Employment in Canada collapsed in March, with over one million jobs lost, wiping away over three years of job creation in a single month and highlighting the economic pain the coronavirus pandemic has swiftly delivered. The decline in jobs in Canada, on a proportional basis, was steeper than in the U.S. The record plunge was anticipated after officials here revealed that in the span of roughly a month, 5 million people, about 20% of the country’s labour force, have applied for emergency income support. This reflects Canada’s relatively rapid widespread implementation of social distancing.

The sharp increase in unemployment initially caught policymakers by surprise, prompting them to shift their response toward wage subsidies in order to prevent across-the-board layoffs. About 70% of direct stimulus spending is now targeted at keeping workers on payrolls.

The net number of new jobs plunged by 1.01 million from February, the largest decline in records dating back to 1976, Statistics Canada said Thursday in Ottawa. The jobless rate surged from 5.6% in February to 7.8% in March.

Actual hours worked declined by 14% from a year ago, and 15% from the previous month, both records.

The March Labour Force Survey (LFS) results reflect labour market conditions during the week of March 15 to 21. By then, a sequence of unprecedented government interventions related to COVID-19—including the closure of non-essential businesses, travel restrictions, and public health measures directing Canadians to limit public interactions—had been put in place. These interventions resulted in a dramatic slowdown in economic activity and a sudden shock to the Canadian labour market. Today’s data might just be a preview of even worse numbers ahead as the economy heads for its deepest downdraft since the Great Depression.

As bad as these numbers are, Statistics Canada said they do not fully measure the size and extent of the impact of COVOD-19 on Canadian workers and businesses. Additional measures are required to do that which include the number of Canadians who kept their job but worked reduced hours, and the number of people who did not look for work because of ongoing business closures. Of those who were employed in March, the number who did not work any hours during the reference week (March 15 to 21) increased by 1.3 million, while the number who worked less than half of their usual hours increased by 800,000. These increases in absences from work can be attributed to COVID-19 and bring the total number of Canadians who were affected by either job loss or reduced hours to 3.1 million.

Regionally, employment fell in all provinces, with Ontario (-403,000 or -5.3%), Quebec (-264,000 or -6.0%), British Columbia (-132,000 or -5.2%) and Alberta (-117,000 or -5.0%) the hardest hit.

The unemployment rate increased in all provinces except Newfoundland and Labrador and Prince Edward Island. The largest increases were in Quebec (+3.6 percentage points to 8.1%), British Columbia (+2.2 percentage points to 7.2%) and Ontario (+2.1 percentage points to 7.6%). See the table below for the jobless rate in each province.

In March, the number of people who were out of the labour force—that is, those who were neither employed nor unemployed—increased by 644,000. Of those not in the labour force, 219,000 had worked recently and wanted a job but did not search for one, an increase of 193,000 (+743%); because they had not looked for work and they were not temporarily laid off, these people are not counted as unemployed. Since historically the number of people in this group is generally very small and stable, the full monthly increase can be reasonably attributed to COVID-19.

Employment decreased more sharply in March among employees in the private sector (-830,200 or -6.7%) than in the public sector (-144,600 or -3.7%).

The number of self-employed workers decreased relatively little in March (-1.2% or -35,900) and was virtually unchanged compared with 12 months earlier. The number of own-account self-employed workers with no employees increased by 1.2% in March (not adjusted for seasonality). Most of this increase was due to an increase in the healthcare and social assistance industry (+16.7%), which offset declines in several other industries. At the onset of a sudden labour market shock, self-employed workers are likely to continue to report an attachment to their business, even as business conditions deteriorate.

The service sector was hardest hit, with almost all of the 1 million decline in employment concentrated in that category. The largest employment declines were recorded in industries that involve public-facing activities or limited ability to work from home. This includes accommodation and food services (-23.9%); information, culture and recreation (-13.3%); educational services (-9.1%); and wholesale and retail trade (-7.2%).

Smaller employment declines were observed in most other sectors, including those related to essential services, such as health care and social assistance (-4.0%). Employment was little changed in public administration; construction; and professional, scientific and technical services. Surprisingly, employment in natural resources rose despite the collapse of oil prices in March.

Females were also more likely to lose jobs than their male counterparts. Among core-aged workers, female employment dropped more than twice that of men, which might reflect the dominance of males in the construction industry, which was in large measure considered essential work in March. The private sector was responsible for a majority of the losses with employment dropping by 830,200.

Bottom Line: The chart below shows the unprecedented magnitude of the drop in employment last month compared to other recession periods, but this is not your typical recession. This was a government-induced work stoppage to protect us from COVID-19; to flatten the curve of new cases so that our healthcare system could better accommodate the onslaught of critically ill patients. While these are still early days, the data suggests that Canada’s early and dramatic nationwide response to the pandemic has been the right thing to do. We only need to look as near as the United States, where shutdowns were piecemeal, tentative and late. The number of COVID-19 cases is more than 22 times larger in the US than in Canada, while the population is only ten times the size.

