Canada is facing a great paradox: while interest rates are high to combat inflation and its central bank seeks to drain liquidity from the market to return things to normal, the country has embarked on a historic bond-buying spree. A decision that aims to preserve a delicate balance between fighting inflation and overcoming the biggest crisis affecting its citizens, disruptions in the housing market. The North American nation has committed to buying 20.500 billion euros in mortgage bonds in just one year. Over time, it hopes to maintain this pace and become the main owner of this market, eventually owning 50%. In other words, 75% of the deficit that the country will incur this year (27.350 billion euros) will be allocated solely to buying these bonds.
Throughout its history, Canada has wanted to ensure affordable housing and, for this, it launched a program called Canada Mortgage Bonds (CMB) almost forty years ago. The government described this instrument as “an innovative financing vehicle.” In summary, banks group a set of mortgages that the government purchases to later be sold to investors as bonds. These bonds are issued by the country’s housing ministry and offer the country’s guarantee in case of default, giving them the highest possible rating and thus ensuring citizens more liquidity in the market, guaranteeing a more affordable mortgage.
These were launched back in 1986 but it was not until 2001 that they were implemented with the current structure. After the 2008 crisis, CMBs went from being very secondary assets to playing a capital role, since, as Jody Comeau, Vice President of Commercial Financing, points out, “the CMB program improved the liquidity available to borrowers and kept them from losing access to mortgage credit.” Since then, this huge market of around 235.000 billion euros was a subject of debate, and in fact, until last year there was talk of trying to end it. However, everything has changed radically in a matter of months due to the housing crisis shaking the country.
The weakness of Canada’s housing market is, for now, one of the country’s main concerns, which has actually limited immigration for the first time in its history precisely to alleviate this problem. In summary, the demand for housing is very high, with the supply frozen. This has caused the vacancy rate to reach historic lows, standing at an average of 1.5% in 2023. A situation that has led to the average price of a home skyrocketing since 2011, doubling in price. This trend has accelerated critically in recent years, and according to the Bank of Canada, buying a house in Canada costs around 467,000 euros compared to the meager 306,000 in 2019.
This situation has led to historic measures by Canada beyond limiting inflation (to prevent rent prices from rising), such as legally prohibiting real estate purchases by foreign investors. In fact, recently the government has signed the extension of this measure until 2027 so that only Canadian citizens can buy homes. “Homes are for people to live in, not to be used as financial assets by foreigners,” explained Finance Minister Chrystia Freeland when imposing the extension.
These reasons have driven a true 180-degree turn for Canada, from wanting to disable this market to diving headfirst into it and becoming its main supporter. On the one hand, the government has embarked on massively buying these bonds. They plan to do this by 2024 with around 20,000 billion Canadian dollars just in the first year of their offensive, a pace they hope to maintain for at least the next few years. This would lead them to become, in a very short time, not only the main player in this market but also the owner of almost half of it, as announced by the Ministry of Economy.
“This will result in an easing of credit, which goes against the stance of the Bank of Canada, which continues to tighten its monetary policy.”
Nicholas Neary, an analyst at DV Group, explains that “this will result in an easing of credit, which goes against the stance of the Bank of Canada, which continues to tighten its monetary policy (through interest rates and balance sheet reduction) to combat inflation. The monetary institution wants to reduce between 13,600 and 41,000 billion euros from its balance sheet in its strategy by the first half of 2025. In that sense, it is worth noting that the purchases will be channeled through, precisely, the Bank of Canada, completely breaking its strategy of draining liquidity.
Interest rates have been set at 5% in Canada since August 2023. That’s when its central bank closed the last rate hike, moving from a price range of 0% to 0.25% in February 2022 to the current levels, with a rapid increase to contain runaway inflation. The northern country’s CPI, which soared to 8.1% at its peak in 2022, is now in a much more controlled zone (2.9%) but is having trouble taking the final step and returning below the 2% target, as it has been without major movements since October 2023 that suggest the goal is close to being achieved.
In addition to buying these bonds, the government will significantly increase the annual issuance limits, from 27,000 million to 41,000 million. The idea is that, apart from lowering mortgage costs for citizens, they will use the funds generated by this issuance to build public housing, thus injecting more units into the market and lowering prices. According to the Canadian Federal Budget. they plan to build 30,000 low-cost apartments per year with the proceeds from these instruments.
“Pressures should dissipate if there were a flexible and well-supplied market, but that’s not the case.”
This will be one of the spearheads to solve Canada’s housing crisis. In the plan presented this same April, other measures have been taken such as removing taxes on apartment constructions for rent, relaxing local regulations to allow greater use of “underutilized areas” to build new homes, and promoting the construction of low-cost housing.
Solving this problem is also one of the keys to overcoming inflation, as explained by the Bank of Canada in one of its recent meetings. The real estate imbalances we are seeing have serious consequences for inflation, as housing accounts for 25% of the CPI basket”. The institution explains that “pressures should dissipate if there were a flexible and well-supplied market, but that’s not the case, as both the scarcity of workers and the political restrictions of cities and the long wait for permits are limiting construction in key areas.
