As expected, the Bank held its target overnight rate at the effective lower bound of 25 basis points with the clear notion that negative policy rates are not in the cards. Instead, the central bank will continue to rely on large-scale asset purchases–quantitative easing (QE). The central bank is recalibrating its QE program as promised in recent weeks. In mid-October, it announced that it would end its Repo, Bankers Acceptance and Canada Mortgage Bond purchases this month, as they are no longer needed to assure liquidity in those markets. The volumes of purchases have declined sharply since April. This move will have minimal impact on market interest rates.

The Governing Council announced today it would also gradually reduce purchases of federal government bonds from at least $5 billion to at least $4 billion per week. “The Governing Council judges that, with these combined adjustments, the QE program is providing at least as much monetary stimulus as before.”

The PC opposition party has been warning Governor Macklem of the risks of financing Trudeau’s government spending. But the Bank has little alternative but to step-up its buying of newly issued benchmark bonds–those currently being sold by the government, as opposed to older debt that is becoming increasingly illiquid. As reported in Bloomberg News, “It means the bank’s quantitative easing program will increasingly mirror government debt sales at a time when opposition lawmakers are warning it against directly financing Prime Minister Justin Trudeau’s fiscal agenda.” (See chart below). The Bank already owns more than a third of all outstanding Government of Canada debt, proportionately more than most central banks because Canada ran budget surpluses, which paid down debt for so long.

Virtually every major central bank in the world is conducting an emergency QE program in response to the COVID-19 crisis. The Bank of Canada says its QE program reinforces its commitment to hold interest rates at historic lows over the next few years until the annual inflation rate is sustainably at its target 2% level. Today’s October Monetary Policy Report indicates they will likely keep the overnight rate at 0.25% until 2023.

The central bank has no intention of paring back stimulus, with risks to the economy growing amid the second wave of COVID-19 cases. “As the economy recuperates, it will continue to require extraordinary monetary policy support,” the bank said. “We are committed to providing the monetary policy stimulus needed to support the recovery and achieve the inflation objective.”

October Monetary Policy Report

• Following the sharp bounce back in growth that occurred when containment measures were lifted, and the economy reopened, the Canadian economy transitioned to a slower, more protracted recuperation phase of its recovery. The recovery phases are proceeding largely as described in the July Report, though the initial rebound was stronger than expected. Furthermore, the near-term slowing in the recuperation phase is likely to be more pronounced due to the recent increase of COVID-19 infections.
• There is ongoing and significant slack in the Canadian economy. The gap between the actual output and the economy’s potential output is not expected to close until 2023. The economy is progressing unevenly, with some sectors and workers disproportionately affected by the virus–particularly those in accommodation, food, arts, entertainment and recreation, as well as global transportation. Many of those hardest-hit are low-income workers.
• Oil prices remain below pre-pandemic levels and are assumed to remain around current levels, hitting Alberta hard.
• Ongoing slack in the economy is expected to continue to hold inflation down into 2023.

The Bank of Canada’s forecast for Canadian growth is shown in the table below. The economic recovery is projected to be prolonged, underpinned by policy support but largely influenced by the evolution of the virus, ongoing uncertainty and structural changes to the economy. These changes could result in longer-term shifts of workers and capital across different regions and sectors of the economy. This adjustment process weighs on the Bank’s estimates of potential growth.

After declining by about 5 1/2 percent in 2020, the economy is expected to expand by almost 4 percent on average in 2021 and 2022. Two factors will likely lead to quarterly patterns of growth that are unusually choppy: localized outbreaks and containment measures and varied recovery rates across industries.

Inflation is expected to remain below the lower end of the Bank’s inflation-control target range of 1 to 3 percent until early 2021, largely due to the effects of low energy prices. Subsequently, inflation is anticipated to be within the target range, but economic slack will continue to put downward pressure on inflation throughout the projection period.