To be sure, economic growth in the second quarter will be dismal. The economists at the Royal Bank have just posted a forecasted growth rate of an unprecedented -32% in Q2 and a jobless rate rising to 14.6%. They see a bounceback of +20% growth in the third quarter, although it will take until 2022 until Canadian GDP returns to its pre-pandemic level. Underpinning this forecast is the assumption that the economy will be in lock-down for about 12 weeks, with activity only gradually returning to normal after that.

According to the Royal Bank report, “Home resales are expected to fall 20% this year. Job losses, reduced work hours and income, as well as equity-market declines, will keep many buyers out of the market. Governments and banks have policies in place to help owners through this tough patch which should limit forced-selling and a glut of properties coming onto the market. But that doesn’t mean prices won’t come under downward pressure. As in many other industries, we expect the recovery in housing will be gradual. Low interest rates will be a stabilizing force, though it will take a rebound in the labour market as well as a pickup in immigration before sales really accelerate. Our view is that most of the recovery will occur in 2021.”

Policymakers have been extremely aggressive in providing income and wage supports. The central bank is unlikely to reduce interest rates below the current overnight rate of 0.25%, but the BoC will continue large-scale purchases of government bonds, mortgage-backed securities (along with CMHC), bankers’ acceptances and commercial paper–reducing the cost of funds for the banks and improving liquidity in all markets. “All told, the government support measures add up to 11.5% of GDP making the entire package one of the largest of the developed countries.”

2 recent updates below:

Canada’s largest banks have slashed their prime lending rate to 2.4% from 2.95%, matching last week’s move by the Bank of Canada to slash the overnight rate by another 50 basis points.

RBC Royal Bank, Scotiabank, Toronto-Dominion Bank (TD Bank), BMO Bank of Montreal, and CIBC have announced that the new rate will be effective today, March 30. Meanwhile, National Bank of Canada will reduce its prime rate effective tomorrow, March 31.

Read more: Canada’s largest banks slash prime lending rates

This is the third time this month that the big banks have cut their prime lending rate. The Bank of Canada slashed interest rates late last week, saying that “decisive fiscal policy action in Canada” was necessary to “support individuals and businesses and to minimize any permanent damage to the structure of the economy.”

“The bank is playing an important complementary role in this effort,” BoC said in a statement. “Its interest rate setting cushions the impact of the shocks by easing the cost of borrowing. Its efforts to maintain the functioning of the financial system are helping keep credit available to people and companies. The intent of our decision today is to support the financial system in its central role of providing credit in the economy, and to lay the foundation for the economy’s return to normalcy.”

Why Are Mortgage Rates Rising?

Over the past month, the Bank of Canada has lowered its overnight rate by a whopping 1.5 percentage points to a mere 0.25%. Many people expected mortgage rates to fall equivalently. The banks have reduced prime rates by the full 150 basis points (bps). But, since the second Bank of Canada rate cut on March 13, banks and other lenders have hiked mortgage rates for fixed- and variable-rate loans. That’s not what happens typically when the Bank cuts its overnight rate. But these are extraordinary times.

The Covid-19 pandemic has disrupted everything, shutting down the entire global economy and damaging business and consumer confidence. No one knows when it will end. This degree of uncertainty and the risk to our health is profoundly unnerving.

Most businesses have ground to a halt, so unemployment has surged. Hourly workers and many of the self-employed have found themselves with no income for an indeterminate period. All but essential workers are staying at home, including vast numbers of students and pre-school children. Nothing like this has happened in the past century. The societal and emotional toll is enormous, and governments at all levels are introducing income support programs for individuals and businesses, but so far, no cheques are in the mail.

In consequence, the economy hasn’t just slowed; it has frozen in place and is rapidly contracting. Travel has stopped. Trade and transport have stopped. Manufacturing and commerce have stopped. And this is happening all over the world.

What’s more, the Saudis and Russians took advantage of the disruption to escalate oil production and drive down prices in a thinly veiled attempt to drive marginal producers in the US and Canada out of business. This has compounded the negative impact on our economy and dramatically intensified the plunge in our stock market.

Many Canadians are now forced to live off their savings or go into debt until employment insurance and other government assistance kicks in, and even when it does, it will not cover 100% of the income loss. The majority of the population has very little savings, so people are resort to drawing on their home equity lines of credit (HELOCs), other credit lines or adding to credit card debt. Businesses are doing the same.

The good news is that people and businesses that already have loans tied to the prime rate are enjoying a significant reduction in their monthly payments. All of the major banks have reduced their prime rates from 3.95% to 2.45%. So people or businesses with floating-rate loans, be they mortgages or HELOCs or commercial lines of credit, have seen their monthly borrowing costs fall by 1.5 percentage points. That helps to reduce the burden of dipping into this source of funds to replace income.

