Is Canada’s housing sector growing? Or is it inflation?

Kunal Sawhney is the founder and CEO of Kalkine. He has extensive expertise in equity markets and adopts quantitative and qualitative stock selection practices

Inflation and growth are two different things. Inflation is an upward movement in the price of any product or service. By contrast, growth in any product or service means increased consumption. As a result, prices may or may not rise during growth phases because increased demand is met by increased supply, which keeps a check on price rise.

Canada’s housing market is among the most discussed subject in the country. However, to understand this subject, one must first know whether it is going through a growth spurt or just a price hike phase. Had it been the growth phenomenon, the government would not have stressed increasing the supply of affordable housing.

In her recent statement, finance minister Chrystia Freeland has categorically identified the threat of rising house prices, particularly for new Canadians and middle-class families.

Canada is becoming increasingly unaffordable

The situation is turning increasingly worrisome. In a report compiled by the Urban Reform Institute and the Frontier Centre for Public Policy, Vancouver ranks second in severely unaffordable major housing markets worldwide in the third quarter of 2020. Hong Kong tops the list, and Canadian city Toronto occupies the fifth spot. The report also highlights how median household income deteriorated in 2020. In Canada, the federal government is spending heavily on welfare schemes that include Emergency Wage Subsidy, Emergency Rent Subsidy, and Lockdown Support. The unaffordability of housing in Canadian cities during such critical times can lead to wider repercussions.

In a recent news conference, Bank of Canada Governor Tiff Macklem underscored these worries. He highlighted how ‘imbalances in the housing sector and ‘high household indebtedness’ are two of the most problematic vulnerabilities faced by the Canadian economy. Most Canadians are availing cheap mortgage rates to bid heavily on a new house. The governor has warned how such unchecked bidding can ‘seriously damage’ the housing market and the wider Canadian economy.

Housing market stats reveal underlying pain

Housing market stats explain the problems underlying this sector. In April 2021, the average price of a house was nearly 42% more than a year ago. It can, by no measure, be termed as ‘growth’. Demand is high, and people are outbidding others to acquire a house at virtually any cost. The supply side has not and cannot grow in proportion to rising demand, and hence prices have skyrocketed.

Soon after Governor Macklem’s news conference, the Office of the Superintendent of Financial Institutions (OSFI) announced stricter lending norms. As of June 1, loan applicants will have to prove their financial capacity to repay the debt with at least a 5.25% interest rate. This is irrespective of whether the bank is ready to lend at a lower rate of interest.

However, OSFI’s announcement inadvertently hurts the prospects of vulnerable groups, including single parents, immigrants and young households. Whether it leads to a correction in housing prices is yet to be seen.

Inflation or growth?

As mentioned earlier, inflation cannot always mean growth. Annual inflation in Canada hit 3.4% in April 2021, but 2020’s subdued demand and prices played a major role in this. Crude and natural gas prices have seen more than a 30% rise in prices in 2021. A 3.4% inflation is hence understandable and manageable too.

However, inflation in the housing market is neither understandable nor manageable. On the contrary, it is making cities increasingly unaffordable, and as Governor Macklem notes, it will have an eventual ‘negative wealth effect’ and ‘reduction in household consumption’ over time.

The housing market is under pressure to cool down. Be it tougher mortgage rules or increased supply, targeted policy actions are required. A place in severely unaffordable major housing markets does not qualify as a celebratory feat. It is instead a testament to crowding out of middle income and other vulnerable groups in the country.

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