The Reopening Phase Was Strong But Uneven

Growth is estimated to have rebounded strongly in the third quarter, reversing about two-thirds of the decline observed in the first half of the year.  A sizable bounce back in activity resulted from a rebound in foreign demand, the release of pent-up demand for housing and some durable goods, and robust policy support.

Housing activity recovered sharply in the third quarter, supported by historically low financing costs, resilient incomes for higher-earning households, and extra sales and construction that made up for delayed spring activity (Chart 7). By September, cumulative resales are estimated to have compensated for the missed activity during the normally busy spring market. Housing activity may also be benefiting from changes in preferences. In particular, more than one-quarter of respondents to the Canadian Survey of Consumer Expectations in the third quarter of 2020 reported they would like to move to a larger or single-family home because of the pandemic. The strength of the housing market recovery, combined with a tight resale market, has led to the rapid growth of house prices in some markets. In contrast to the appreciation of house values observed in Toronto and Vancouver in 2016, price growth has been strongest in markets with moderate loan-to-income ratios, such as Ottawa, Montréal and Halifax.

Bottom Line

Interest rates will remain low for the foreseeable future. The pandemic will largely determine the growth of the economy and the government’s response. Experts suggest that this second wave will last for much of the winter and that a widely dispersed vaccine will not be available until at least well into 2021. As tough as that is to take, Canada is still doing a better job of containing the virus than the US, UK and the Euro area. Output is likely to remain below pre-pandemic levels everywhere through the end of 2022, the Bank of Canada’s forecast horizon.

This Wednesday, the Bank of Canada will release its interest rate announcement and the October Monetary Policy Report. Most people expect the overnight rate to remain at 0.25%, where it has been since the pandemic hit. A few have suggested that the Bank could take a page from Australia and reduce overnight rates by 15 basis points. I don’t think so.

Canada’s economy is not as similar to Australia’s as you might think. Yes, both countries speak mostly English, are commodity exporters, and have a currency called the dollar. But that is where the similarities end. Australia is largely a supplier to China and East Asia, while the US dominates Canada’s exports. And our major resource is oil rather than metals. Most importantly, the Bank of Canada believes that lower rates would not be helpful, given the squeeze they put on the banking system’s workings.

The Bank has committed to staying at 0.25% until economic conditions would be consistent with a sustained 2% inflation rate. With the second wave of COVID cases and rolling shutdowns upon us, the economic rebound will slow in the coming quarters. Moreover, it is unlikely we will see inflation averaging above 2% or higher through 2022. The base case forecast for overnight rates by the Bank of Canada will remain at 0.25% until 2023 unless we see a miraculous end to the pandemic far sooner than most experts predict.

Where the Bank will make policy changes is in quantitative easing–the buying of financial assets to improve liquidity in financial markets. The Bank’s Governing Council has, for months, hinted at the need for the current structure of the QE program to be “calibrated.” While there have been few details on what this means, we interpret it to imply a move away from a QE program supporting ‘market-functioning’ to one that attempts to achieve a ‘monetary policy objective.’ To some degree, this has already started.

On October 15, the Bank announced it would retire the Repo purchase program, the Bankers’ Acceptance purchase Facility and the Canadian Mortgage Bond Purchase Program (CMBP). These areas of the Canadian fixed income market are fully functioning at present, and the Bank likely felt ongoing support was no longer necessary. The end of the CMBP got the attention of some mortgage market participants who argued it spelled the end of declining mortgage rates. I think this is a misinterpretation of the Bank’s actions.

As the chart below shows, the use of the CMBP has waned considerably since its introduction in March. It just isn’t needed any longer to assure liquidity in the CMB market. Since August, lenders have only been using about $70 to $190 million per week of the BoC’s $500 million capacity. The last time lenders fully utilized, it was in April when the emergency program was clearly needed. Ending this program should have little impact on mortgage rates.

