Dave Larock in Interest Rate Update, Mortgages and Finances
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Last week the Bank of Canada (BoC) announced that it would leave its overnight rate unchanged, as was almost universally expected. This matters to anyone in the market for a mortgage because all of our variable and fixed mortgage rates are priced either directly or indirectly on the overnight rate.
The BoC also offered its latest insights into how both the Canadian and U.S. economies are progressing. Here are my five key highlights from that statement:
- Inflation is running “near the bottom” of the BoC’s target range of 1% to 3%, largely as a result of “the transitory effects of sharply lower energy prices”. Meanwhile, core inflation, which strips out volatile consumer price index (CPI) inputs like food and energy, “remains above 2%” and is being “boosted by the pass-through effects of past depreciation of the Canadian dollar … as well as sector specific factors”. So we’ve got “transitory effects” of cheaper oil pushing overall inflation down, and “pass-through effects” of the rising Loonie pushing core inflation up. These forces have been roughly offsetting, and that has created a tenuous balance for our inflation momentum, but the Canadian dollar has rallied of late and if that trend continues we should expect to see some upward pressure on inflation in the near future.
- On an overall basis, the BoC believes that our rate of inflation is “consistent with persistent slack in the economy”. The Bank’s use of the phrase “persistent slack” is an indication that it thinks that our that our economy still has plenty of room to grow before it reaches full capacity. So while the rising Loonie may exert some upward pressure on inflation over the short term, the BoC can be expected to look past any related short-term volatility and to hold its monetary policy in check until that overall slack dissipates.
- The Bank’s outlook for the Canadian economy “remains largely in line” with its most recent forecasts, and it expects that both the U.S. and Canadian economies will recover from a weak first quarter and “return to solid growth in the second quarter”. Last week we learned that Canadian GDP contracted by 0.6% in the first quarter, which was consistent with the BoC’s prior warnings that the negative impacts of the oil-price shock would be “front loaded”. The Bank now hopes the corresponding first-quarter slowdown in the U.S., which saw its GDP contract by 0.7% over that period, will prove to have been caused by a combination of one-off factors, such as unusually bad weather and the strike-caused port shutdown on the U.S. west coast. The U.S. economic data remain mixed, so this view inlcludes a healthy dose of hope.
- “Consumption in Canada is holding up relatively well, given the impact of lower oil prices on gross domestic income”. I think the BoC discounts this as a thin silver lining in our otherwise cloudy economic data, because it remains concerned about the elevated and still-rising household-debt levels that are helping to maintain these consumption rates. The Bank would be much happier to see a “rotation of demand in Canada towards more exports and business investment”, but that development remains more of a hope than a certainty at this point as well.
- The BoC closed its latest statement by highlighting its concern over the Loonie’s recent rise “in the context of higher oil prices and a softer Canadian dollar”. It warns that “if these developments are sustained, their net effect will need to be assessed as more data become available in the months ahead”. This last paragraph gives the BoC’s statement a dovish bias because it acknowledges that rebounding oil prices and an appreciating Loonie are creating headwinds that are delaying our economy’s retooling towards exports and business investment as its main drivers. While the Bank appears willing to tolerate a short-term spike in the Loonie, if this surge in our currency is sustained over the medium term, the Bank may be compelled to drop its overnight rate to weaken it. (This will no doubt force BoC Governor Poloz to reiterate his dubious claim that his Bank does not use its monetary policy to influence the Loonie, despite all evidence and logic to the contrary.)
Five-year Government of Canada (GoC) bond yields dropped by eighteen basis points last week, closing at 0.87% on Friday. Five-year fixed-rate mortgages are offered in the 2.49% to 2.59% range, and five-year fixed-rate pre-approvals are available at rates as low as 2.69%.
Five-year variable-rate mortgages are available in the prime minus 0.65% to prime minus 0.80% range, depending on the terms and conditions that are important to you.
The Bottom Line: The BoC’s monetary policy remains boxed in. The Bank’s ability to drop its overnight rate is limited by concerns about our already extended household debt levels, and its flexibility to raise its overnight rate is restricted by the negative impact that a rising Loonie would have on export demand. These forces combine to tie the BoC’s hands, and as such, they imply that both our fixed and variable mortgage rates should remain very near today’s levels until the economic data on both sides of the 49th parallel look materially different than they do today.
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, Move Smartly, and on his own blog: integratedmortgageplanners.com/blog Email Dave
June 1, 2015
Mortgage |