"The Balloon is Swelling, But it Will Not Burst"
Through most of the 1990s, the Canadian housing market was soft, due to sharp increases in interest rates and to the jobless economic recovery early in the decade. That situation changed
late in the 1990s, as subdued house price inflation and lower interest rates made housing more affordable, a trend that continued into the new millennium. (See chart.) As a result, housing starts grew strongly—reaching more than 233,400 units in 2004, a level 43.4 per cent higher
than the 2001 rate. The resale market also enjoyed substantial growth.
Despite energetic home building activity, demand has continued to outstrip supply, leading to rapid price increases. New home prices rose by an average of 4.8 per cent annually from 2002 to 2004 and prices for existing homes increased even more, averaging 9.6 per cent annually over the same period. While rising prices led to a decline in affordability—especially in British Columbia, Ontario and Quebec— low lending rates kept housing relatively affordable throughout the country.
In the near future, continued price increases and rising interest rates will further reduce affordability—which will decline in all markets in 2006 and 2007 before stabilizing in the medium term. The main culprit will be mortgage rates, which are expected to rise by 150 basis
points between the first quarter of 2006 and the fourth quarter of 2007. Housing affordability is expected to settle at levels near the historical averages for most Canadian markets.
While affordability is forecast to decline, it will not fall to early-1980s or even early-1990s levels. In the medium term, affordability is expected to settle at levels near the historical averages for most markets. British Columbia is the exception—affordability in the province
is forecast to decline to below its historical average. In that province, average monthly household income is expected to settle at 5.1 times the average monthly mortgage payment, including capital and interest. In other words, 19.6 per cent of a household’s income would be needed to cover a mortgage payment on average. As a result, affordability will not be nearly
as problematic as it was in the early 1980s, when household income was just 3.2 times the monthly mortgage payment, or in the mid-1990s, when the figure was 4.5 times.
In short, the Canadian housing price balloon may swell over the short term, but it will not burst.
The Conference Board’s quarterly economic forecasts are available from e-Data, www.conferenceboard.ca/edata.htm.
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