Interest rates, financialization, and housing.
The narrative is pounded into Canadian minds that housing is expensive in Canada because "demand" by households seeking dwellings in which to reside outstrips their "supply" and "Economics 101: Supply and Demand" requires that housing prices rise.
The narrative claims further that as more housing comes online, housing prices will decrease.
But they have not because besides households that buy or rent housing to dwell in it, 30 percent of houses, condos, and townhouses that change hands in Canada each year are bought by individuals and financial institutions to let either long- or short-term, aggregate to acquire monopoly pricing power, accumulate to assemble land for future development, or hold beyond the minimum period to avoid being taxed for flipping.
The charts below show that prolonged periods of almost-zero percent Bank of Canada (BOC) overnight rates have resulted in exponentially rising housing prices in Canada. Low interest rates create cheap money, cheap money chases unearned income, and the greater the supply of cheap money, the more likely the demand by holders of housing for higher prices will be met.
Note that the interest rate on a variable rate mortgage is not set once and forever at a particular rate but is set relative to the lender's prime rate, and lenders' prime rates are set one to three percentage points above and almost always move in lockstep with the BOC overnight rate.
This is in contrast to the interest rate on a fixed rate mortgage, which is set relative to the 5-year bond yield. When the BOC overnight rate was extremely low from 2001 to 2022, variable rate mortgages were meaningfully less expensive than fixed-rate mortgages, as long-term bond yields were higher.
As of December, 2013, for example, according to BOC, "approximately one-third of outstanding mortgages have a variable interest rate" (sequential page 3) and the 5-year fixed rate "averaged between 200 and 250 basis points above the prevailing variable rate in recent years" (sequential page 9).
Figure 1 illustrates the relationship between BOC overnight rate and Bank for International Settlements (BIS) Real Residential Property Prices for Canada from January 1, 1970 to July 1, 2024. (Price in this chart is expressed as an index, 100 corresponding to house price in Canada on January 1, 2010.)
As BOC rate fell – especially once it touched 2% on January 14, 2002, for the first time since 1955 – house prices in Canada rose, the rate of rise accelerating the lower BOC rate fell below 2% and the longer it remained there.
House prices increase with decreasing BOC overnight rate for several reasons, chief among them that buyers – especially those buying with the intention of renting out or reselling houses, condos, townhouses, and apartment buildings – are willing to commit to repaying bigger loans the lower the rate of interest on those loans.
As mentioned above, variable rate mortgages (VRMs), introduced in the 1980s to enable lenders to transfer interest rate risk to borrowers, sell at a discount to fixed-rate mortgages, and VRM mortgage rates are set relative to and vary almost in lockstep with BOC overnight rate.
Another key reason is that institutional investors, including pension funds, insurers, real estate investment trusts (REITs), and others, in addition to private investors such as wealthy individuals seeking unearned income, are attracted to asset classes whose prices are increasing, increasing the momentum of housing price inflation.
Assuming interest rates will remain low and "end-users" (resident households) will therefore continue being obliged to pay increasingly higher "market rates" for housing, individuals and institutions holding sufficient capital avail themselves of opportunities to finance the construction of new houses, condos, townhouses, and apartment buildings – notably by prebuying units, which will sell or rent at a premium by the time they are completed – and accumulate existing housing, which can also be resold or rented out for increasingly higher prices.
These considerations, plus the fact that banks in a low-interest environment need to write more and bigger loans to hit their quarterly revenue and profit numbers, contribute to house prices skyrocketing when overnight interest rates approach zero.
Figure 2 shows that the S&P 500 stock index and Canada house price index follow almost identical trajectories. This illustrates that cheap money is spent primarily inflating the prices of financial assets, notably including housing, despite monetary theorists' insistence that low interest rates encourage investment in industry.
Cheap money is also claimed to cause consumer price inflation and is used therefore as an excuse to boost consumer prices. Figure 5, later in this analysis, will show that cheap money has little, if any, influence on consumer prices beyond being used as an excuse to raise them.
In Figure 2, above, the S&P 500 index fell precipitously after March 5, 2001, when the dot.com bubble burst taking all of the major U.S. stock indexes down significantly off their preceding highs. BOC overnight rate and U.S. Fed federal funds effective rate were both slashed to stimulate demand for risk assets and prevent a catastrophic stock market collapse.
