The Bank of Canada's muddled message on house prices -

The Bank of Canada’s muddled message on house prices

Stephen Poloz refuses to say whether Canada’s housing market is in a bubble. But he does have one message: don’t blame him for soaring prices

A real estate sold sign hangs in front of a west-end Toronto property Friday, Nov. 4, 2016. THE CANADIAN PRESS/Graeme Roy

A real estate sold sign hangs in front of a west-end Toronto property Friday, Nov. 4, 2016. THE CANADIAN PRESS/Graeme Roy

Ultra low interest rates, which have been at or below 1.25 per cent for 96 months, are not to blame for any speculation that may be driving the country’s hottest housing markets, according to Canada’s central bank chief.

In an exclusive interview with Maclean’s this week, Bank of Canada Governor Stephen Poloz shot down any suggestion the Bank’s easy money policy is responsible for home prices in cities like Toronto and Vancouver rising at double-digit annual rates. “No, when you’re borrowing money to buy a house and you think you’re going to make 20 per cent over the next year, I don’t think it’s going to make a difference if the interest rate you’re paying is 2 per cent, 4 per cent or 6 per cent,” he said. “It’s still an important capital gain. I would pretty well reject that. It’s not low interest rates that are fuelling speculation.”

READ MORE: Our full Q&A with Stephen Poloz

That was one of several stark comments Poloz made regarding the housing market in a wide ranging interview that addressed the threat Canada faces from rising protectionism as well as the quality of the current economic recovery.

The question of whether Canada’s housing market is in a bubble has dogged the Bank of Canada for several years. In December 2014 the Bank warned house prices could be overvalued by as much as 30 per cent. That warning came in the Bank’s twice-yearly review of risks facing Canada’s financial system, and was based on the work of one of its legion of economic analysts. “While it is difficult to know for certain,” the financial review stated, “the wide range of estimates, including new research done at the Bank of Canada, suggests that there is some risk that housing markets are overvalued” by between 10 and 30 per cent.

Since then, of course, house prices in several parts of the country have kept on rising, by 25 per cent nationally and 35 per cent in Toronto and Vancouver. So does that mean house prices might now be 50 or 60 per cent overvalued in parts of Canada?

TREB March 31

When asked that question Poloz refused to be pinned down, going so far as to question the original findings of the report. “I’m certainly not going to hang my hat on that number or even whether there is overvaluation,” Poloz said, noting the report was based on a theoretical model of the housing market. “That’s the magic word, it’s a model, so you know enough now to lower your trust factor.”

It was an unusual comment, coming from the head of an institution that depends heavily on models to carry out its work. Just this past January, in a speech about the “art and science” of models for monetary policy, he called them “indispensable.” Yet it’s also just the latest confusing twist in the Bank’s narrative about Canada’s great obsession: real estate.

At times Poloz has used un-central banker like language to warn people that their expectations about the housing market in Toronto and Vancouver are unrealistic, be they buyers, sellers—domestic and foreign—or lenders. The Bank recently released an explainer video that described, in simple terms, how fast-rising prices and bloated household debt loads could combine to seriously damage the economy.

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At other times, though—especially when faced with questions about the possibility of an outright housing crash—Poloz has been more sanguine.

In speaking to Maclean’s, Poloz muddied the Bank’s position further. While house prices are high in Toronto, he said, the underlying fundamentals in recent years might support that. “The greater Toronto economy is creating five per cent per year more jobs,” he said. “Population growth is continuing to be strong. The same thing with Vancouver. That automatically generates more demand for housing at a time when there are constraints around supply.”

Yet at the same time, he pointed to the pace of double-digit house price appreciation and said the fundamentals in the city don’t support such a torrid rate. “The way prices are rising in Vancouver and certainly in Toronto, it would be really hard for me to construct a fundamental story to justify,” Poloz said. “You’re kind of left with [the idea that] some of that must be driven by extrapolated expectations.”

“Every time you hear a story about somebody who bought a house, not living in it, just to sell it eight months or a year later, pay capital gains tax and still make out all right, that’s speculative—and in a way artificial—demand.”

It’s been impossible to pin down exactly what Poloz thinks about Canada’s housing market for several years now. That is arguably by design. It was certainly the approach the U.S. Federal Reserve took as the American housing bubble grew to its dangerous heights before the crash, as the Fed’s own minutes reveal.

