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Much has been said about the rampant home prices in Canada of late, and what should be done about it. Kim Parlee speaks with Beata Caranci, Chief Economist, TD Bank, about the catalyst behind the jump and whether the Canadian housing market is speculative or fundamentally sound.
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[TONES]
- Our first guest tonight just wrote a report called "Canada's Housing Market and the Big Bang Theory." And she threw a couple of physics terms at us to try and explain our hot housing market. Beata Caranci, of course, is Chief Economist at TD Bank.
Beata, it's great to see you. Talk about Big Bang Theory, Occam's razor, and Schrodinger's cat. I hope I'm saying that right. Let's start with Occam's razor. And you say there are five things, which are, I think, if I paraphrase Occam's razor, are just really obvious as to why what's happening in the housing market is happening.
- Yeah, which is basically the simplest explanation, requiring the fewest assumptions, is usually your correct explanation. And so what I was getting at with that one is basically, we had an interest rate shock on the downside. And that pushed down mortgage rates about 165 basis points. It's not a surprise we're getting a very strong demand response.
And the other factor is, is we don't think it's pure speculative, because it's happening at a national level. So typically, when we've seen this before, it's been in major urban centers like Toronto, Vancouver. That's actually not the case.
We're seeing stronger price increases outside of those markets. And in fact, that's been documented by the Bank of Canada as well. And we're also seeing a global phenomena-- Australia, New Zealand, the US. So we don't need to be too creative on what the source of the demand push is. And it's a little bit of an argument to be a little bit cautious by overlaying tax structures and macroprudential rules when we know the source very clearly is an interest rate shock.
- Let's-- I want to get into the unintended consequences part here because you do highlight that. But a couple other things you also mention, which I think is interesting, is that you say it's rates. It's across Canada. It's across the world. But there's also just more choices, because with the pandemic you used to have to live close to your work, and now you don't have to, either.
- That's right. So the interest rate movement down, if you were a double-income household earning $200,000, that gave you an extra $60,000 in room to buy a house. So that automatically opens up your selection. And then that became amplified because you no longer even had to be necessarily within a 30-minute commute to your employer anymore.
And so if you take the example of the Kitchener, Waterloo market relative to the Toronto, which is an hour commute without traffic, there is about a quarter-million-dollar price differential in those homes. So not only do you get the benefit of the lower interest rates, but now you could push out. And so this is why we are seeing not just these main urban markets with the price gains. They're actually less than the suburban markets. And everybody's kind of pushed out.
So when we talk about regulating or altering this market, is it that we're against home buying? Absolutely not. What we would be concerned about if this is turning into a speculative market. And that's a bigger issue with financial risk. But right now, what we're seeing is a huge amount of home-buying interest, relatively rational behavior based on what we've seen in terms of catalysts.
- And you also talk about the fact, just the fact that we've also already have some safeties, so to speak, in place. Property taxes-- I was surprised to look at your report. We pay quite a bit compared to the rest of the world.
- [CHUCKLES] Yeah, so there's a table in there with property taxes as a share of all taxes collected as well as a share of GDP. And so when you look at countries, and you compare Canada to others-- Australia, New Zealand, elsewhere, France-- we do pay higher. We're comparable to the US and the UK.
So this gets to the point that just imposing a tax structure doesn't necessarily mean you're going to get the demand response you want, because people's behaviors adjust. And to the point that you mentioned, that we actually already have a fairly robust tax structure, we have a lot of macroprudential rules, where they can pull the levers. And they just did recently in terms of the qualification rate going up a little bit. So those are fine. The caution is, is that they keep layering and layering when you already have levers to pull.
- And I guess there has been one extra layer that's been put in. We just heard about this, of course, with the release of the budget, a speculative tax. Is that going to have a huge impact, in your opinion?
- Not really. This isn't-- so that-- specifically, they're looking at a 1% tax on properties that are owned by foreign buyers that are sitting vacant or what they deem underutilized. This ramp-up in prices and demand is actually coming from the domestic market.
We do have data from-- British Columbia is really good at collecting this data. It is not the source of the buying that we're seeing. Obviously, you don't think a foreign buyer would be overly interested in Cornwall and Scugog. And these are areas that also have 20-30% price increases.
So this is domestic. So anything on the foreign buyer side at this stage would not be addressing any of the issues they're concerned about.
- So let me ask you about the second and, I guess, the last physics term you threw to this, Schrodinger's cat-- Schrodinger's cat. I keep saying it a different way every time. But what is that, first of all? And what does it have to do with Canadian housing?
- Well, it's going to sound dark. But it is a thought experiment only, and that is effectively-- again, this is coming out of the "Big Bang Theory," and where I learned about it, that basically you'd go a cat, put it in a box, waiting for a chemical reaction, could be thought of as both alive and dead, depending on whether the event has or has not happened. And the only way you know that answer is upon observation.
And the reason I tied it into the Canadian housing market is because you can think of this market as both speculative and fundamentally sound, because we have the fundamentally sound portion coming off of the interest rate movement, coming off of really good population growth that compels Canada. We had a gap year this year with the pandemic. But the outlook is for 400,000 more immigrants to come in on an annual basis. And this is going to keep that fuel. And people know it. Canadians know it.
And when you look back over the last 20 years, the housing prices have done better than the stock market. And they show less volatility. So there's a rational behavior element to what we're seeing.
At the same time, it can get to the point where it's what economists call extrapolated expectations, where you now start to divorce from fundamentals. So would the price that you're buying in Cornwall be fundamentally sound to the household formation rates and to the value of that market? And so that's where you could have both dynamics working simultaneously.