What is at stake when a stock market bubble bursts is not necessarily stockholders' personal portfolios but loans issued by banks and other financial institutions that are collateralized with stocks, as well as venture capital (VC) loans, that suddenly will not be repaid.
Cheap money equals liquidity and seeks guaranteed returns not only to compensate for losses when risk assets like stocks are losing money, but also opportunistically, by flooding into real estate on a wave of low-interest mortgages.
This is reflected in the divergence of the S&P nosediving to a near-term bottom on September 1, 2001, while Canada house price index begins a massive, low-interest-rate driven run that tops out on January 1, 2022.
Another near-term top in Figure 2, this one for both the S&P and Canada house price index, occurs on January 21, 2008, when the fraudulent "subprime loan crisis" almost crashed the U.S. financial system.
The S&P nosedived again, bottoming on February 1, 2009, thanks to the U.S. Federal Reserve slashing its policy rate effectively to zero and implementing a central-bank asset-purchase program called Quantitative Easing (QE) to flood the system with cash.
BOC also slashed its overnight rate effectively to zero, and by February 1, 2009, both the S&P and Canada house price index resumed their relentless march skyward.
The next temporary top for Canada house price index was on September 5, 2017, this time precipitated deliberately by BOC raising its overnight rate to cool house price inflation.
Canada house price index retraced slightly from 155 to 152, then BOC quickly slashed its overnight rate again, apparently to prevent Canada's house price bubble from deflating. Public rhetoric, of course, revolved around "fighting inflation," which Figure 5 will show is politically motivated nonsense.
Slashing BOC rate effectively to zero again on March 26, 2020, sent Canada house price index parabolic, and it hit its all-time high on January 1, 2022.
Figure 3 analyzes in detail how cutting BOC overnight rate sends housing prices higher and raising it slows and on occasion temporarily reverses house price index rise.
Figure 3 - Inflection points - BOC Rate, Canada House Price Index
This chart shows that during the period June 30, 1974, through March 5, 2001, Canada house price index was essentially flat, rising only 1.7% from 59 to 60.
Then, beginning on March 5, 2001, in response to the dot-com stock market bubble collapse, BOC slashed its overnight rate, hitting 2% on January 14, 2002, for the first time since 1955. This set off an inflation in Canadian housing prices that has lasted so far for more than 20 years, house prices increasing 370% from March, 2001 to April, 2022.
BOC attempted to bring Canadian house price inflation under control with three major overnight rate increases: the first topping out in July, 2006 (arrow 2 on the chart), the next beginning in October, 2017 (arrow 5), and the last topping out in July, 2023 (arrow 9). BOC also attempted, with some success, to moderate the rate of house price increase with a prolonged period at 1% from September, 2010 to December, 2014
In every case, however, when house price index began to retrace, the threat of a housing bubble deflation prompted BOC to send its overnight rate back to 0.25%, following which housing prices again went parabolic.
The claim is often made, particularly to justify skyrocketing intertenancy rents, that "inflation" necessitates rent increases.
Figure 4 examines whether consumer price inflation measured by CPI, the Consumer Price Index, influences housing prices in Canada or vice versa. With the exception of two interest-rate driven spikes in house price index discussed above, one in January, 2008 and the other in January, 2022, each one followed by a spike in CPI, there is no correlation between the graphs of these indices.
Housing price inflation in Canada is relentless, of course, and is clearly being driven by years-long periods of ultra-low BOC overnight interest rates.
Much ado is made about BOC overnight rate being raised or lowered to control "inflation."
As discussed above, BOC rate is definitely dialed up or down to slow or stimulate financial asset price inflation, which includes housing price inflation, but this is not the "inflation" to which the dominant narrative refers. Consumer price inflation, represented by the Consumer Price Index (CPI), allegedly drives interest rate adjustments, but Figure 5 shows these datasets vary independently.
BOC overnight rate is also lowered allegedly to stimulate industrial investment, but cheap money rushes into speculative secondary markets, as shown in Figure 2, above, and the sure thing of gouging people for a roof over their heads as shown in Figure 3.
