Are Higher Fixed Mortgage Rates Here To Stay?

One question many Canadians are asking is are higher fixed mortgage rates here to stay? At the September policy meeting, the Bank of Canada (BoC) raised interest rates by 75 basis points, bringing the benchmark rate to 3.25 per cent, maintaining its hawkish approach to monetary policy. The central bank signalled that it would be prepared to keep pulling the trigger on rate hikes until there is sufficient evidence the consumer price index (CPI) is showing signs of coming down.

Although the Canadian annual inflation rate has eased from its 30-year high of 8.1 per cent in August, officials conceded that this was driven mainly by gasoline prices. The national economy endured “a further broadening of price pressures, particularly in services.” As a result, “the policy interest rate will need to rise further,” and additional tightening was on the horizon to ensure price stability.

Given the outlook for inflation, the Governing Council still judges that the policy interest rate will need to rise further,” the BoC said in a statement. “Quantitative tightening is complementing increases in the policy rate. As the effects of tighter monetary policy work through the economy, we will be assessing how much higher interest rates need to go to return inflation to target. The Governing Council remains resolute in its commitment to price stability and will continue to take action as required to achieve the two-per-cent inflation target.”

Now that rates are normalizing from their pandemic-era lows, borrowing costs are increasing for credit products and services. Of course, this also means higher returns on bank deposits.

But many buyers and homeowners have a major question: What about mortgage rates?

Are Higher Fixed Mortgage Rates Here To Stay?

In response to the central bank’s policy decision, most Canadian financial institutions, including the Bank of Montreal, Scotiabank, and Toronto-Dominion Bank, raised their prime lending rates by three-quarters to 5.45 per cent. This is up from the previous prime lending rate of 4.70 per cent.

This matters because it is the starting point for lenders’ loan calculations. In other words, it will trigger a significant boost in borrowing costs for many Canadian consumers.

Many economists, market analysts, and homeowners are concerned that this will add pressure to the Canadian real estate market. While this is true, the effects of higher mortgage rates on the nation’s housing industry are not as cut and dry as experts would purport.

Variable-rate mortgages will be immediately impacted by higher mortgage rates. Homeowners who are due for renewal on their fixed-rate mortgages within the next couple of years will also feel the financial squeeze of higher mortgage rates. Homebuyers will now need to contend with a higher mortgage rates compared to what others received a year ago.

A rising-rate environment in Canada’s housing sector is expected to create a ripple effect throughout the economy. Because homeowners will contend with greater debt-servicing payments, many will inevitably slim down their budgets and cut back spending on other areas, be it trips to restaurants or buying apparel.

But is this the new normal for the Canadian real estate market? Yes.

Governor Tiff Macklem has been clear that he intends to tighten policy a lot more until the central bank successfully tames inflation. While the institution noted that it could not contain the supply component of rampant inflation, it does possess the tools to douse red-hot demand. So, as rates go up, it will trim demand, whether it is for labour or real estate.

The consensus among many central banks is that they will lift their respective benchmark policy rates and leave them there for an extended period. When many Canadians acquired a home during a historical bubble, the debt factor could be troubling for new homeowners.

In addition, with higher interest rates on the way, it will add to the minimum mortgage stress test. But while it is unlikely federal regulators will reform the stress test in this environment, other industry experts think it might be time to take another look at it. The thought is that it might be placing too many buyers at a disadvantage amid rising rates.

Will Higher Rates be Real Estate’s Death Knell?

RE/MAX expects average residential prices to moderate downward by 2.2 per cent through the end of 2022. However, it appears that some market experts have thrown in the towel for the Canadian real estate market, with downturn forecasts as high as 20 per cent. And climbing mortgage rates will not do the industry any favours moving forward.

We see the downturn intensifying and spreading as buyers take a wait-and-see approach while ascertaining the impact of higher lending rates,” wrote Robert Hogue, assistant chief economist with Royal Bank of Canada, in a research note.

That being said, there is some hope that perhaps the five-year fixed rate mortgage could have already peaked, as long as the Bank of Canada does not approve any supersized rate hikes for the rest of the year or heading into 2023.

Ultimately, the effects of rising interest rates are already being seen in the Canadian real estate market. In July, national home sales tumbled by 5.3 per cent month-over-month, while the MLS® Home Price Index (HPI) tumbled by 1.7 per cent month-over-month, according to the Canadian Real Estate Association (CREA). The next few months of data should give the industry a clear picture of what to expect in 2023.

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