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Interest Rates Are Going to Remain Low

On October 23rd the Bank of Canada’s confirmed that it would maintain 1%as the target overnight rate.

What’s this mean?

According to some it means that that “No longer are policymakers setting a specific monetary course for interest rates. Instead, for the first time in 18 months, they have dropped any reference to borrowing costs eventually rising — adopting a neutral position and waiting to see which way economic winds blow”.

Ted Carmichael writes, interestingly, that new BoC head Stephen Poloz has killed the “optimism bias”:

Bank of Canada Governor Stephen Poloz appears to have finally done what his predecessor and most private sector economists have failed to do. He has acknowledged that forecasts of economic recovery have been persistently too optimistic.

In other words, he’s admitting what many of us have suspected. Things aren’t as rosy as they seem. The economy is not strong.

I’ll go further. Interest rates are not going to rise anytime soon because the US economy, which Canada still depends heavily on, is still in trouble. China can’t rescue the world until the US turns the corner, and the US isn’t going to turn the corner under it’s current political leadership (and I don’t just mean Obama, but the whole leadership, both Democrat and Republican).

The US is heavily in debt, and is spending at an unsustainable level. It is not addressing the problem, but is instead tied up with spying scandals and arguments over whether to fund healthcare and raise the debt ceiling. Until the subject of discussion changes completely to the economy and controlling government spending there will be no substantive economic change. As long as the US continues to print money interest rates are going to remain low in order to make it less painful for the US government to meet it’s obligations.

Canadian exporters won’t benefit from a stronger Canadian dollar. They want it to be valued at less than the US. To achieve this Canada cannot have substantially higher interest rates than the US, at least as long as the US dollar is still regarded as viable (and lets face it: rumours of the greenback’s demise have been exaggerated). That means our rates will remain low.

Low rates are always good, short term, for real estate because it makes higher prices more affordable. There are lots of arguments to be made that low rates today simply sow problems for tomorrow, and lots of those arguments are sound. However, generally speaking, low rates means its easy to pay more for real estate. Low rates, after all, were one component of the US bubble that led to the 2008 financial crisis (which neatly sums up the pros and cons of low rates).

Low rates in Canada are not going to inflate Vancouver real estate. We’re already at very high valuations, and what’s more, the valuations are detached from long term fundamentals. What low rates will do is tend to support those prices. The great unwinding that many have been looking for will not occur anytime soon. What we will see in the local market is continued building of new units, and a continued stagnation of prices.

How long will this continue? That is very difficult to say. Anyone driving around this town (as I do, daily, from the North Shore to Maple Ridge to White Rock back to the Westside) will confirm that every empty lot appears to have something new being built upon it, whether single family home or multi-unit condo. Increased supply should should exert downward pressure on prices, especially when demand is relatively weaker than supply (and compared to the salad days of our market, demand is relatively weak now). However, unless developers build so much that it overcomes the effects of low mortgage rates, we will continue as we have been doing. I forecast stagnation (a trading market with values oscillating within a 10%-15% band) until well into next Spring.

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