Housing affordability in Canada has reached “worrisome levels,” as soaring prices and tighter market conditions continue to persist across the country.
Robert Hogue, a senior economist with RBC Economics, said in a recent Canadian housing report that there have been “large departures from historical norms,” which indicate that property prices are detached from the realities of local buyers.
As of Q4-2021, RBC’s aggregate affordability measure for Canada has hit its worst level in 31 years, growing 1.6 percentage points to 49.4 per cent. This marks a near-record deterioration of 7.2 percentage points over the past year, which has only been exceeded once in 1990.
“Rapid price escalation in the early months of 2022 has already raised the bar to impossible levels for many homebuyers,” stated Hogue.
“And with the Bank of Canada now in the process of hiking interest rates materially—we expect a total increase of at least 150 basis points in the coming year—ownership costs look set to spiral even higher. Worst-ever affordability levels could well ensue, putting buyers in a precarious spot,” he added.
Market imbalances emerged during COVID-19
Hogue stated that the property price increases recorded during the COVID-19 pandemic have been “nothing short of stunning,” having exceeded 30 per cent growth nationwide.
Changing home needs, strong incomes, increased investor participation and record-low interest rates contributed to the ramp up in buyer demand as administrative obstacles prevented a suitable supply response. As a result of these trends, a significant market imbalance emerged.
In Q4-2021, Canadians paid a 17 per cent premium over late-2019 valuations, “which were already quite steep,” according to Hogue. Halifax, Ottawa and Toronto saw higher premiums of 26 per cent, 24 per cent and 22 per cent, respectively.
“Whether lofty valuations can be sustained will largely depend on how long demand-supply conditions remain ultra tight and market sentiment stays bullish,” said Hogue, who added that a rapid increase in interest rates could bring on cooler demand and ease the market imbalance.
Canadians now show greater sensitivity to rising rates
With extremely high home prices amplifying the impact on mortgage payments, Hogue stated that Canadian homebuyers are now more sensitive to interest rate changes than they were more than a decade ago.
For instance, a one percentage-point hike in rates would currently increase payments by $315 a month — double than what it would be 10 years ago — on the average Canadian home price of $775,000.
RBC projects that we’ll see a 150 basis-point rise in rates from the Bank of Canada, which would raise RBC’s Canadian composite affordability measure more than seven percentage points, further worsening affordability.
“While income gains will provide a partial offset, it’s entirely possible RBC’s measure could spike to all-time highs in the year ahead,” said Hogue. “A shock of this magnitude would severely stress homebuyers and exert significant downward pressure on demand.”
While all buyers will likely feel the effects of rising rates, those in the country’s most competitive markets will feel it the most. In cities like Vancouver, Toronto and Victoria, where mortgage amounts exceed the national average by a long shot, interest rate fluctuations affect mortgage payments the most. Hogue anticipates that RBC’s aggregate affordability measure could “easily surpass previous peaks in all three markets.”
“Buyers in Montreal, Ottawa and, to a lesser extent, Halifax also face further material erosion of affordability,” he said. “Most of Atlantic Canada and the Prairies, on the other hand, are relatively less sensitive, containing downward pressure on demand.”
In light of rising rates, Hogue said that many homebuyers will shift their preferences, which may include looking for a more modest or different type of home, considering more affordable markets, asking family for financial support or opting for a lower mortgage rate.