So Why Are Mortgage Rates For New Loans Rising?

These disruptive forces of Covid-19 have markedly reduced the earnings of banks and other lenders and dramatically increased their risk. That is why the stock prices of banks and other publically-traded lenders have fallen very sharply, causing their dividend yields to rise to levels well above government bond yields. As an example, Royal Bank’s stock price has fallen 22% year-to-date (ytd), increasing its annual dividend yield to 5.31%. For CIBC, it has been even worse. Its stock price has fallen 30%, driving its dividend yield to 7.66%. To put this into perspective, the 10-year Government of Canada bond yield is only 0.64%. The gap is a reflection of the investor perception of the risk confronting Canadian banks.

Thus, the cost of funds for banks and other lenders has risen sharply despite the cut in the Bank of Canada’s overnight rate. The cheapest source of funding is short-term deposits–especially savings and chequing accounts. Still, unemployed consumers and shut-down businesses are withdrawing these deposits to pay the rent and put food on the table.

Longer-term deposits called GICs, which stands for Guaranteed Investment Certificates, are a more expensive source of funds. Still, owing to their hefty penalties for early withdrawal, they become a more reliable funding source at a time like this. As noted by Rob Carrick, consumer finance reporter for the Globe and Mail, “GIC rates should be in the toilet right now because that’s what rates broadly do in times of economic stress. But GIC rates follow a similar path to mortgage rates, which have risen lately as lenders price rising default risk into borrowing costs.”

To attract funds, some of the smaller banks have increased their savings and GIC rates. For example, EQ Bank is paying 2.45% on its High-Interest Savings Account and 2.55% on its 5-year GIC. Other small banks are also hiking GIC rates, raising their cost of funds. Rob McLister noted that “The likes of Home Capital, Equitable Bank and Canadian Western Bank have lifted their 1-year GIC rates over 65 bps in the last few weeks, according to data from noted housing analyst Ben Rabidoux.”

The banks are having to set aside funds to cover rising loan loss reserves, which exacerbates their earnings decline. An unusually large component of Canadian bank loan losses is coming from the oil sector. Still, default risk is rising sharply for almost every business, small and large–think airlines, shipping companies, manufacturers, auto dealers, department stores, etc.

Lenders have also been swamped by thousands of applications to defer mortgage payments.

Hence, confronted with rising costs and falling revenues, the banks are tightening their belts. They slashed their prime rates but eliminated the discounts to prime for new variable-rate mortgage loans. Some lenders will no doubt start charging prime plus a premium for such mortgage loans. Banks have also raised fixed-rate mortgage rates as these myriad pressures reducing bank earnings are causing investors to insist banks pay more for the funds they need to remain liquid.

An additional concern is that financial markets have become less and less liquid–sellers cannot find buyers at reasonable prices. The ‘bid-ask’ spreads are widening. That’s why the central bank and CMHC are buying mortgage-backed securities in enormous volumes. That is also why the Bank of Canada has started large-scale weekly buying of government securities and commercial paper. These government entities have become the buyer of last resort, providing liquidity to the mortgage and bond markets.

These markets are crucial to the financial stability of Canada. Large-scale purchases of securities are called “quantitative easing” and have never been used before by the Bank of Canada. It was used extensively by the Fed and other central banks during the 2008-10 financial crisis. When business and consumer confidence is so low that nothing the central bank can do will spur investment and spending, they resort to quantitative easing to keep financial markets functioning. In today’s world, businesses and consumers are locked down, and no one knows when it will end. With so much uncertainty, confidence about the future diminishes. The natural tendency is for people to cancel major expenditures and hunker down.

We are living through an unprecedented period. When the health emergency has passed, we will celebrate a return to a new normal. In the meantime, seemingly odd things will continue to happen in financial markets.

The Bank of Canada today lowered its target for the overnight rate by 50 basis points to ¼ percent. This unscheduled rate decision brings the policy rate to its effective lower bound and is intended to provide support to the Canadian financial system and the economy during the COVID-19 pandemic (see chart below).

Strains in the commercial paper and government securities markets triggered today’s action to engage in quantitative easing. The Governing Council has been meeting every day during the pandemic crisis. Market illiquidity is a significant problem and one the Bank considers foundational. These large-scale purchases of financial assets are intended to improve the functioning of financial markets.

Credit risk spreads have widened sharply in recent days. People are moving to cash. Liquidity has dried up in all financial markets, even government-guaranteed markets such as Canadian Mortgage-Backed securities (CMBs) and GoC bills and bonds. The commercial paper market–used by businesses for short-term financing–has become nonfunctional. The Bank is making large-scale purchases of financial assets in illiquid markets to improve market functioning across the yield curve. They are not attempting to change the shape of the curve for now but might do so in the future.

These large-scale purchases will create the liquidity that the financial system is demanding so that financial intermediation can function. Risk has risen, which creates the need for more significant cash injections.

