Rising Rates May Have a Snowball Effect

Not that anyone wants to think about snowballs just now, but industry analyst Will Dunning, chief economist for the Canadian Association of Mortgage Professionals, says in a recent post that a rise in interest rates could quickly translate into blossoming unemployment.

In last week’s rates impact assessment, Dunning says U.S. Federal Reserve Chairman Ben Bernanke’s comments about the government easing off on efforts to spur economic growth are responsible for a recent rise in interest rates, including here at home.

He adds, though, that he doesn’t believe the rate hikes are justified, that they’re more a result of shaken consumer confidence than any actual economic fundamentals in play, unlike the U.S. crash of a few years ago, which was underpinned by subprime mortgages. If they are in fact unjustified, he suspects we’ll see a retreat in the next few months.

But if the higher rates stick, he says that a sustained increase of even half a point will have a profound effect: a 9% slump in house sales in 2014 and 2015, compared to 2012, and a 2.6% average dip in resale prices.

If consumers experience a resulting crisis of confidence, these stats, like the “unjustified” rate hikes, may be more smoke and mirrors than a mirror of the actual state of the economy. Prices, too, would falsely reflect economic conditions, making them lower “than they need to be” according to Dunning.

When people are buying houses, jobs are created, and the trickle-down effect of low starts and lower prices is fewer jobs; Dunning says by 2015, total job creation might be 150,000 less than it “should have been.” In two years, we might be close to a “no-growth situation” in Canada.

Dunning says that healthy resale activity this past spring was a response to widespread media coverage of low interest rates that raised consumer awareness and spurred buying decisions, effectively borrowing housing activity from future months. He says he is waiting for fall data to really “give weight” to the stats, and not relying on this summer’s figures, which he expects to reflect an increase in sales owing to buyers rushing to take advantage of low-rate preapprovals that will have expired by the fall.

Confused? Here’s the gist (I think): If prices go up, it’s not sustainable. If prices go down, it’s just a response to an imaginary problem. If consumers buy now, no one will be left to buy later. If they don’t buy now, it’s because they are unjustly affected by the media. If nobody buys anything, we’ll all be out of work. Or something. In other words, it’s up and it’s down, and things may or may not change, either a little or a lot, as per usual.

Truth is, I do see price cooling in our future, possibly stretching out for the next few years, but I don’t see a bubble bursting. Merely something of a temporary flattening out. I’ve said before, and we all know, that housing is cyclical, and what goes up must come down. Canadian housing markets, particularly in Toronto and Vancouver, have been so hot for so long, some cooling is inevitable. It does all leave buyers in a rather precarious position, though – to buy or not to buy?

Unfortunately, most of us don’t have a great understanding of how the market works, and how its cogs are interconnected, including me. We, as buyers, have ultimate control of housing prices and sales stats but are often too carried away by emotion and circumstances to make smart decisions.

My common sense advice for the foreseeable future is simple: buy a home you can afford if you are in need of a home. Buying makes more sense than renting over the long term, and always will, unless you’re one of those rare types who can turn a great deal of attention to the stock market and is willing to self-administer funds. Owning a primary residence is a no-brainer way to save for the future, especially if you’re on the sunny side of 40ish. If you can afford to hang onto your house through market and interest rate fluctuations, and aren’t planning to sell (except to move up if conditions change for the better), you can’t lose. Don’t be tempted by low interest rates to buy more houses than you can afford. Don’t let media coverage influence your decisions. And, most importantly, remember that your home should be about the joy of living, of raising your family and cherishing your time in an environment that nourishes you, and being part of a community that feels like the right fit.

Corny it may be, but not even the greatest economists in the world can put a price on that.