported by
economic data, domestic or otherwise, for some time. In fact, many analysts have
long speculated that the BoC was using its higher-rate warning as a kind of
moral suasion to persuade Canadians to slow their borrowing (a tactic that I
would argue had little meaningful impact).
Even if you look at the BoC’s own economic forecasts, which were just updated
in the latest Monetary
Policy Report (MPR) that was released last week, there is plenty to suggest
that the next move in the overnight rate could just as easily be down as up:
- The BoC cut its forecast for Canadian GDP growth from 2.40% to 2.00% in
2013. (Note: the Bank upgraded our GDP growth forecast for 2014 from 2.40% to
2.70% but didn’t support this optimistic revision with a detailed explanation.
And it doesn’t jibe with any of the Bank’s projections for other countries in
2014, as you will see below). The Bank now also expects our output gap (the gap
between our actual output and our maximum potential output) to disappear in the
second half of 2014, instead of by the end of 2013, as forecasted in the October
MPR. - The BoC cut its forecast for U.S. GDP growth from 2.30% to 2.10% in 2013 and
from 3.20% to 3.10% in 2014. The Bank now estimates that “fiscal consolidation
will exert a significant drag on U.S. economic growth … [and this] will subtract
roughly 1.5 percentage points from growth in both 2013 and 2014.” - The BoC cut its euro-zone GDP growth forecast from 0.40% to -0.30% in 2013
and from 1.00% to 0.80% in 2014. The Bank now believes that “the economic
recovery will be slower than originally thought, in part because fiscal
austerity measures and tight credit conditions are taking a
greater-than-expected toll on economic activity”. - The BoC takes note of China’s recent economic rebound but also points out
that “other economic activity has slowed further in other major emerging
economies.” - On an overall basis, the report states that while “global tail risks have
diminished [meaning the risk of a systemic shock to the global financial system
that could be caused by an event like a sovereign debt default], the global
outlook is slightly weaker than projected in October”. In other words, the
global economic momentum arrow is pointing down across the board.
Government of Canada (GoC) five-year bond yields were one basis point lower
for the week, closing at 1.46% on Friday. Five-year GoC bonds remain locked in a
range between 1.35% and 1.50%, with market five-year fixed rates fluctuating
between 2.99% and 3.04%. As always, borrowers who know where to look can find
mortgage planners offering anywhere from five to ten basis points off of those
rates, depending on the terms and conditions (some of which are quite
important).
Variable-rate discounts are available in the prime minus 0.40% range (which
works out to 2.60% using today’s prime rate). While five-year variable rates
only offer a small saving over their equivalent five-year fixed rates, last
week’s BoC announcements provided further reassurance that this saving should
remain in place for the foreseeable future.
The bottom line: I have long argued that the BoC’s warnings about
near-term higher rates would not come to fruition and the Bank’s latest
revisions to its interest-rate guidance confirm this view. With that question
now put to rest I don’t think it’s crazy to wonder whether the next move in the
overnight rate, when it eventually does come, has as much chance being a
decrease as an increase. (And that’s especially true if the BoC’s latest
international GDP growth forecasts are on the money.)
David Larock is an independent mortgage planner and industry insider specializing in helping clients purchase, refinance or renew their mortgages. David's posts appear weekly on this blog (movesmartly.com) and on his own blog integratedmortgageplanners.com/blog). Email Dave
