“You can be confident that interest rates will be low for a long time.”
Bank of Canada governor Tiff Macklem will forever wear those words, spoken in October 2020, according to a new report from TD’s chief economist.
Macklem’s message, delivered at a time when the central bank was trying to project calm and stimulate the economy with ultralow interest rates amid the disruption of the pandemic, was aimed at businesses considering new investments and “household(s) considering making a major purchase.”
The result, said TD’s Beata Caranci, included an astonishing rush of Canadians into variable-rate mortgages, which offered much lower rates than fixed-rate loans at the time. By January of last year, 57 per cent of new mortgages were variable-rate, according to the Canada Mortgage and Housing Corporation, up from just six per cent in December 2019.
But little more than a year after Macklem’s reassuring words, the Bank of Canada began aggressively raising rates in a bid to combat inflation — a move that came too late, according to Caranci.
Now, with the Bank’s central policy rate at 4.25 per cent, many are regretting those variable-rate loans as they face ever-higher monthly payments while struggling to absorb rising costs on everyday items such as food.
Variable-rate mortgages now account for about a third of total mortgage debt, the central bank said in November, up from about 20 per cent pre-pandemic.
People are ultimately responsible for their own financial decisions, Caranci told the Star in an interview, but the Bank of Canada’s words added fuel to the housing market fire.
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“It led people down that path (toward taking on variable-rate mortgages) more than should have been the case,” she said, adding that the Bank’s original messaging indicated major rate increases wouldn’t happen until at least 2023.
“I think where people got caught was the speed of increases. Even if people had anticipated rates would go up, they would not have anticipated the speed of increases, because we had not had a recent historical precedent of that.”
On top of its messaging, Caranci also critiqued the Bank for leaving rates so low for so long, particularly in the face of Canada’s high levels of immigration, with most newcomers settling close to five large urban centres and putting upward pressure on home prices in those areas.
While the Bank doesn’t set immigration levels, she said those low rates, maintained long after the worst of the crisis had passed, helped fuel “home prices, speculative behaviour, and leverage.”
“By mid-July (2021), they should have been thinking, ‘Hey maybe we don’t need zero, letting (the policy rate) sit at one per cent for six months at this stage makes sense,’” she said, noting that would still have had a stimulative effect on the economy and at the same time, “automatically would have started to influence people’s decisions on what to do for financing.”
Caranci’s report said the Bank’s policies contributed to “an injection of historic levels of household debt.” Now, that risk is about to be compounded by eye-popping costs to service those debts, taking away from Canadians’ disposable income and likely hurting growth in other parts of the economy.
The damage is done now, but Caranci said when it comes to future financial crisis events, the Bank should be more careful with its messaging and less wedded to keeping interest rates ultralow over an extended period of time.
“Forward guidance and a bias toward a longer duration on the (low interest rates) gave an additional boost to the Canadian economy, but it also amplified risks and contributed to the central bank reversing course on interest rates at a breakneck pace in its aftermath,” she said in the report.
Christine Dobby is a Toronto-based business reporter for the Star. Reach her at firstname.lastname@example.org
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