“As overall financial market conditions continue to improve in Canada, usage in several of the Bank of Canada’s programs that support the functioning of key financial markets has declined significantly,” the Bank said in announcing the changes. The program, designed to provide much-needed liquidity to the banking system to keep credit flowing during the worst of the crisis, has “fallen into disuse as the stresses from the pandemic eased, and markets became much more self-sufficient.”

The move follows the bank’s decision a month ago to reduce its purchases of federal government treasury bills and similar short-term provincial money market debt, citing improvements in the health of short-term funding markets.

The CMB purchase program is also dwarfed by the Bank’s Government Bond Purchase Program (GBPP), as the chart below shows. “The central bank has pledged repeatedly that it will maintain the highest-profile of its emergency asset-buying programs – its minimum $5-billion-a-week purchases of Government of Canada bonds – until the [economic] recovery is well underway. It has also so far maintained its two programs to purchase provincial and corporate bonds, even though both programs’ demand has been far below original expectations.

Mortgage rates in Canada have an 85% correlation with the 5-year Government of Canada bond yield, which has fallen sharply over the course of the pandemic crisis.

Bottom Line

Of the three programs being wound down in the bank’s latest announcement, the biggest is the expanded term repo program, under which the central bank has purchased more than $200-billion of the short-term bank financing instruments since mid-March. The program hasn’t generated any purchases since mid-September.

The Bankers’ Acceptance Purchase Facility, involving short-term credit instruments typically used in international trade financing, was used heavily when introduced in March. Still, it hasn’t been tapped at all since late April. The central bank made about $47-billion in purchases under the program. However, all of those purchased assets have since reached maturity, meaning the central bank is no longer holding any bankers’ acceptances on its balance sheet.

The Canada Mortgage Bond Purchase Program predates the pandemic, but the Bank of Canada ramped up its purchases dramatically during the crisis. Since mid-March, it has accumulated about $8-billion of the bonds under its emergency measures through twice-weekly purchases directly from Canada Mortgage and Housing Corp. The size of the bank’s typical purchases in the past couple of months has been less than a quarter of what it was routinely buying in the spring.

These changes in the QE program will have little impact on interest rates and mortgage markets.

Today’s release of September housing data by the Canadian Real Estate Association (CREA) shows national home sales rose 0.9% on a month-over-month (m-o-m) (see chart below). This continues the rebound in housing that began five months ago amid record-tight market conditions.

“Along with historic supply shortages in a number of regions, fierce competition among buyers has been putting upward pressure on home prices. Much of that was pent-up demand from the spring that came forward as our economies opened back up over the summer,” said Costa Poulopoulos, Chair of CREA.

According to Shaun Cathcart, CREA’s Senior Economist, “Reasons have been cited for this – pent-up demand from the lockdowns, Government support to date, ultra-low interest rates, and the composition of job losses to name a few. I would also remind everyone that sales were almost setting records and markets were almost this tight back in February so we were already close to where things are now, as far away from Goldilocks territory as we had ever been before. But I think another wildcard factor to consider, which has no historical precedent, is the value of one’s home during this time. Home has been our workplace, our kids’ schools, the gym, the park and more. Personal space is more important than ever.”

The modest uptick in home sales nationally reflected diverse results regionally with about 60% of local markets seeing gains. Increases in Ottawa, Greater Vancouver, Vancouver Island, Calgary and Hamilton-Burlington sales were mostly offset by declines in the Greater Toronto Area (GTA) and Montreal; although, activity in the two largest Canadian markets is still historically very strong.

Actual (not seasonally adjusted) sales activity posted a 45.6% y-o-y gain in September. It was a new record for the month of September by a margin of  20,000 transactions, the equivalent of a normal month of September with an entire month of December tacked on. Sales activity was up in almost all Canadian housing markets on a year-over-year basis.

New Listings

The number of newly listed homes declined by 10.2% in September, reversing the surge to record levels seen August. New supply was down in two-thirds of local markets, led by declines in and around Vancouver and the GTA.