At the press conference today, Senior Deputy Governor Wilkins refrained from speculating what other measures the Bank might take in the future. When asked, “Where is the bottom?” She responded, “That depends on the resolution of the Covid-19 health issues.”

The Bank will discuss the economic outlook in its Monetary Policy Report at their regularly scheduled meeting on April 15. In response to questions, Governor Poloz said it is challenging to assess what the impact of the shutdown of the economy will be. A negative cycle of pessimism is clearly in place. The Bank’s rate cuts help to reduce monthly payments on floating rate debt. He is hoping to maintain consumer confidence and expectations of a return to normalcy.

The oil price cut alone would have been sufficient reason for the Bank of Canada to lower interest rates. The Covid-19 medical emergency and the shutdown dramatically exacerbates the situation. All that monetary policy can do is to cushion the blow and avoid structural problems to the economy. The overnight rate of 0.25% is consistent with market rates along the yield curve.

High household debt levels have historically been a concern. Monetary policy easing helps to bridge the gap until the health concerns are resolved. The housing market, according to Wilkins, is no longer a concern for excessive borrowing by cash-strapped households.

At this point, the Bank is not contemplating negative interest rates. Monetary policy has little further room to maneuver, given interest rates are already very low. With businesses closed, lower interest rates do not encourage consumers to go out and spend money.

Large-scale debt purchases by the Bank will continue for an extended period to provide liquidity. The Bank can do this in virtually unlimited quantities as needed. The policymakers are also focussing on the period after the crisis. They want the economy to have an excellent foundation for growth when the economy resumes its normal functioning.

Fiscal stimulus is crucial at this time. The newly introduced income support for people who are not covered by the Employment Insurance system is a particularly important safety net for the economy. There are many other elements of the fiscal stimulus, and the government stands ready to do more as needed.

The Canadian dollar has moved down on the Bank’s latest emergency action. The loonie has also been battered by the dramatic decline in oil prices. Canada is getting a double whammy from the pandemic and the oil price war between Saudi Arabia and Russia. The loonie’s decline feeds through to rising prices of imports. However, the pandemic has disrupted trade and imports have fallen.

The Bank of Canada suggested as well that they are meeting twice a week with the leadership of the Big-Six Banks. The cost of funds for the banks has risen sharply. CMHC is buying large volumes of mortgages from the banks, which, along with CMB purchases by the central bank, will shore up liquidity. The banks are well-capitalized and robust. The level of collaboration between the Bank of Canada and the Big Six is very high.

The Stock Market Has Had Three Good Days

As the chart below shows, the Toronto Stock Exchange has retraced some of its losses in the past three days as the US and Canada have announced very aggressive fiscal stimulus. As well, the Bank of Canada has now lowered interest rates three times this month, with a cumulative easing of 1.5 percentage points. The Federal Reserve has also cut by 150 basis points over the same period. In addition to lowering borrowing costs, the central bank has also announced in recent days a slew of new liquidity measures to inject cash into the banking system and money markets and to ensure it can handle any market-wide stresses in the financial system.

The economic pain is just getting started in Canada with the spike in joblessness and the shutdown of all but essential services. Similarly, the US posted its highest level of initial unemployment insurance claims in history–3.83 million, which compares to a previous high of 685,000 during the financial crisis just over a decade ago. These are the earliest indicator of a virus-slammed economy, with much more to come. All of this is without precedent, but rest assured that policy leaders will continue to do whatever it takes to cushion the blow of the pandemic on consumers and businesses and to bridge a return to normalcy.

For the third time this month, the Bank of Canada cut to the overnight rate, this time slashing off 50 basis points to a new level of .025%. The Bank Rate is correspondingly 0.50% and the deposit rate is .025% percent.

In a press statement, the central bank said this “unscheduled rate decision brings the policy rate to its effective lower bound and is intended to provide support to the Canadian financial system and the economy during the COVID-19 pandemic.”

The BoC also launched two programmes designed to address the economic chaos created by COVID-19: The Commercial Paper Purchase Program (CPPP) is designed to “alleviate strains in short-term funding markets and thereby preserve a key source of funding for businesses,” while the second initiative will have the BoC acquiring Government of Canada securities in the secondary market, beginning with a minimum acquisition of $5 billion per week across the yield curve.

“The program will be adjusted as conditions warrant, but will continue until the economic recovery is well underway,” the BoC said, adding that its balance sheet “will expand as a result of these purchases.”

With all the recent rate related news, I wanted to highlight some key articles that have come out over the last week:

Federal Reserve cuts rates to zero to support economy during coronavirus pandemic

The last time the Fed cut rates to zero was during the global financial crisis just over a decade ago.

In addition to rate cuts, the Fed also said it would purchase another $700 billion worth of Treasury bonds and mortgage-backed securities. It also struck a deal with the Bank of Canada, the Bank of England, the Bank of Japan, the European Central Bank and the Swiss National Bank to lower their rates on currency swaps to keep the financial markets functioning normally.

