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Risk of a housing slump, rising loonie mar good news for Canadian economy

Bank of Canada governor Tiff Macklem had some optimistic comments when he met with reporters Wednesday following his latest Monetary Policy Report. But, as usual, the risks for the economy make far more interesting reading.

One of those risks could begin showing itself in real estate data expected later today. 

When the Canadian Real Estate Association releases its latest price and sales numbers for resale homes, there may be early signs that a moderate decline in demand for housing could change into what the bank has warned could become a “pronounced slowing.”

As usual, as smart as they may be, the clever people who advise Canada’s top central banker can only make educated estimates about what the future holds for the domestic and global economy, based on the data they collect now.

But overall, a newly announced cut in bond-buying stimulus by the Bank of Canada — from $3 billion to $2 billion a week — signals a growing confidence by Macklem and his advisers that the Canadian economy is on the mend.

Canadians more confident

“Canadians and Canadian businesses are more confident and that, we think, will be reflected in their spending and investment decisions,” Macklem told reporters Wednesday at the bank’s virtual news conference.

Effectively Macklem foresees a strong consumer-led economic boom — one that he said he had contributed to himself.

Asked whether he would suggest consumers should get out and shop, Macklem declined to give personal advice. Except by example. “I bought an exercise bike and I will admit it’s helped me get through this crisis,” he replied.

Part of Macklem’s optimism is the idea that an expected surge in consumer spending will help motivate businesses to invest to expand capacity. And a strong U.S. economy, where most Canadian exports go, means businesses here will be looking to gear up for external markets, too.

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Bank of Canada governor Tiff Macklem says he is optimistic about the Canadian economy but it is not yet time for interest rate cuts. (Blair Gable/Reuters)

A sharp rise in inflation south of the border this week, hitting a new 13-year high of 5.4 per cent, is a sign the U.S. economy is struggling to fulfil demand in its own expanding economy.

Maybe Canada can help.

“It’s clear that the U.S. economy is experiencing some capacity constraints,” said Macklem. “We do expect the demand for our exports will be lifted by that strong U.S. economy.”

Like his U.S. counterpart, Fed Chair Jerome Powell, Macklem insisted once again that inflation remains temporary and is expected to snap back to two per cent by 2024 once pandemic-related disruptions are over.

But when reporters asked questions that implied doubts inflation would so easily disappear, Macklem revealed the Bank of Canada has uncertainties of its own.

In fact, the central bank’s monetary policy release, posted before Macklem spoke, made it clear how inflation remains a moving target.

Inflation still transitory

“The factors pushing up inflation are transitory, but their persistence and magnitude are uncertain and will be monitored closely,” it said.

A question that Macklem did not address directly was how inflationary wage pressure might be affected by the so-called transitory price increases. As previously discussed, even if they only last for a year or two, prices rising at rates of four and five per cent create sharp cuts in the spending power of wage earners. And whether individually or as part of a union, workers will be negotiating to get that spending power back.

Rather than addressing those future wage demands and their impact on the path of inflation, Macklem’s reply was retrospective. “To this point, wages are really quite subdued,” he said.

As mentioned, some of the most interesting parts of this week’s policy report were in the final section that itemized “risks to the inflation outlook.”

unsold house
A few months ago, an unsold house in parts of Toronto would have been rare. But as we prepare for a post-pandemic reality, maybe people don’t need as much space. (Don Pittis/CBC)


Those risks could lead to inflation being higher than expected, including a stronger-than-expected burst of consumer spending, or longer-lasting supply bottlenecks for either parts or for labour that will add to costs.

On the gloomier side, things that could pull inflation below the bank’s current expectations include a new outbreak of COVID-19 infections, especially among the unvaccinated; weaker than expected exports, potentially worsened by a rising loonie; and a slump in global growth that the bank currently has pegged at seven per cent for this year.

But for many Canadians, one of the most worrying risks could be something the central bank also addressed in a May report on the country’s economic vulnerabilities: The price of houses.

While the central bank and many others would be pleased to see some of the fever come out of Canada’s notoriously red-hot real estate sector, the risk is that a decline could go too far.

Whether in today’s CREA numbers or in coming months, many expect to see that prices and sales have begun to moderate.

People don’t need as much house

“The base-case projection includes a gradual moderation in housing market activity,” said this week’s MPR. “There is a risk that adjustment could be faster or more pronounced.”

A reversal of that kind, said Macklem, could be the product of otherwise benign economic forces, as families are no longer driven to scale up their living space because that’s where most of their lives happened, from work to school to recreation.

“Now that we can go to a restaurant, do you still want a bigger kitchen?” Macklem asked rhetorically, by way of explanation.

WATCH | The economic dangers of skyrocketing home prices:

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Housing sales and prices hit year-over-year record highs in the Greater Toronto Area and experts warn it is a dangerous pattern across the country, threatening the overall economy. 2:04

“A rapid adjustment in the housing market could also have adverse effects on consumption, and these could be made even worse if house prices were to decline,” warned the policy report.

In an economy where housing plays such a big role, that could be a big setback, especially while total employment and business investment are still running significantly below pre-pandemic capacity.

That’s one of the reasons that while moving slowly to reduce stimulus in the form of bond purchases, the Bank of Canada insists it is far from ready to begin raising interest rates.

Instead Macklem has chosen a midpoint between pumping up the economy and letting out a little air.

Follow Don Pittis on Twitter @don_pittis

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