The Bank of Canada will have plenty to chew on before making its next rate decision on March 10.
Over the past month, bond yields have shot through the roof, lifting fixed mortgage rates 15-30 bps from record lows. That’s partly a reflection of economic growth, partly a fear of inflation and partly fear of government overborrowing. Whatever the cause, the rate trend is now up.
Meanwhile, markets are growing increasingly skeptical of the Bank of Canada’s assurance that interest rates will remain on hold until 2023. Some analysts are now pencilling in rate hikes as early as early-2022.
Have a read on what other key economists have to say…
On future Bank of Canada rate increases: “Indications from the Bank of Canada and the Federal Reserve that policy rates will remain on hold until 2023 and 2024, respectively, seem overly cautious. We think the Bank of Canada will taper its quantitative easing program more aggressively around mid-year and raise interest rates in 2022Q4.” (Source)
The Dot’s Take: The Bank of Canada isn’t bound by its own words. Despite its messaging, it will take any and all action needed to anchor inflation expectations to somewhere near the 2% mark (core inflation averages 1.77% today). To do that, it’ll have to wind down its bond purchases this year. Other things equal, that’ll cause another small jump in bond yields, and hence, fixed mortgage rates.
On quantitative easing: "Central banks remain committed to supporting the recovery though some are beginning to think about an exit strategy. We look for the BoC to slow its QE program as soon as next quarter, while the Fed’s tapering debate will only heat up over the course of the year.” (Source)
The Dot’s Take: Central banks have never experienced the type of astronomical fiscal support we’re seeing today, coupled with near-zero interest rates, coupled with runaway home prices, coupled with record savings rates, and so on and so on. In other words, it’s different this time. The BoC’s models are likely not equipped to predict an environment without an analogue. For that reason, borrowers must consider the possibility that the Bank of Canada executes its “exit strategy” (causing rates to rise) quicker than it now expects. Folks who are riding out variable rates—thinking they have two to three more years of 2.45% prime rate—should keep that risk in mind.
CIBC Capital Markets
On rising bond yields: “We’ve made no significant changes to our rate outlook over the past month. A softer tone to Q1 economic reports, reflecting the impacts of Covid-control measures, will stall the next leg towards higher bond yields in the US and Canada.” (Source)
If not, those higher bond yields could send mortgage rates higher yet, according to CIBC’s Ben Tal: “If we see another 30-, 40-, 50-basis-point increase in rates, that will be translated directly into mortgage rates in Canada… I would be very concerned, because this market is not ready for a brief 100-basis-point increase in mortgage rates…” (Source: BNN interview)
The Dot’s Take: From a housing market standpoint, a rise in mortgage rates doesn’t shiver our timbers. Rising qualifying rates do. More people buy homes if mortgage buying power goes up, and vice versa. Hence, if/when the minimum stress test rate ticks higher and listings start outpacing sales, it could be worry time for the housing market.
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Bank of Canada Governor Tiff Macklem
On concerns about Canada’s housing market overheating: “We are starting to see some early signs of excess exuberance, but we’re a long way from where we were, say, in 2016, 2017 when things were really hot…What we get worried about is when we start to see extrapolative expectations, when we start to see people expecting the kind of unsustainable price rises we’ve seen recently go on indefinitely, and they’re basing their decision on those kinds of assumptions.” (Source: A Q&A following a recent speech on Canada’s labour market)
The Dot’s Take: “Starting to see?” Tiff can only say so much, of course, for risk of destabilizing the market (if one is to assume the market is stable to begin with). Here’s one thing we know: When policy-makers speak of early signs of homebuying irrationality, you can bet that regulators are asking themselves one question: What should we do to rein it in?
Latest Rates & Forecasts
- Overnight Rate: 0.25% 
- Next Bank of Canada rate decision: March 10, 2021
- Neutral Rate (BoC Estimate): 2.25% to 3.25% 
- BoC Rate Changes Expected by Year-end 2021: None 
- Prime Rate: 2.45% 
- Prime Rate Forecast (Economist forecast at year-end 2021): 2.45% 
- 5-year Government Yield (Economist forecast at year-end 2021): 0.80% 
- 5-year Fixed Rate (As of today): 1.72% 
- 5-year Fixed Rate (Economist forecast at year-end 2021): 2.26% 
 The overnight rate is the interest rate the Bank of Canada uses to control inflation. It raises the overnight rate to slow inflation and vice versa. The overnight rate is the #1 determinant of prime rate, the basis for variable-rate mortgages.
 The neutral rate is the theoretical Bank of Canada overnight rate that neither boosts nor restrains economic growth. It’s updated once a year. (Latest estimate)
 This is the implied number of Bank of Canada rate changes based on prices of overnight index swaps (OIS). OIS are bond market derivatives that traders use to bet on the direction of interest rates.
 Prime rate is tracked by the Bank of Canada. It equals the typical (mode average) prime rate of the six largest Canadian banks.
 This figure equals the year-end 2021 overnight rate forecast from major economists (as tracked by Bloomberg) plus a 220-basis-point spread (which is the current spread between prime rate and the overnight rate).
 Average of latest published 5-year yield estimates from BMO (0.55%), National Bank (0.70%), RBC (0.80%), Scotiabank (1.15%), TD (0.80%).
 As of the date of this publication, as tracked by RateSpy.com.
 This figure equals the year-end 2021 5-year Government of Canada bond yield forecast from major economists (as tracked by Bloomberg) plus a 150-basis-point spread (which is the typical spread between the 5-year yield and average 5-year fixed rates).