With sales edging up in September and new supply dropping back, the national sales-to-new listings ratio tightened to 77.2% – the highest in almost 20 years and the third-highest monthly level on record for the measure.

Based on a comparison of sales-to-new listings ratio with long-term averages, about a third of all local markets were in balanced market territory, measured as being within one standard deviation of their long-term average. The other two-thirds of markets were above long-term norms, in many cases well above.

There were just 2.6 months of inventory on a national basis at the end of September 2020 – the lowest reading on record for this measure. At the local market level, a number of Ontario markets are now into weeks of inventory rather than months. Much of the province of Ontario is close to or under one month of inventory.

Home Prices

The Aggregate Composite MLS® Home Price Index (MLS® HPI) rose by 1.3% m-o-m in September 2020. Of the 39 markets now tracked by the index, all but two were up between August and September.

As buyers are moving further away from city centres, CREA added a large number of Ontario markets to the MLS® HPI this month. The list includes Bancroft and Area, Brantford Region, Cambridge, Grey Bruce Owen Sound, Huron Perth, Kawartha Lakes, Kitchener-Waterloo, the Lakelands (Muskoka-Haliburton-Orillia-Parry Sound), London & St. Thomas, Mississauga, North Bay, Northumberland Hills, Peterborough and the Kawarthas, Quinte & District, Simcoe & District, Southern Georgian Bay, Tillsonburg District and Woodstock-Ingersoll.

The non-seasonally adjusted Aggregate Composite MLS® HPI was up 10.3% on a y-o-y basis in September – the biggest gain since August 2017. The largest y-o-y gains in the 22-23% range were recorded in Bancroft and Area, Quinte & District, Ottawa and Woodstock-Ingersoll.

This was followed by y-o-y price gains in the range of 15-20% in Barrie, Hamilton, Niagara, Guelph, Brantford, Cambridge, Grey Bruce-Owen Sound, Huron Perth, the Lakelands, London & St. Thomas, North Bay, Simcoe & District, Southern Georgian Bay, Tillsonburg District and Montreal.

Prices were up in the 10-15% range compared to last September in the GTA, Oakville-Milton, Kawartha Lakes, Kitchener-Waterloo, Mississauga, Northumberland Hills, Peterborough and the Kawarthas, and Greater Moncton.

Meanwhile, y-o-y price gains were around 5% in Greater Vancouver, the Fraser Valley, the Okanagan Valley, Regina, Saskatoon and Quebec City. Gains were about half that in Victoria and elsewhere on Vancouver Island, as well and in St. John’s, and prices were more or less flat y-o-y in Calgary and Edmonton.

The actual (not seasonally adjusted) national average home price set another record in September 2020, topping the $600,000 mark for the first time ever at more than $604,000. This was up 17.5% from the same month last year.

Bottom Line

Housing strength is largely attributable to record-low mortgage rates and pent-up demand by households that have maintained their level of income during the pandemic. The hardest-hit households are low-wage earners in the accommodation, food services, and travel sectors. These are the folks that can least afford it and typically are not homeowners.

The good news is that the housing market is contributing to the recovery in economic activity.

Bank of Canada Governor Tiff Macklem said in a video conference last week that further rate cuts remain an option in providing economic stimulus.

At present, the central bank’s policy rate is at a historic low of 0.25%.

“We are not actively discussing negative interest rates at this point but it’s in our toolkit, and never say never,” Macklem said.

The timing of the statement made perfect sense, according to Derek Holt, head of capital markets economics at Bank of Nova Scotia.

“He’s putting the concept back on the table if downside risks intensify,” Holt told Bloomberg via email.

This represented a softening in the governor’s stance. Upon taking the central bank’s helm earlier this year, Macklem said that sub-zero rates will significantly disrupt the Canadian financial system.

The possibility of negative rates was floated a few years back, when the bank was reviewing its options.