The Canadian public is so indoctrinated in the narrative that "supply and demand" govern housing prices, it is taken as axiomatic by many that "immigrants" are a major reason housing prices are completely out of control in Canada.
Figure 6 explores whether house prices track immigration numbers anywhere near as closely as they track interest rates and other financial assets, such as the S&P.
The result, of course, is that they do not.
Figure 6 - Immigrants, Canada House Price Index January 1, 1970 to July 1, 2024
In the chart below, immigration is basically flat from 1989 to 2017.
During this period, house price index begins an uptrend in March, 2001 that is interrupted by two spikes: one in January, 2008, the other in September, 2017, each followed by a brief retrace. This run, these spikes, and these pullbacks have all been thoroughly discussed above.
From July, 2019 to January, 2022, house price index goes parabolic. A spike in immigration in July, 2019, probably related to Covid, is followed by a steep drop in immigration. These changes coincide with a rapid increase in housing prices, underlying which as was shown before is a two-year period of 0.25% BOC policy rate.
Does immigration have something to do with this rise?
A sharp rise in immigration followed by a steep drop average out to flat. Meanwhile, house price index falls almost 50 points while immigration remains high from January, 2022 to July, 2024, during which period BOC overnight rate soars and touches 5%.
Immigration to Canada, of course, cannot explain why Canada house price index has mirrored the S&P 500 stock index almost exactly since 2001. The charts of the U.S. Federal Reserve federal funds effective rate and BOC overnight rate matching one another closely does.
Cheap money chases unearned income, and the greater the supply of cheap money, the more likely asset holders' demand for higher prices will be met. This is why ultra-low BOC overnight rates, which are the definition of cheap money, result in exponentially rising housing prices in Canada.
Buyers intending to rent their properties out either long- or short-term are particularly willing to pay top dollar because occupants, not they, will pay their mortgages.
Housing aggregators, including hedge funds and giant real estate holding corporations like BlackRock that hold thousands of houses, condos, townhouses, and apartment buildings, exercise monopoly power and collectively behave as a cartel, applying further upward pressure on housing prices.
Small holders, emboldened by prices that big aggregators demand, treat those prices as benchmarks and demand "market rate" for the properties they hold.
According to the Conference Board of Canada, "Canadian financial institutions and pension funds held $7.8 trillion in assets at the end of 2018." These dollars are not generally used to finance long-horizon risk assets like industrial production but to purchase assets, including mortgages, with which to extract rents either in the form of asset price inflation or as interest or other payments from businesses and wage earners.
In August, 2022, mortgage debt in Canada reached $2.06 trillion. (Mortgage debt in October, 2000 was $418 billion.) Non-mortgage household debt in August, 2022 was $724.2 billion. Canada's nominal GDP in 2022 was $2.14 trillion. Canadians' total household debt in 2022 was thus almost 110% of Canada's GDP.
Servicing this debt drains from the productive economy into the hands of banks, other financial institutions, and wealthy individuals capital that with proper industrial, tax, and housing policies would otherwise be available to be invested in infrastructure, industry, and public services. Robust public services, especially healthcare, education, and housing, by keeping the cost of living low, limit upward pressure on wages, and thus the cost of doing business, helping keep the prices of a definancialized nation's goods competitive on world markets.
Rent-seeking vastly overwhelms real wealth production in Canada and concentrates a relentlessly increasing share of that wealth in ever more bloated hoards controlled by fewer and fewer hands.
Housing in Canada, whose purpose should be and was for many decades to house people, has been thoroughly financialized. A long list of finance sector actors including developers, pension funds, municipalities, REITs, banks, and many others use housing to extract economic rent from the Canadian economy. Meanwhile, supports for Canada's workforce, most notably healthcare, education, and housing, have been dramatically reduced.
There is a path to definancializing housing in Canada and, assuming that profound political opposition to this goal from those who profit from the current arrangement can be overcome, it includes these steps:
1. Deprivatize banking to remove interest rates and the creation of fiat money from the influence of the FIRE (Finance, Insurance, and Real Estate) sectors and bring them under the control of elected government.
2. Establish an industrial policy to steer capital away from rent-seeking into investment in productive economic activity.
3. Manage housing as a public utility so it is built for the purpose of housing people not to extract rents from the productive economy.
April 12, 2025
Bill Appledorf