Although the underlying US economy has remained on solid ground — unemployment is at a historic low and consumer confidence has stood near all-time highs — the Fed said the coronavirus outbreak has significantly hurt the global financial conditions.

The Fed could, in theory, take rates negative, as some other central banks have, but Federal Reserve Chairman Jerome Powell has resisted that idea. The Fed said Sunday it would hold rates steady near zero until it is confident that the US economy pulls out of the coronavirus-fueled economic quagmire.

For the second time this month, the Federal Reserve cited the deleterious impact created by the coronavirus in announcing a surprise cut to the US federal funds rate, lowering it to a range of 0% to 0.25%.

“The coronavirus outbreak has harmed communities and disrupted economic activity in many countries, including the United States,” said the central bank’s policymaking Federal Open Market Committee (FOMC) in a statement. “Global financial conditions have also been significantly affected.”

Although the Fed insisted the national economy “came into this challenging period on a strong footing” and the job market remained strong, it also observed that “business fixed investment and exports remained weak” while the energy sector “has come under stress,” ultimately concluding that the “effects of the coronavirus will weigh on economic activity in the near term and pose risks to the economic outlook.”

The Fed is also expected to purchase up to $500 billion in Treasury securities and $200 billion in mortgage-backed securities, returning to the policy of quantitative easing. The FOMC was near-unanimous, with only Cleveland Fed CEO Loretta J. Mester opposing the rate cut.

Mike Fratantoni, senior vice president and chief economist for the Mortgage Brokers Association (MBA), welcomed the announcement and predicted that it will help strengthen the housing market.

“By the end of last week, markets across the board were showing increasing signs of stress, with unprecedented volatility and widening spreads,” he said. “Today’s dramatic action by the Fed, lowering rates to zero, buying Treasuries and MBS, and encouraging banks to go to the discount window, will significantly reduce stress in the system. MBA expects these actions will lower mortgage rates, helping homeowners save money through refinancing, and thereby providing a boost to the broader economy.

Fed Cuts Overnight Rate One Percentage Point But Markets Plummet

In an unprecedented Sunday afternoon meeting, the US Federal Reserve cut their key policy rate by 100 basis points (bps) to a level of 0%-to-0.25% (see chart below). Also, the Committee announced increased access to the discount window where the Fed makes loans to banks. The Fed is the lender-of-last-resort and is signalling that it will provide liquidity wherever needed. As well, with interest rates already so low, the Fed is well aware that rate cuts can only do so much. Thus, they are returning to quantitative easing–the buying of large volumes of U.S. government Treasury bills and bonds as well as mortgage-backed securities (MBS), to inject liquidity into the financial system.

The Treasury and US MBS markets are usually the deepest, most liquid markets in the world. But over the past two weeks, liquidity has dried up. Financial instability has risen sharply with the high level of volatility. Banks have experienced significant withdrawals as consumers are hoarding cash like everything else. The cost of funds to banks has risen sharply because of the enhanced perception of risk. With the collapse in oil prices, banks exposed to the oil sector are building up reserves for nonperforming loans. As businesses everywhere in nearly every sector shutdown, the risk of delinquencies rises further. Consumers who are housebound spend less money, and those who are freelancers or hourly wage earners might not get paid. Moreover, the shuttering of schools puts an added burden on parents who have no other daycare options for their kids.

All of this disruption, which according to the Center for Disease Control, could last months–the CDC recommended yesterday the shutdown of meetings of more than 50 people for eight weeks–has led to rising concern about the riskiness of banks. Bank shares have plummeted, and the yields on bank bonds have surged. Besides, banks and other mortgage lenders are fearful of being inundated with requests for refinancings, especially in the US, where penalties for breaking a mortgage are much lower than in Canada. Because of the refinancing surge in the US, the price of MBSs has fallen sharply, raising their yields and making the market highly illiquid.

The rising risk premiums, likely recession and illiquidity are causing banks in Canada and the US to raise some mortgage rates. Lenders are tightening the discount off the prime rate on variable-rate mortgage loans. Some fixed rates have edged higher as well. Such spread widening between mortgage rates and government yields happened during the financial crisis. Bank balance sheets will expand as troubled businesses and consumers extend their borrowings on their open lines of credit. Many will be unable to make timely interest payments. Loan loss reserves, already climbing, will rise further. Liquid deposits will be depleted as many are forced to live off of savings while shying away from selling stocks at markedly depressed prices.

These are not normal times. The Fed’s actions did nothing to calm markets. Indeed, stocks and bond yields plummeted in overnight trade, and the stock markets opened sharply lower in North America. The S&P 500 opened down over 8% while the TSX opened down 11%, triggering a circuit-breaker time out. This is the third time in a week the circuit breaker has hit. The TSX is down roughly 35% from its recent high (see chart below). The S&P 500 is down over 20%. The relative underperfomance of the Canadian stock market reflects our out-sized representation of the energy sector. The two weakest sectors in the TSX are the energy and financial sectors.

