Canadian employment rose by 14,500 in October, with the unemployment rate holding steady at 6.5 per cent. Meanwhile, the participation rate continued to decline, falling to 88.2 per cent from a record high of 89 per cent just over a year ago. The employment-to-population ratio also dropped to 60.7 per cent—the lowest level in nearly 25 years, excluding the pandemic. The Bank of Canada may be somewhat concerned by the rise in average hourly wages, which were back up to 4.9 per cent. However, recent research indicates the trend in wage growth remains around 4 per cent.
Overall, this data is consistent with an economy that is growing modestly with elevated wage gains. While the market is leaning toward a 50-basis point cut in December, this data does not provide any reason for the Bank to change course. With more data still to come, a 50-basis point rate cut is still not locked in.
We’ve seen a weaker dollar, a housing market beginning to stir, and a US economy that continues to outperform the rest of the world. These factors may prompt caution in the Bank of Canada’s December rate move decision. While they suggest a more measured pace for rate cuts, recent changes to immigration targets and a drop in population growth could lead to a sharper slowdown in potential GDP. (Potential GDP is a theoretical estimate of the maximum output an economy could produce if labour and capital were employed at their maximum sustainable rates, with steady growth and stable inflation.)
Economist Charles St-Arnaud’s recent analysis provides some valuable insight into this issue. He highlights two key implications for monetary policy: 1) a faster reduction in the policy rate is likely required to ensure a recovery in household spending, and 2) lower potential growth suggests that the neutral rate is likely lower than estimated. The neutral rate, an unobservable construct that must be estimated, can be thought of as the real interest rate that neither stimulates nor contracts the economy when it is at full employment. Governor Macklem has recently emphasized that the Bank of Canada may need to “discover” where the neutral lies. Currently, the neutral midpoint is estimated to be 2.75 per cent.
If St-Arnaud is correct, we may see a lower policy rate, which could mean lower rates for variable-rate mortgages. For fixed-rate mortgages, the outlook is less clear. After falling to a low of 2.69 per cent in mid-September, the 5-year bond yield has remained above 3 per cent. Fixed rate mortgages are typically set at a spread above the bond rate. While bond yields are higher, we have not seen banks raise their mortgage rates, as they are fighting for market share. However, this situation is not sustainable in the long term.
Another factor shaping the outlook for mortgage rates will be US market developments. As expected, the Fed cut rates at its policy meeting on November 7th. “This further recalibration of our policy stance will help maintain the strength of the economy and the labor market and will continue to enable further progress on inflation as we move toward a more neutral stance over time,” said Federal Reserve Chair Jerome Powell at the press conference.
While the policy rate is lower, US treasuries have risen. After hitting a low of 3.63 per cent in mid-September, 10-year treasuries are now trading around 4.3 per cent. By January 2025, the US national debt is expected to reach $36 trillion, with annual interest payments approaching $1 trillion. As we’ve noted, there is growing talk of the return of “bond vigilantes.” If long-term inflation expectations rise, don’t expect US bond rates to fall. Should this happen, it will likely constrain the direction of the Canadian bond market and the limit potential for lower fixed-term mortgage rates.
Housing Affordability Watch
CMI monitors the latest developments and offers insights on solutions to Canada’s housing affordability crisis
With condo inventories piling up in major cities, many Canadians still struggle to save for a down payment. Could a zero-down mortgage be the solution to both problems? Explore how such a program could help first-time buyers and boost housing supply—without adding inflationary pressure.
Read our latest Housing Affordability Watch to learn more: Zero-Down Payment Mortgages: Can We Solve Two Problems With One Program?
Independent Opinion
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