However, the policy steps taken so far to help the economy weather the pandemic have made the financial system more susceptible to future volatility, Macklem said.

“Without the fiscal and monetary policy actions, the economic devastation of the pandemic could have been much, much worse,” Macklem said. “[But] as much as a bold policy response was needed, it will inevitably make the economy and financial system more vulnerable to economic shocks down the road.”

Macklem said that the bank is keeping a close eye on the national credit environment, despite most Canadians having resumed regular payment schedules as banks’ mortgage deferral programs ended.

A potentially major failure point will be sufficiently large credit losses that will force banks to impose stricter controls on borrowing, Reuters reported.

“If this happens, our banking system would go from being a tailwind that supports recovery to being a headwind,” Macklem said.

The September Labour Force Survey, released this morning by Statistics Canada, reflects labour market conditions during the week of September 13 to 19, six months after the onset of the COVID-19 economic shutdown. As Canadian families adapted to new back-to-school routines at the beginning of September, public health restrictions had been substantially eased across the country, and many businesses and workplaces had re-opened. Throughout the month, some restrictions were re-imposed in response to increases in the number of COVID-19 cases. In British Columbia, new rules and guidelines related to bars and restaurants were implemented on September 8. In Ontario, limits on social gatherings were tightened for the hot spots of Toronto, Peel and Ottawa on September 17 and the rest of the province on September 19.

Employment gains unexpectedly accelerated in September, increasing by 378,200, more than double the consensus forecast on a broadly based pickup in hiring. This was the fifth consecutive month of job gains, which has now retraced three-quarters of the 3 million jobs lost during March and April. The unemployment rate fell from 10.2% in August to 9.0% in September. Most economists had expected a job gain of 150,000 and a jobless rate of 9.8%.

Another piece of good news is that most of the net new jobs were in full-time work. The number of Canadians who were employed but worked less than half their usual hours for reasons likely related to COVID-19 fell by 108,000 (-7.1%) in September.

September gains brought employment to within 720,000 (-3.7%) of its pre-COVID February level. The accommodation and food services (-188,000) and retail trade (-146,000) industries remained furthest from full recovery, while youth employment was 263,000 (-10.3%) below February levels.

Among Canadians who worked most of their usual hours, the proportion working from home edged down from August to September, from 26.4% to 25.6%.

Employment increased in every province except New Brunswick and Prince Edward Island in September, with the largest gains in Ontario and Quebec.

As a result of the COVID-19 economic shutdown, the unemployment rate more than doubled from 5.6% in February to a record high of 13.7% in May. The 9.0% jobless rate in September marks a rapid improvement.  By comparison, during the 2008/2009 recession, the unemployment rate rose from 6.2% in October 2008 to peak at 8.7% in June 2009. It then took approximately nine years to return to its pre-recession rate.

Employment in accommodation and food services rose by 72,000 (+7.4%) in September. This was the fifth consecutive monthly increase and brought total gains since the initial easing of COVID-19 restrictions in May to 427,000. Nevertheless, this industry’s employment was the furthest from recovery in September, down 15.3% (-188,000) from its pre-pandemic February level.

The accommodation and food services industry is likely to continue to face many challenges over the coming months. While outdoor dining is likely to become impractical during the winter months and as some COVID restrictions are re-introduced, a recent study indicated that Canadians plan to reduce spending at restaurants.

Following four months of increases, employment in retail trade held steady in September. Compared with February, employment in this industry was down by 146,000 (-6.4%). After increasing sharply in May and June, following the initial easing of COVID-19 restrictions, retail sales slowed markedly in July.

In construction, a long road to recovery remains.

Employment in construction remained little changed for the second consecutive month in September and was down by 120,000 (-8.1%) compared with its pre-COVID level. Compared with February, employment in construction was down the most in Ontario (-54,000; -9.5%) and British Columbia (-39,000; -16.3%).

