JOSH BUCHANAN

September 6, 2017

In post #113, I addressed the first increase in the key interest rate by the Bank of Canada from 0.5% to 0.75% in mid-July. After going 7 years without any increases to the key rate, the Bank of Canada has now increased the key rate by an additional 0.25% making it the second time in just 7 weeks.

I’ll keep this analysis brief as the previous post covers the topic more in-depth. Essentially what this means is that borrowing money is now more expensive for those who are considering borrowing in the future and anyone with existing variable-rate loans will see increased fees overnight.

To put this into perspective and relate it to the real estate market, take for example an average home in Saskatoon that is selling for $350,000 and pretend a buyer purchases this home with 10% as a down payment, borrows the remaining $315,000 using a 5-year fixed-rate mortgage with a 25-year amortization and monthly payments. Below is a chart showing the difference in total interest paid over the course of that 25 years using a lending rate based on what we saw before the two increases and then the same scenario only using a rate that has increased by 0.5% which is how much the key rate has risen since the start of July.

Using this hypothetical situation and assuming rates would stay fixed for the length of the amortization period, the result of an increase in the lending rate of just 0.5% would result in an additional $24,593 in interest being paid over the course of the borrowing period. This makes the total cost of the home jump from $447,217 to $471,810 when using this simplified hypothetical model. This, of course, is the main reason why lending rates and home values are inversely related and gives us further reason to believe that housing prices will continue to fall in Saskatoon by a progressive amount. It appears as though the government and central bank are really piling the straws on the camel’s back as further explained in post #126.

Not only does this interest rate increase hurt the market in theory, but it appears as though the first rate hike did have a noticeable and sudden impact on sales in Saskatoon. As of the end of June, Saskatoon had seen 1,866 sales which were down just 35 units from 1,891 units for the same period in 2016. At the end of August, however, the total number of sales was just 2,485 which is down by 153 units compared to the same period last year. This means that the months of July and August combined to produce 118 fewer sales than the same two months last year and the strong decline appeared to have happened immediately after the initial rate increase on July 17th.

By observing the graph above, you can see that sales numbers were very similar for 2017 compared to 2016 for the first 6 months of the year until July and August where they saw significant declines. While it’s possible this is just a coincidence, it’s unlikely that the drop in sales numbers was purely coincidental given the accurate timing and the impact on consumer psyche and the actual impact on the cost of borrowing.

Conclusion:

I know that Saskatoon is not a prime focus when decisions are made by the federal government and central bank, however, just as Saskatoon did not need any extra stimulation in 2007 for our real estate market via interest rate cuts, we do not require interest rate increases in 2017 in order to cool our real estate market as our highly oversupplied market had enough problems and reason to decline on its own without any push from the government or Bank of Canada.

The views represented are solely those of Josh Buchanan and are independent from any professional organization.