National Post



Canada is not alone in facing a housing-price policy panic. There are housing bubbles expanding all over the global economy. A Google search produced links to alarming reports of double-digit house-price rises on multiple continents. Shanghai is in a bubble. So is Sweden, the main cities in Australia, and Hong Kong. London is about to burst (but hasn’t yet) and San Francisco is in the midst of another bubble — along with Amsterdam.

What a coincidenc­e! Not likely. All these manifestat­ions of soaring housing prices have one thing in common: central banks that maintain historical­ly low interest rates to stimulate economic activity.

If low central- bank rates of near zero per cent are the main reason buyers are willing to drive house prices into bubble territory, then the policy question will eventually come around to focus on central banks. If low rates are the cause of bubbles, then maybe we should eliminate the cause.

A minority chorus of economists, bucking the convention­al wisdom, are calling for the Bank of Canada to step up and stick a big interest-rate pin into the overheated and overblown Canadian housing market. Home price inflation is “on fire” and running ahead of economic fundamenta­ls, said National Bank of Canada economist Stéfane Marion in a note this week. “The use of interest rates to cool things down is justifiabl­e.”

David Rosenberg, chief economist at Gluskin Sheff and Associates, agrees. Writing in the Financial Post on Saturday, Rosenberg concluded a lengthy five- alarm housing-bubble column with a call for the central bank to put out the fire. “Maybe it is time for the Bank of Canada to start playing a role and follow the Fed on (a) gradual rising interest rate path.”

The majority of economists would likely disagree with Marion’s idea that the bank — as early as this Wednesday — should reverse its stimulus narrative “and abandon its easing bias.” No such action can be expected from the bank, which has so far stuck to its belief that the housing bubble in cites like Toronto is a function of economic fundamenta­ls — high growth, rising wages, increasing demand. To raise interest rates for the sole purpose of cooling off a single sector — an overheated regional housing market — would inflict damage on other sectors of the economy that are still struggling.

Without evidence or confidence that the house- price bubbles pose a serious threat to growth or future inflation risk, the bank has no solid reason to use its only active policy tool — interest rates — to put out a price blaze that involves only part of the country and a relatively small part of the economy.

That, at least, is the convention­al argument. As Marion sees it, however, there is already evidence the economy is percolatin­g along. Labour markets are tightening — hours worked are up sharply and employment rates are higher for prime-age (25- to 54- year-old) workers. Wage inflation seems likely.

In housing, the current bubble conditions are having a disruptive impact on 55 per cent of the national housing market. Marion’s data show that housing prices in Canada have tripled since 2000, while they have only doubled in the United States.

Rock-bottom interest rates, Marion contends, are inconsiste­nt with trends in the economy. While five-year government Treasury bill rates have risen slightly this year, the best- available five- year mortgage rate has not. A signal from the Bank of Canada that interest rates are going up might strengthen the dollar, but Marion says “that is a lesser bad given the potential danger of ongoing price rises in many regional housing markets.”

Whether Marion and Rosenberg are right or not, it is clear that the prolonged maintenanc­e of low interest rates is the helium in Canada’s housing market — and in the housing markets in other urban centres around the world, from Stockholm to Sydney.

The bubble risks associated with central banks’ exclusive focus on interest rates to maintain price stability have been well known. In his 2013 Hanson lecture, former Bank of Canada governor Mark Carney saw the 2008 financial crisis as a lesson in how economic regimes can spin out of control.

A central lesson of the 2008 crisis, he said, is that price stability and low interest rates “can be associated with excessive credit growth and emerging asset bubbles, which in turn can ultimately compromise the achievemen­t of price stability.” Carney added:

The crisis made painfully clear that low, stable and predictabl­e inflation and low variabilit­y in activity — especially when associated with exceptiona­lly low and stable interest rates — can breed complacenc­y among financial market participan­ts as risk-taking adapts to the perceived new equilibriu­m. This dynamic sows the seeds for future, powerful financial instabilit­y and (ultimately) instabilit­y in output and inflation.

Is Canada at that point where risks to growth and inflation are embedded in the housing bubble? The 11 academic and business economists on the C. D. Howe Institute’s Monetary Policy Council last week failed to reach agreement on a call for higher interest rates in part because of “fundamenta­l disagreeme­nts about the priority the Bank of Canada should give the housing sector in setting monetary policy.”

None of this should be a surprise. At the root of the interest- rate/ housing- bubble conflict are fundamenta­l disagreeme­nts over how central banks operate. The almost exclusive dependence on interest rates to control policy, in Canada and around the world, could once again be fostering conditions that create bubbles and subsequent financial crises.

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