OSFI waters down the punch

The proposal by the financial regulator OSFI, to raise the qualifying rate for uninsured mortgages, is unlikely to weigh on house prices. But by reducing the share of highly-leveraged borrowers, it should soothe the Bank of Canada’s growing concerns about the negative consequences of low interest rates.

OSFI wants to tighten the stress tests that borrowers face, to prove they could still meet their payments if interest rates rose. For uninsured mortgages (those with loan-to-value ratios of less than 80%), the qualifying rate is currently the higher of the contractual mortgage rate plus 200 bps or the average “posted” five-year fixed mortgage rate from the main banks, which is currently 4.79%. OSFI has proposed changing the latter to a fixed minimum rate of 5.25%, to reduce the risk that periods of low policy rates destabilise the housing market or the banking system.

This shouldn’t prove too consequential. For those constrained by the stress test, the change would reduce the purchase price they could afford by 4.5%. But experience suggests that most buyers will not be affected. For example, when they were originally introduced in 2018, the stress tests reduced affected buyers’ budgets by 20%, but Mortgage Professionals Canada said the average impact across all buyers was closer to 6%.

It’s possible more buyers will be affected this time, given factors such as increased working from home mean many are now prepared to commit larger shares of their income to payments. Nonetheless, it still seems likely that the net impact on purchasing power will be less than 2%, which is just one tenth of the rise in prices in many cities in the past year.

Labour market performed well in March

The proposed change would probably make the Bank more comfortable with the view presented in our latest Canada Economics Outlook, that it will wait until 2023 to raise interest rates. That said, the strength of the labour market in March means the Bank might be starting to feel that a long period of rock-bottom rates is no longer as necessary.

The 303,000 jump in employment was twice as strong as we expected. (See here.) While employment looks set to fall in April due to the tightening of the coronavirus restrictions, the strength of the earlier rise suggests we may be overestimating how long it will take for the economy to reach full employment once vaccinations reach critical mass.

New approach could speed up vaccinations

On that front, logistical issues are fast overtaking supply constraints as the key limiter of progress. The headlines this week, which highlighted how just two thirds of the vaccines that have been distributed to the provinces have so far been used, admittedly exaggerate the problem. Millions of those vaccines were only distributed at the start of the week so were unlikely to be used immediately. But the share of unused vaccines has been trending up and the wide disparity in usage rates, from just 54% in Newfoundland & Labrador to 78% in Saskatchewan, shows many provinces could be doing much better.

In the hotspots of Toronto and Montreal, one of the biggest issues is that eligible groups do not seem to be aware that the vaccines are available, with thousands of unfilled appointments in the past week. That has prompted a change of approach in Ontario, with the government opening eligibility to any adult in many postcodes. There were signs that vaccinations elsewhere will soon be opened to all essential workers as well. Such a move looks necessary to meet the ambitious targets from other government organisations. The National Advisory Committee on Immunization this week said that it hopes to see 75% of adults given their first dose by mid-June.

The week ahead

Our focus next week will be on the Bank of Canada’s latest quarterly business and consumer surveys. The key detail to watch is consumers’ house price expectations, which the Bank has hinted could affect its approach to policy. Meanwhile, we expect to learn that manufacturing sales declined in February.

Data Preview – Manufacturing Sales (Feb.) 08.30 14th Apr.

Forecasts

Previous

Median

Capital Economics

Manufacturing Sales %m/m

+0.9

-

-1.5

Manufacturing sales appear to have rebounded further

Manufacturing sales appear to have declined by more than 1% in February, but the outlook is better.

The flash estimate for February pointed to a fall in manufacturing sales of 1.0%, but the export data released since then leads us to think that the decline was a larger 1.5%. That would take sales back below their pre-pandemic level, albeit only marginally.

The good news is that the decline appears to have mainly reflected the disruption from the global shortage of microchips, which has hit production in the auto sector hard, rather than weak demand. That means there is scope for manufacturing to recover as those supply-chain constrains ease. Even though many auto plants remained at reduced capacity in March, the manufacturing PMI jumped to its highest since the survey began in 2012 (see Chart 1), with the output index the second highest on record. This suggests that manufacturing growth will do well over the rest of the year.

Chart 1: Manufacturing PMI & Manufacturing Sales

Source: Refinitiv, Capital Economics

Economic Diary & Forecasts

Upcoming Events and Data Releases

Date

Release/Indicator/Event

Time EST (BST-5)

Previous*

Median*

CE Forecasts*

Mon 12th

BoC Business Outlook Survey – Future Sales Balance (Q1)

(10.30)

+48.0

-

+50.0

Tue 13th

No Significant Data or Events

-

-

-

-

Wed 14th

No Significant Data or Events

-

-

-

-

Thu 15th

Manufacturing Sales (Feb)

(08.30)

+3.1%

-

-1.5%

Home Sales (Mar)

(09.00)

+6.6%

-

+3.0%

Fri 16th

Housing Starts (Mar)

(08.15)

+245,900

-

+265,000

Wholesale Sales (Feb)

(08.30)

+4.0%

-

-1.0%

Selected future data releases and events

Tue 20th

Teranet/National Bank House Prices (Mar)

(08.30)

+0.5%(+9.8%)

-

-

Wed 21st

Consumer Prices (Mar)

(08.30)

+0.5%(+1.1%)

-

-

Core CPI Common (Mar)

(08.30)

(+1.3%)

-

-

Core CPI Median (Mar)

(08.30)

(+2.0%)

-

-

Core CPI Trim (Mar)

(08.30)

(+1.9%)

-

-

Bank of Canada Policy Announcement

(10.00)

0.25%

0.25%

-

*m/m(y/y) unless otherwise stated

Sources: Bloomberg, Capital Economics

Main Economic & Market Forecasts

%q/q ann. (%y/y) unless stated

Q1 2021

Q2 2020

Q3 2021

Q4 2021

Q1 2022

Q2 2022

2021

2022

2023

GDP

5.5

3.0

6.5

5.5

3.6

3.2

6.0

4.0

2.3

CPI Inflation

1.5

3.0

2.8

2.5

2.0

1.6

2.4

1.7

2.1

Unemployment Rate (%)

8.3

7.4

6.8

6.5

6.3

6.1

7.2

6.0

5.6

Overnight Rate, End Peri’d (%)

0.25

0.25

0.25

0.25

0.25

0.25

0.25

0.25

1.00

10 Yr GoC., End Period (%)

1.50

1.75

1.90

2.00

2.05

2.10

2.00

2.25

2.50

USD/CAD, End Period

0.79

0.80

0.82

0.82

0.81

0.80

0.82

0.78

0.82

Sources: Refinitiv, Capital Economics


Stephen Brown, Senior Canada Economist, +1 416 874 0514, stephen.brown@capitaleconomics.com

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