The world knows that the Fed and other central banks are running out of ammunition. Governor Powell said yesterday that he would not take the key fed funds rate into negative territory but instead would use “forward guidance” and asset purchases (quantitative easing) going forward.

The good news is that the banks are highly capitalized and much more resilient than during the financial crisis. Central banks since that time have put in place measures to monitor financial stability. Last Friday, the Canadian Office of the Superintendent of Financial Institutions (OSFI) reduced the capital requirements for Canadian banks to free up $300 billion for banks to support troubled borrowers. OSFI warned against the use of these funds to buy back stocks or raise dividends.

OSFI also suspended the proposed revision in the qualifying mortgage rate slated to begin April 6. The posted mortgage rate, published weekly by the Bank of Canada, will remain the qualifying mortgage rate. It is currently 5.19%, but it is expected to fall this week to around 4.95%.

But in these extraordinary times, there is a loss of confidence in the financial system. Some are calling for a full shutdown of the stock markets–but imagine the panic if no one could sell assets. There would truly be a run on the banks. Now is not a time to panic.

The Canadian Housing Market

The Canadian Real Estate Association announced this morning that home sales recorded over the Canadian MLS Systems rose 5.9% in February, marking one of the more substantial month-over-month gains of the past decade. Actual (not seasonally adjusted) sales activity stood 26.9% above year-ago levels–keeping in mind that activity was quite weak one year ago. February 2019 marked a decade-low for the month, so a good part of the significant y-o-y gain reflects low levels of activity recorded at the time. February 2020 also benefited from an additional day due to the leap year.

The CREA President, Jason Stephen, said, “Home prices are accelerating in markets where listings are in increasingly short supply, specifically in Ontario, Quebec and the Maritimes which together account for about two-thirds of national sales activity. Meanwhile, ample supply across the Prairies and in Newfoundland and Labrador means increased competition among sellers.”

The number of newly listed homes jumped 7.3% in February compared to January, more than erasing the declines of late last year. New supply gains were posted in some large markets, including the Fraser Valley, Calgary, Edmonton, the GTA, Hamilton-Burlington, Kitchener-Waterloo, Windsor-Essex, Ottawa and Montreal.

The Aggregate Composite MLS® Home Price Index (MLS® HPI) rose 0.7% in February 2020 compared to January, marking its ninth consecutive monthly gain. The actual (not seasonally adjusted) national average price for homes sold in February 2020 was around $540,000, up 15.2% from the same month the previous year. See the table below for the regional move in prices.

But this is old news, particularly given all that has happened in the past two weeks. What comes next for the housing market? That depends on the course of the pandemic. Lower interest rates would typically be great news for the housing market, particularly for first-time homebuyers. But social distancing is hardly consistent with open houses and home shopping.

Moreover, volatility and instability reduce consumer confidence. Buyers that parked their downpayment savings in the stock markets have lost nearly a third of their money on paper. And how many sellers want a trail of strangers wandering through their homes during the pandemic. So the housing market, like everything else, is likely going to slow over the near term.

The Bank of Canada is hopeful that its rate cuts will stabilize the housing market from what might have otherwise been a substantial shutdown. Lower rates will filter through to lower monthly payments for floating-rate mortgage borrowers. Expect the Bank to cut rates again to near-zero levels, following in the footsteps of the Fed. So far, as of this writing, the Canadian banks have not responded to Friday’s BoC rate cut. The prime rate went down a full 50 bps on March 5 after the Bank cut its key rate by that amount on March 4. But so far, the Big-Six banks have not responded to the 75 bps cut three days ago.

January Starts 2020 With Strong Canadian Job Growth

Bottom Line: Canada’s economy has been boosted by the fastest pace of immigration in the Group of Seven countries, spurring a housing boom that is pushing up demand for everything from plumbers to electricians. Indeed, Bloomberg News recently highlighted the more substantial surge in male employment in Canada relative to the US, where women have eclipsed men as the majority of jobholders.

Female job growth in Canada is also strong, and labour force participation rates are higher in Canada than in the US. The jobless rate for women age 25 and older is only 4.6% in Canada, compared to 4.9% for men.

Market interest rates have fallen sharply since the coronavirus-led investor flight to the safety of government bonds. The 5-year government bond yield–a harbinger of conventional mortgage rates–now stands at 1.34%, down sharply from the 1.60+% range it was trading in before the virus became global news (see chart below).

This morning, one of the Big-Six banks finally reacted. TD cut its posted 5-year fixed rate to 4.99%. TD’s posted rate had previously been at 5.34%, making this a 36 basis point cut. Other banks had lowered their qualifying rate to 5.19% last July, leading the Bank of Canada to cut its 5-year conventional mortgage rate to 5.19%. This is the qualifying rate under the B-20 rule introduced on January 1, 2018.

