Canadian Households and Housing Market Show Resilience in Response to Recent Interest Rate Hike

Market Intelligence | July 13, 2023

In an ongoing effort to address inflation, the Bank of Canada has raised its interest rate to five percent, marking the second quarter-point hike since the previous increase to 4.75 percent in June. This consistent approach to managing inflation has yielded positive results, as the inflation rate has gradually stabilized. In June, it reached 3.4 percent, the lowest level since its peak of 8.1 percent in June 2022, although it still remains above the central bank’s target of two percent.

The recent decline in prices can be attributed to various factors, including the fading impact of the Russian invasion of Ukraine and the downward trends in raw material and industrial prices. As a result, the Canadian economy has experienced robust growth, expanding by 3.1 percent in the first quarter of 2023. This growth has been fuelled by increased household spending on services, indicating a healthy economic environment.

Labour Market Steady

With such positive economic growth, job creation has followed suit, leading to tighter labour markets. This means that there are abundant job opportunities available, but a scarcity of available workers. The convergence of strong economic growth and job creation bodes well for the Canadian economy and its workforce.

The tightening labour market continues to be a prominent feature, even though the unemployment rate has risen by two points to 5.4 percent in June. Nevertheless, it is important to note that the unemployment rate remains below the pre-pandemic average of 5.7 percent, indicating a relatively resilient job market.

While mortgage interest rates have played a significant role in the rising cost of living, it’s worth noting that grocery prices have also remained high, with a year-over-year increase of nine percent as of this past May. This further emphasizes the importance of managing finances effectively in the face of changing economic conditions.

Fortunately, there have been positive developments in certain categories, such as durable goods (including automobiles and furniture), where price growth has slowed down. Additionally, there has been a notable decrease of 8.2 percent in the price of cellular services over the past year.

Housing Market Shows Resilience

On a brighter note, Canadian households and the housing market have demonstrated resilience despite some fluctuations over the past year. According to a recent report from the Canada Mortgage and Housing Corporation (CMHC), the number of mortgages in arrears remains low, even though more households have expressed concerns about making timely mortgage payments. This low number of delinquent mortgages reflects the financial stability and resilience of Canadian households.

However, it is essential for mortgage owners to be mindful of the implications of the recent interest rate hike. The increase in the prime rate, which banks charge their customers, now stands at 6.95 percent, up from 3.70 percent in June 2022. This adjustment can have an impact on households and businesses alike.

Homeowners with variable mortgage rates or nearing the end of their mortgage terms will experience the most noticeable effects of this rate hike. Higher interest rates require borrowers to allocate a larger portion of their disposable income towards debt repayment, leaving them with less to spend on essential household items, including food.

To adapt to higher mortgage rates, Canadians have been opting for shorter-term fixed-rate mortgages. Fixed-rate terms ranging from one to five years have become the preferred choice, as borrowers anticipate a potential decrease in interest rates within the next few years. Surprisingly, less than 15 percent of new mortgages are now locked in for fixed-rate terms of five years or longer, compared to the previous preference prior to August 2022.

Extending Amortization Periods Offer Relief

Another strategy households are employing to manage higher interest rates is extending amortization periods, effectively reducing monthly debt servicing costs. This approach helps homeowners avoid missing mortgage payments. Over the past year, it has become increasingly common for mortgages to be amortized over periods greater than 25 years. For instance, in the fourth quarter of 2022, 60 percent of mortgages had amortization periods exceeding 25 years, compared to 50 percent three years earlier. This trend is expected to persist as households facing higher mortgage payments seek ways to lower their monthly expenses. Once interest rates start to decrease, it is likely that the trend will reverse.

While the downward trend in inflation indicates that the Bank of Canada’s interest rate hikes may soon come to an end, it is expected that the current interest rate will remain stable for the rest of the year. The next inflation update is scheduled for July 18.

At present, it seems that the Canadian economy has gained enough momentum this year to avoid a recession. As we move forward, both inflation and interest rates are anticipated to soften in 2024, offering a smoother economic path.

With files from Scott White