Canadian Interest Rates to Rise This Summer? Not Likely.
There has been a lot of confusion over the short-term future of interest rates. With both the U.S. Federal Reserve (Fed) and the Bank of Canada (BoC) having made pledges to keep Canadian interest rates low until this summer, many analysts (and banks) are expecting a rise in rates around July of this year.
While a rise in interest rates could have an impact on the still tenuous economic recovery, it could also cause real damage to the housing market. Record-low interest rates have fuelled something of a boom in home sales, at least in Canada. Higher interest rates could cool the housing market and impact other areas of the economy.
Notwithstanding the effect on the larger economy, the most pressing question for current and prospective homeowners is this: should I lock in my mortgage or take a chance on a lower variable rate?
Will Interest Rates Go Up in 2010?
None of us have a crystal ball, so there are no absolutes when it comes to interest rate predictions. But recent economic news tells us that the expected rise may not come to pass this year.
On January 27, 2010, the Fed promised to keep interest rates low in the face of continuing economic challenges. While there are indications that the trillion-plus economic stimulus is helping the American economy, there are still troublesome signs. The unemployment rate is still hovering around 10% and new house sales in December, 2009 fell a steep (and unexpected) 7.6%. With bank lending contracting in the U.S. and new worries about tighter monetary policy in China, which could dampen the global economic recovery, the Fed believes it is best to keep Canadian interest rates low.
In Canada, the economic recovery is stronger, but, as the saying goes, we are not out of the woods yet. Housing prices and sales are strong, but the unemployment rate was at 8.5% in December. The high Canadian dollar and low demand from the U.S. are also dragging down the Canadian economy. And then there are historical trends, outlined by economist David Rosenberg in the Report on Business.
Rosenberg points to the output gap – the gap between the actual level of real GDP and where real GDP would be if the economy were at full capacity. Using current forecasts of economic growth, he estimates that the output gap for this year will be 1.55%. It is not until 2011 that he foresees a significant drop in this number, to about 0.25%.
According to precedent, Rosenberg says, the BoC “typically does not embark on its tightening phase until the output gap is close to closing.” Given the current numbers, this gap will not start to close until the second quarter of 2011.
The unemployment rate is also part of this equation. Rosenberg does not see it dropping below 7.5% before the end of 2011. Again, there is a precedent here. In the past, the BoC has not enacted any tightening policies with the unemployment rate higher than 7.5%.
The bottom line for homeowners? Those with variable-rate mortgages will likely be cushioned from interest rate spikes for at least one more year.