Even the regulators have been questioning the efficacy and fairness of using the big-bank posted rate as a qualifying rate for mortgage stress testing.

On January 24, the Assistant Superintendent of OSFI’s Regulation Sector, Ben Gully, gave a speech at the C.D. Howe Institute suggesting that the B-20 qualifying mortgage rate historically would be no more than 200 basis points above contract rates. He said that OSFI chose the “best available rate at the time.”

He went on to say that for many years, the difference between the benchmark rate and the average contract rate was 200 bps. However, this gap “has been widening more recently, suggesting that the benchmark is less responsive to market changes than when it was first proposed. We are reviewing this aspect of our qualifying rate, as the posted rate is not playing the role that we intended. As always, we will share our results with our federal partners. This will help to inform the advice OSFI might provide to the Minister, as requested in the mandate letter to him.”

By keeping posted rates too high, the Big-Six banks have inflated the qualifying rate, making it more difficult than necessary to pass the stress test to get a mortgage.

While TD’s rate cut is welcome news, its posted rate is still too high by historical standards. Given today’s average contract rates, the posted rate should be at least 20 bps lower still.

Banks have a strong incentive to inflate their posted mortgage rate. For one thing, they are the basis for the calculation of big-bank mortgage penalties. Also, they are the minimum qualifying rate.

The posted rate does not appropriately reflect the state of the mortgage market as few borrowers would pay this rate. Interestingly, banks often move this rate in lock-step, or close to it, reflecting their dominant oligopolistic position in the marketplace.

If a couple of the other big banks follow TD’s lead, the Bank of Canada benchmark rate will be below 5% for the first time since January 2018 when the new B-20 rules were adopted. Lowering the stress test rate by 20 bps from 5.19% to 4.99% would require roughly 1.8% less income to qualify for a mortgage on the average Canadian home price (assuming a 20% downpayment), increasing buying power by 2%. This doesn’t sound like much, but it can have a meaningful psychological impact on already improving housing markets. The latest CREA data shows that the national average home price surged 9.6% year-over-year in December. A lower stress test rate would make a busy spring housing market even more active.

Canadian 5-year Yield Fell To Lowest Level Since October

Global investors are selling stocks and piling into the safety of bonds in response to fears that the Wuhan coronavirus could disrupt global economic activity. Gold prices, another haven, have also risen. The Government of Canada 5-year bond yield traded this morning at roughly 1.35%, well below its nearly 1.70% level one month ago. The 5-year yield leads fixed mortgage rates, so if this trend persists, we might see widely available fixed-5-year rates in the 2.50% range once again in February.

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Bank of Canada Now Buying 10-year CMBs

The Bank of Canada announced yesterday that effective immediately, the Bank will expand the Canada Mortgage-Backed securities (CMBs, which are government-guaranteed) it can purchase in the primary market to include 10-year fixed-rate bond issues. In 2018, The Bank expanded the assets it acquires to 5-year fixed and floating CMBs. The Bank held $517 million of these 5-year CMBs as of November 30, 2019.

This move by the BoC should improve liquidity, reducing yields on 10-year CMBs, possibly lowering 10-year fixed rates for mortgage borrowers. Governor Poloz supports efforts to extend the duration of mortgages.

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First-Time Homebuyers Incentive Plan Flops

Only about 3,000 applicants were approved for the Liberals’ First-Time Home Buyer Incentive (FTHBI) in 2019. That’s just $55 million in funding, a less-than-stellar start given its $1.25-billion three-year target. (This information is according to attendees at the TD Securities’ Financial Services Conference where CMHC made comments.)

The Bank of Canada (BoC) announced today that it’s maintaining the overnight rate at 1.75%.

The Bank Rate is correspondingly 2% and the deposit rate is 1.5%. The BoC has maintained the current overnight rate October of 2018, when it was raised from 1.5%.

The Bank projects that growth in the Canadian economy will accelerate from 1.6% this year to 2% in 2021.

This comes after a recent survey in which nearly all economists predicted the central bank would hold rates at their current level. Thirty-one percent of those polled, however, thought that the Bank should lower rates even further.

The overnight rate is the interest rate at which major financial institutions borrow and lend one-day (or “overnight”) funds among themselves; the Bank sets a target level for that rate. This target for the overnight rate is often referred to as the Bank’s policy interest rate.

Changes in the target for the overnight rate influence other interest rates, such as those for consumer loans and mortgages. They can also affect the exchange rate of the Canadian dollar.

The next interest rate announcement is March 4th.

In a more dovish statement, the Bank of Canada maintained its target for the overnight rate at 1.75% for the tenth consecutive time. Today’s decision was widely expected as members of the Governing Council have signalled that the Bank still believes that the Canadian economy is resilient, despite the marked slowdown in growth in the fourth quarter of last year that has spilled into the early part of this year. The economy has underperformed the forecast in the October Monetary Policy Report (MPR).