In 2004 Ben Bernanke, the former Fed chairman who was then still a governor, told his fellow governors that they must walk a tightrope when asked about the potential of a bubble in America’s housing market. “One’s inclination is to answer by painting a benign picture so as not to cause unnecessary public concern,” he said during one March meeting. “On the other hand, financial conditions do change, and it’s our collective responsibility both to monitor those changes and to communicate truthfully to the public what we see.”

Poloz appears to be pursuing that same strategy, preferring to focus instead on federal measures that seek to improve the quality of household debt by tightening credit conditions for buyers.

“Financial stability is the thing we’re tackling, and whether prices go up or down after you’ve changed the rules around mortgages is not relevant for that policy,” he said. “That policy is not designed to somehow control the housing market.”

More from our Q&A with Stephen Poloz:


The Bank of Canada’s muddled message on house prices

  1. One problem is that credit is a commodity that may be used for any economic activity, consequently it is dammed hard to use base interest rates to limit a specific activity such as buying real estate. Most of the other measures used to constrain demand primarily target the least wealthy would be residential housing buyers which is first undemocratic and second does little to curb buyers chasing million dollar housing which is the symptom frequently cited. Some measures are patently nonsense; for example, raising the minimum down payment merely reduces the cost of borrowing and reduces the time it takes for a home owner to achieve a positive position where they might become upwardly mobile; in fact, the housing market has evolved to incorporate the starter home concept. But Mr Poloz plays fast and loose with his explanation about interest rates by conflating ordinary home buyers with speculators and developers as if wanting an extra bedroom and wanting a new business opportunity are one and the same thing. His understanding of demographics also seems overly simplistic: population is not only growing but it is aging, consequently, home buyers are not only more numerous but have more accumulated capital – as a consequence, a large segment of new construction caters to upscale second homes while another provides still more expense ‘downsize’ homes.
    Comments from Mr Poloz like “Every time you hear a story about somebody …” should be both confusing and disturbing: does he really rely on anecdote rather than data to arrive at his understanding of the economy? His simplistic take on interest rates is also amazing and troubling: it seems irrefutable that low interest rates reduce the carrying cost of real estate driving up demand and prices thereby heating up the market. As far as investors and developers are concerned, they most likely do an IRR calculation on their potential investments where WACC (cost of borrowing) is a dominant factor; in short, low interest rates encourage financed investment. Railing against a high rate of return is economic nonsense: why wouldn’t any investor seek out investments with the highest rate of return?
    On the private side, given the low rate of return on fixed investment, in part due to low interest rates, seniors are unlikely to pull capital out of their real estate (in many cases ’til death do them part); strangely, Mr Poloz fails to mention financial institutions offering fixed rate investments that fail to outpace inflation (not much of an alternative). The result is a significant amount of higher value real estate being underutilized: Mr Poloz’s suggestion of taxing seniors for extended hospital stays, cruises and sunbelt vacations is both mean spirited and marginally effective at best.
    Perhaps, instead of poking his nose elsewhere, Mr Poloz should spend more time dealing with banking issues such as rapacious business practices of banks; banks that put sales figures above all else are certainly part of the problem. His attempt to blame a potential financial bubble on home buyers rather than financial institutions, possibly including his own, seems blithely ignorant of the cause of the last financial meltdown.

  2. Canada’s housing market is in a serious problem and something needs to be done urgently. The government should look into the strategy of “turning a blind eye to the matter” by banks and lenders whose activities influence, directly or indirectly, the appraisal system in the real estate business and keep prices on the high side. Banks claim that they are involved in appraisal in real estate business to protect themselves. Nobody disputes them protecting themselves. But what is going on in the background? What is the end result to the economic system of the country? Where is the system headed to? If we have to be sincere about it, which entity is the best fit for the appraisal of any building? When you combine the appraisal system with low interest rates (carefully designed), it will be obvious why Canada’s housing market is in an expanding bubble. If this is not understood, it is very unfortunate. The government does not need much of an eagle eye to see this. What do you expect when the financial institutions accept to lend money no matter the cost? This is where they feed from – easy money. Any other procedure carried out is mere formality. We see a future when banks will be lending people money to get groceries. The banks would have done a good job negotiating and lending money (any amount) to grocers, and accepting that people (buyers) pay any minimum amount they choose monthly and for any number of years that will equate to. Guess the impact this will have on the prices of groceries. Allowing financial institutions to directly or indirectly dominate the appraisal process in real estate business is by no means holistic if concerns about the housing market should ever be addressed. The government should be able to know the appropriate experts to take a critical look at the whole situation and dismantle any structures that drive housing price up.