Construction consists of three subsectors: construction of buildings, heavy and civil engineering construction, and specialty trade contractors. According to the latest results from the Survey of Employment Payrolls and Hours, employment in construction fell from February to July in each of these subsectors, with the largest decline among specialty trade contractors. The release of investment in building construction for July showed that investment in building construction was slightly lower in July than in February.

Manufacturing employment almost fully recovered, but lagging in Alberta.

While some industries face a long recovery to pre-COVID employment levels, some sectors—including manufacturing—have almost fully recovered.

The pace of employment growth in manufacturing picked up in September (+68,000; +4.1%), following two months of modest growth over the summer. The September gains brought the total employment change in this industry to a level similar to that of February. While employment in manufacturing remained well below pre-pandemic levels in Alberta (-17,000; -12.1%) and to a lesser extent in Quebec (-15,000; -3.1%), employment was above the pre-COVID level in Ontario (+17,000; +2.3%).

Employment in educational services rises in September and surpasses pre-COVID levels.

Employment in educational services grew by 68,000 (+5.0%) in September, led by Ontario and Quebec. After declining by 11.5% from February to April, employment in the industry has increased for five consecutive months and has reached a level 2.6% higher than in February.

As students returned to school in August and September, some jurisdictions increased staffing levels to support classroom adaptations. On a year-over-year basis, employment in educational services was up by 32,000 (+2.3%) in September, driven by an increase in elementary and secondary school teachers and educational counsellors (not seasonally adjusted).

Bottom Line

The labour market impact of the COVID-19 economic shutdown has been particularly severe for low-wage employees (defined as those who earned less than $16.03 per hour, or two-thirds of the 2019 annual median wage of $24.04/hour). From February to April, employment among low-wage employees fell by 38.1%, compared with a decline of 12.7% for all other paid employees (not seasonally adjusted).

Almost half of the year-over-year decline in low-wage employees in September was accounted for by three industries: retail trade; accommodation and food services; and business, building and other support services industries.

The pandemic has disproportionately hit low-wage workers and youth, explaining why housing activity has been so strong. Low-wage employees and youth are typically not homebuyers or sellers.

Moreover, the RBC COVID Consumer Spending Tracker for the week of October 5 shows that spending trends continued solid with few signs of second-wave worries impacting consumer confidence yet.

According to RBC:

• “Among retail categories, clothing spending continued to climb, returning to year-ago levels.
• Spending on apparel, gifts, and jewelry was up 1.5% relative to last year.
• Other retail categories held on to gains from the past few months.
• Despite plateauing in dollar terms, entertainment spending ticked up relative to last year.
• During the summer, high golf spending likely continued into early fall— rather than slowing down as it would have in a normal year.
• Slower spending on accommodation and car rentals accelerated a downward trend in travel-related purchases that have dominated in the last several weeks.
• Travel spending had recovered partially from pandemic lows; it was still down about 60% in peak summer. It worsened again as the weather cooled.
• Simultaneously, automotive spending fell slightly, in line with seasonal trends, as the summer road trip season came to an end.
• Labour Day saw the strongest restaurant spending since before the pandemic, but the uptick was fleeting.
• Spending on dining out quickly fell back to -6% relative to a year ago, a level it’s hovered around since July.”

Recently released data from the real estate boards in Toronto and Vancouver showed strong sales activity and significant further upward pressure on prices. In the GTA, a surge in new listings of high-rise condos meant that the upward pressure on home prices was driven by the ground-oriented market segments, including detached and semi-detached houses and townhouses. Home sales and new listing activity reached record levels in Metro Vancouver last month. The heightened demand from home buyers is keeping overall supply levels down. This is creating upward pressure on home prices, which have been edging up since the spring.

The CREA data for the whole country will be out on the 15th of October. This adjusts the price data for types of homes sold, giving us a better idea of how significant price pressures have been and in which sectors—more on that next week.