Last year, we took a look at what happens to the housing market when the Bank of Canada raises interest rates.
With the first few cuts under the Bank’s belt, I thought it’d be interesting to flip things around and take a look at what happens when interest rates decline, since the Bank has made it clear that the future path for rates is decidedly downward1.
Technical Note: This analysis reuses a bunch of technical tricks2 to facilitate analyzing the data that were explained in greater detail in the previous post. For the sake of brevity, readers interested in these details should refer to the previous post for a more fulsome explanation.
Get low
To start out, it’s helpful to get an idea of what previous rate cutting cycles looked like, from a historical perspective.
I took a crack at manually labeling all the previous cutting cycles going back to the 1980s, so that we can use these time periods to see what subsequently happened to the housing market.
Here’s a plot of that:
Selling sunsets
One of the first places that impacts show up when interest rates drop (or rise), is in transaction volumes (a.k.a. “sales”).
Since changes to the Bank of Canada’s policy rate tend to have a fairly direct pass-through into mortgage rates, the effects on transactions volumes tends to be rather immediate.
This is because borrowers quickly realize their purchasing power has either increased (in the case of rate cuts), or decreased (in the case of rate hikes), and these effects are immediately felt at the consumer level.
To preface further discussion, let’s have a quick peek at what happened to transaction volumes in the Greater Vancouver housing market during previous rate cutting cycles:
Odd ones out
We can see from the plot that during most previous cutting cycles, sales volumes tended to increase in the 24 months following the start of the cutting cycle.
There’s a few notable exceptions in early 1980s data, as well as the around the Great Financial Crisis era (2007 ish).
Despite bucking the generalized trend in other cycles, these exceptions are quite interesting data points, since these were time periods in which there was a significant degree of economic turmoil (e.g., recessions, high unemployment, etc.).
In most cases however, we can see that sales volumes tended to pick up fairly immediately relative to their levels at the start of the cutting cycle.
These patterns suggest that most of the time, historically speaking, there’s been a boost to transaction volumes when the Bank of Canada cuts interest rates.
And in some cases, when the cuts are quite significant, we sometimes saw fairly large boosts to transaction volumes in the order of 30 per cent or more about 6-12 months after the cuts began.
Going up?
With price levels of housing in high-demand cities like Vancouver and Toronto being what they are, there’s often a tremendous focus on the impacts of interest rate changes to prices, since the price level (to a large extent) determines the general level of “affordability”3.
So, what happens to prices when interest rates (and by association, mortgage rates) fall?
Here’s a plot showing the impact to prices for the Greater Vancouver market through previous rate cutting cycles:
Peaks and valleys
Again, with a few exceptions (early 1980s and mid 1990s), the general pattern we see in the data is that price levels tended to increase in the 24 months following the start of rate cutting cycles.
But I think it’s important to point out that the drivers behind these price increases (or sales increases, for that matter), aren’t always purely effects related to interest (or mortgage) rates alone.
We’ve written about some of these factors before on this blog, and it’s always worth keeping in mind that prices can have short-term fluctuations around very long-term trends.
But with that said, the data do suggest there is an inverse correlation between changes to the interest rates and price levels, whereby cuts to interest rates tend to result in price increases, and to a lesser extent4, vice-versa.
What’s also interesting about these price trends, is that they tend to lag the impact on sales, where we saw a more immediate effect.
When it comes to prices, it seems that any rapid price appreciation vis-a-vis the price level at the start of the cycle have tended to occur after the 12-month mark; sometimes quite a while after.
A grain of salt
One final point, which may be obvious, but I think is worth explicitly stating: it would not be appropriate to assume that these historical patterns will repeat themselves with complete certainty.
At best, these historical patterns offer some insights and possible directional guidance, but the magnitudes of the changes we might expect to see in the coming months and years is difficult to infer from such a simplistic historical analysis.
A host of recent policy interventions are directly affecting the housing market in our region, as federal and provincial governments ramp up policy announcements (and rhetoric) heading into the upcoming election cycles.
Our region is also experiencing quite different economic circumstances than we’ve had in previous cutting cycles.
So, I feel it’d be somewhat irresponsible if I didn’t at least offer a few words of caution regarding extrapolating these historical patterns into the future.
With that caveat aside, if these historical patterns are in fact any indication of what the future may hold, the Greater Vancouver housing market (and almost all housing markets in Canada), are possibly in for a few strong years ahead.
Footnotes
Barring any (un)foreseeable event(s) that may derail this path forward.↩︎
Such as seasonal adjustment, trending, and indexing.↩︎
The concept of “affordability” is rather nebulous and complicated as it hinges on a multitude of factors (i.e., wealth, income, age, etc.). But in a very crude sense, very high prices tend to be associated with low levels of “affordability” for many households.↩︎
We looked at this in our previous post on rate hikes, where we found that rate increases don’t always translate to price declines, which was an interesting and somewhat surprising result.↩︎