Summary: The Bank of Canada’s interest rate cuts won’t resolve Canada’s housing affordability crisis. Factors such as skyrocketing home prices, unaffordable down payments, and stagnant wage growth are other primary challenges to address. A personal example offered by the author shows how the price of her Toronto home surged over 1,000% from 1983 and 2024 while her wages during the same period rose only 142%. While some see this issue as a consequence of Baby Boomers remaining in their homes, it's more nuanced than that. We have systemic barriers in Canada that necessitate targeted policy changes. It’s time to tackle affordability and implement effective solutions.
The Bank of Canada met today, to determine interest rates for the last time this year. They announced a drop of .50 basis points. This is part of a broader effort to stimulate economic growth in Canada, which faces challenges, especially a softening labor market and persistent inflation.
Why Should You Care?
Interest rates determine how affordable our debt will be and what return we can expect on our savings. Since mortgages represent most consumer debt, interest rates directly impact affordable housing costs, making them very newsworthy. However, interest rates only tell part of the story.
When the Bank of Canada lowers its rate, it primarily impacts variable-rate mortgages. These are tied directly to the BoC's overnight rate, so a rate cut can reduce the interest costs on these loans. Homeowners with variable rates would likely see a reduction in their payments, with more of their payments going toward principal rather than interest. People without debt and savings (primarily seniors) will see a drop in their investment returns.
In contrast, fixed-rate mortgages, which are not directly tied to the BoC's rate, are influenced more by the bond market, particularly the 5-year government bond yield. The current trend in bond yields suggests that fixed mortgage rates could also decrease over time.
Let’s pause here and talk about the affordability of houses and how interest rates are not the reason housing is out of reach for most first-time buyers.
A walk down memory lane might offer some perspective.
I purchased my first home in the fall of 1983 for $63,500 (insert head shake). I was 27 years old, and before you do the math, yes, I am a Baby Boomer. My first serious (so I thought) live-together relationship had just ended, and I was looking for a place to live. I had finished school and had a good full-time job with Bell Canada. A rental would have been preferred, except I had a dog. Someone suggested that I buy a home. I did not know very much about purchasing real estate or homeownership, for that matter. But I was young and willing to learn.
I had been working full-time for two and a half years. During my orientation at Bell Canada, my supervisor told me to sign up for their stock option program. She said I would never miss the money or regret signing up for the plan. She was right. When I purchased my home, there was enough money in my stock account for a down payment and closing costs. My interest rate was a terrifying 12.75%, yielding a mortgage payment of just under $670 monthly. The lender deemed this affordable based on my $18,000 annual wage. Life was good.
This was in 1983, when the minimum down payment for a home purchase in Canada was typically 10% for most buyers. However, a lower down payment could be possible with mortgage insurance (provided by organizations like Canada Mortgage Housing Corporation (CMHC), which allowed buyers to put down as little as 5%, provided they qualified for insurance. This was commonly available for homes under $150,000, with stricter terms for higher-priced homes.
If you had a higher down payment of 25% or more, mortgage insurance wasn't required, and you could avoid extra costs associated with insured mortgages. This was part of broader efforts by the government to make homeownership more accessible, especially amid the high interest rates of the time.
So let's do the math. Circa 1983
I first needed to prove that I had saved $3,175 in down payments and $953 in closing costs for $4128. In the 2.5 years I worked at Bell Canada, I saved $4,050 (including Bell Canada’s contribution) in stocks. I also had another $5,000 in my savings account. $9,000 was enough to complete the transaction and leave me with a healthy safety net.
Fast forward to 2024
Let’s compare what the same transaction would look like today. Using the annual housing increase cited on the CREA website, the same house would be valued at approximately $700,000 today. Interest rates are much lower today, at 4.24%, yielding a mortgage payment of $3,545.
1. The down payment rules have changed. For the first $500,000, The minimum down payment is 5%. 5% X 500,000=25,0005\% \times 500,000 = 25,0005% X 500,000 = $25,000
2. The minimum down payment for the portion above $500,000 is 10%.
10% X (700,000−500,000) = 20,00010\% \times (700,000 - 500,000) = 20,00010% X (700,000−500,000) = $20,000
3. Total minimum down payment:
25,000+20,000 =4 5,00025,000 + 20,000 = 45,00025,000+20,000 = $45,000
Thus, the minimum down payment for a $700,000 home is $45,000.