- We'll keep coming to you to explain what you're seeing happening. Beata, thanks so much.
- My pleasure.
[MUSIC PLAYING]
- Our first guest tonight just wrote a report called "Canada's Housing Market and the Big Bang Theory." And she threw a couple of physics terms at us to try and explain our hot housing market. Beata Caranci, of course, is Chief Economist at TD Bank.
Beata, it's great to see you. Talk about Big Bang Theory, Occam's razor, and Schrodinger's cat. I hope I'm saying that right. Let's start with Occam's razor. And you say there are five things, which are, I think, if I paraphrase Occam's razor, are just really obvious as to why what's happening in the housing market is happening.
- Yeah, which is basically the simplest explanation, requiring the fewest assumptions, is usually your correct explanation. And so what I was getting at with that one is basically, we had an interest rate shock on the downside. And that pushed down mortgage rates about 165 basis points. It's not a surprise we're getting a very strong demand response.
And the other factor is, is we don't think it's pure speculative, because it's happening at a national level. So typically, when we've seen this before, it's been in major urban centers like Toronto, Vancouver. That's actually not the case.
We're seeing stronger price increases outside of those markets. And in fact, that's been documented by the Bank of Canada as well. And we're also seeing a global phenomena-- Australia, New Zealand, the US. So we don't need to be too creative on what the source of the demand push is. And it's a little bit of an argument to be a little bit cautious by overlaying tax structures and macroprudential rules when we know the source very clearly is an interest rate shock.
- Let's-- I want to get into the unintended consequences part here because you do highlight that. But a couple other things you also mention, which I think is interesting, is that you say it's rates. It's across Canada. It's across the world. But there's also just more choices, because with the pandemic you used to have to live close to your work, and now you don't have to, either.
- That's right. So the interest rate movement down, if you were a double-income household earning $200,000, that gave you an extra $60,000 in room to buy a house. So that automatically opens up your selection. And then that became amplified because you no longer even had to be necessarily within a 30-minute commute to your employer anymore.
And so if you take the example of the Kitchener, Waterloo market relative to the Toronto, which is an hour commute without traffic, there is about a quarter-million-dollar price differential in those homes. So not only do you get the benefit of the lower interest rates, but now you could push out. And so this is why we are seeing not just these main urban markets with the price gains. They're actually less than the suburban markets. And everybody's kind of pushed out.
So when we talk about regulating or altering this market, is it that we're against home buying? Absolutely not. What we would be concerned about if this is turning into a speculative market. And that's a bigger issue with financial risk. But right now, what we're seeing is a huge amount of home-buying interest, relatively rational behavior based on what we've seen in terms of catalysts.
- And you also talk about the fact, just the fact that we've also already have some safeties, so to speak, in place. Property taxes-- I was surprised to look at your report. We pay quite a bit compared to the rest of the world.
- [CHUCKLES] Yeah, so there's a table in there with property taxes as a share of all taxes collected as well as a share of GDP. And so when you look at countries, and you compare Canada to others-- Australia, New Zealand, elsewhere, France-- we do pay higher. We're comparable to the US and the UK.
So this gets to the point that just imposing a tax structure doesn't necessarily mean you're going to get the demand response you want, because people's behaviors adjust. And to the point that you mentioned, that we actually already have a fairly robust tax structure, we have a lot of macroprudential rules, where they can pull the levers. And they just did recently in terms of the qualification rate going up a little bit. So those are fine. The caution is, is that they keep layering and layering when you already have levers to pull.
- And I guess there has been one extra layer that's been put in. We just heard about this, of course, with the release of the budget, a speculative tax. Is that going to have a huge impact, in your opinion?
- Not really. This isn't-- so that-- specifically, they're looking at a 1% tax on properties that are owned by foreign buyers that are sitting vacant or what they deem underutilized. This ramp-up in prices and demand is actually coming from the domestic market.
We do have data from-- British Columbia is really good at collecting this data. It is not the source of the buying that we're seeing. Obviously, you don't think a foreign buyer would be overly interested in Cornwall and Scugog. And these are areas that also have 20-30% price increases.
So this is domestic. So anything on the foreign buyer side at this stage would not be addressing any of the issues they're concerned about.
- So let me ask you about the second and, I guess, the last physics term you threw to this, Schrodinger's cat-- Schrodinger's cat. I keep saying it a different way every time. But what is that, first of all? And what does it have to do with Canadian housing?
- Well, it's going to sound dark. But it is a thought experiment only, and that is effectively-- again, this is coming out of the "Big Bang Theory," and where I learned about it, that basically you'd go a cat, put it in a box, waiting for a chemical reaction, could be thought of as both alive and dead, depending on whether the event has or has not happened. And the only way you know that answer is upon observation.
And the reason I tied it into the Canadian housing market is because you can think of this market as both speculative and fundamentally sound, because we have the fundamentally sound portion coming off of the interest rate movement, coming off of really good population growth that compels Canada. We had a gap year this year with the pandemic. But the outlook is for 400,000 more immigrants to come in on an annual basis. And this is going to keep that fuel. And people know it. Canadians know it.
And when you look back over the last 20 years, the housing prices have done better than the stock market. And they show less volatility. So there's a rational behavior element to what we're seeing.
At the same time, it can get to the point where it's what economists call extrapolated expectations, where you now start to divorce from fundamentals. So would the price that you're buying in Cornwall be fundamentally sound to the household formation rates and to the value of that market? And so that's where you could have both dynamics working simultaneously.
- We'll keep coming to you to explain what you're seeing happening. Beata, thanks so much.
- My pleasure.
[MUSIC PLAYING]