Here is the comparison:
1983 Scenario 2024 Scenario Variance
Purchase Price: $63,500 $700,000 up 1002%
Down Payment: $3,175 $45,000 up 1317%
Loan Amount: $60,325 $655,000 up 986%
Interest Rate: 12.75% 4.24% down 200%
Monthly Mortgage Payment: $670 $3,545 up 429%
Wage: $18,000 $43,500 up 142%
Gross Debt Service Ratio: 44.6% 97.8% up 119%
Time to Save for Down payment:
2 years 12.4 years up 520%
*Please note that this example does not include mortgage insurance
The real problem
As you can see, housing was much more affordable for me in 1983 and far from cheap in 2024. During the past 41 years, wages have increased by 142%, yet interest rates have dropped by 200%. But the most significant impact on affordability has been the over 1,000% increase in housing prices.
So why is all the focus on interest rates?
At the risk of oversimplifying a complicated issue, I believe the media often uses interest rates as a "shiny penny" to capture attention, diverting focus from deeper housing affordability issues. This keeps the spotlight on inflation and monetary policy, aligning with economic agendas while ignoring systemic problems like down payment barriers and the shortage of affordable homes.
Indeed, a movement in interest rates often has an immediate and noticeable impact on borrowers' affordability, making it a hot topic for news and policymakers. However, the frequency and consistency of the Bank of Canada meetings on interest rates give the impression that rates are the primary issue, even though they are just one part of a complex system. For example, even if the Bank of Canada dropped interest rates below zero, it would do little to solve today’s homeownership affordability issue.
The real problems:
1. Down Payment Challenges: With housing prices skyrocketing, the 5%- 20% down payment required has become insurmountable for many, particularly younger buyers. High rents, stagnant wage growth relative to home prices, and rising living costs make saving nearly impossible.
2. Lack of Affordable Starter Homes: Due to profitability and zoning restrictions, housing developments often prioritize larger, higher-margin homes or luxury condos over affordable single-family starter homes.
3. Misplaced Generational Blame: Blaming Baby Boomers for "holding onto homes" oversimplifies the issue. They are staying put due to limited downsizing options, emotional attachments, or the need for housing stability in retirement, not a desire to thwart younger generations.
4. Political Challenges: Addressing structural issues like zoning reform or incentivizing affordable housing construction requires political will and collaboration, which can be slow and contentious.
A broader lens is needed to understand and address the actual barriers to home ownership. Interest drops are merely a band-aid solution that misses the central issue of saving a down payment.
The suggestion that we have an intergenerational issue needs to be revised. The fact that Baby Boomers are holding on to their homes should not surprise anyone. However, Real Estate models that predicted copious numbers of Baby Boomers selling their homes to downsize got it wrong. Downsizing was a concept conceived in the 1980s. Unfortunately, it did not account for record-setting home price increases or inflation, leaving it undesirable for today’s seniors.
Although this is a complex issue, a few suggested solutions are worth exploring.
What can be done?
Focus on Policy Innovations:
To create housing, increase supply, curb speculative investments, and provide targeted assistance for builders to build modest starter homes.
To create rentals, homeowners should also receive income tax incentives to build Accessory Dwelling Units (ADUs). These could be used as affordable rentals or to house caregivers for senior homeowners. Today, The federal government announced a doubling of its Secondary Suite Loan Program, initially unveiled in the April 2024 budget. This is a massive step in the right direction.
To create down payments, adopt a policy allowing first-time home buyers to avoid paying tax on their first $250,000 of income. Then, they could use the tax savings as a down payment.
Focus on Education and Advocacy:
Include a warning that helps consumers understand that withdrawing from RSPs results in a significant loss of compound interest related to withdrawals and how this can harm income during retirement.
Encourage early inheritance to create gifted down payments. Normalize the concept by emphasizing the benefits to the giver and the receiver.
Educate the public on using financial equity safely and create down payments as an early inheritance for their heirs. This will shift the conversation and initiate an intergenerational transfer of wealth that empowers the next generation to own a home.
The Bottom Line
While the Bank of Canada interest rate cut may ease some financial strain for homeowners with variable-rate mortgages, it will do little to address the core issue of housing affordability. The media's fixation on interest rates as a "shiny penny" distracts from more profound systemic barriers, such as the inability to save for a down payment and the lack of affordable housing stock. These challenges require targeted policies, structural reforms, and intergenerational collaboration to be tackled effectively.
The focus must shift from short-term rate adjustments to long-term solutions that prioritize accessibility and affordability in housing. Without meaningful action, homeownership will remain out of reach for many, perpetuating the cycle of financial inequity across generations.
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