In today’s MPR, the Bank estimates growth of only 0.3% in Q4 of 2019 and 1.3%in the first quarter of 2020. Exports fell late last year, and business investment appears to have weakened after a strong Q3, reflecting a decline in business confidence. Job creation has slowed, and indicators of consumer confidence and spending have been much softer than expected. The one bright light has been residential investment, which was robust through most of 2019, moderating to a still-solid pace in the fourth quarter only because of a dearth of newly listed properties for sale.

The central bank’s press release stated that “Some of the slowdown in growth in late 2019 was related to temporary factors that include strikes, poor weather, and inventory adjustments. The weaker data could also signal that global economic conditions have been affecting Canada’s economy to a greater extent than was predicted. Moreover, during the past year, Canadians have been saving a larger share of their incomes, which could signal increased consumer caution which could dampen consumer spending but help to alleviate financial vulnerabilities at the same time.”

The January MPR states that over the projection horizon (2020 and 2021), “business investment and exports are anticipated to improve as oil transportation capacity expands, and the impact of trade policy headwinds on global growth diminishes. Household spending is projected to strengthen, driven by solid growth of both the population and household disposable income.” Growth is expected to be 1.6% in 2019 and 2020 and is anticipated to strengthen to 2.0% in 2021.

Inflation has remained at roughly the Bank’s target of 2%, and is expected to continue at that pace.

Also from the MPR: “The level of housing activity remains solid across most of Canada, although recent indicators suggest that residential investment growth has slowed from its previously strong pace. Demand remains robust in Quebec, where the labour market has been strong. In Ontario and British Columbia, population growth is boosting housing demand. In contrast, Alberta’s housing market continues to adjust to challenges in the oil and gas sector. Nationally, house prices have continued to increase and should strengthen slightly in the near term, consistent with the responses to the Bank’s recent Canadian Survey of Consumer Expectations.”

Bottom Line: The Canadian dollar sold off on the release of this statement and I believe there is a downside risk to the Bank of Canada forecast. Today’s release is a more dovish statement than last month, showing less confidence in the outlook. The Governing Council did express concern that the recent weakness in growth could be more persistent than their current forecast, saying that “the Bank will be paying particular attention to developments in consumer spending, the housing market, and business investment.” They also raised estimates of slack in the economy and dropped language about the current rate being appropriate.

According to Bloomberg News, today’s Governing Council comments “are a departure from recent communications in which officials sought to accentuate the positives of an economy that had been running near capacity and was deemed resilient in the face of global uncertainty. While Wednesday’s decision still leaves the Bank of Canada with the highest policy rate among major advanced economies, markets may interpret the statement as an attempt to, at the very least, open the door for a future move.”

The Bank of Canada held the target overnight rate at steady at 1.75% for the seventh consecutive decision date but will monitor closely the impact of the US-China trade war on economic activity around the world and in Canada. The second-quarter growth–posted at 3.7%–exceeded the Bank’s forecast in the July Monetary Policy Report (MPR), but the Bank expects the economy to slow from that pace in the second half of the year.

Q2 was boosted by stronger energy production and robust export growth, both recovering from a weak Q1 performance. But evidence suggests that export growth slowed in July and could weaken further as the global economy slows. Canada bears the brunt of Chinese trade restrictions on Canadian agricultural imports. Housing activity also boosted the expansion in the second quarter as resales and housing starts picked up. Falling longer-term interest rates have driven down mortgage rates. The Bank asserted that “this could add to already-high household debt levels, although mortgage underwriting rules should help to contain the buildup of vulnerabilities.”

Wages picked up further last quarter, boosting labour income, yet consumption spending was unexpectedly soft. Canadian consumer confidence recorded its most significant monthly drop this year in August amid growing concerns about the global economic outlook. The setback reflects waning optimism about Canada’s economy and effectively reverses the pick-up in sentiment earlier this summer.

The deterioration in confidence coincides with the escalation of the U.S.-China trade war. Many Canadians increasingly worried they’ll soon feel a bigger impact. Consumers aren’t the only ones feeling the uncertainty as business investment weakened sharply in the second quarter. Trade tensions have hit farmers and manufacturers hardest. The U.S. implemented additional tariffs on China September 1 and have slated more on December 15. These include duties on clothing and electronics, will pinch US consumers where it hurts, in the pocketbooks. These moves will sideswipe Canada.

Despite all of this gloom, the central bank held off from signalling explicitly any immediate need to cut interest rates. While growth has been stronger than expected, inflation has remained on target.

“In sum, Canada’s economy is operating close to potential and inflation is on target. However, escalating trade conflicts and related uncertainty are taking a toll on the global and Canadian economies,” the central bank said in its statement. “In this context, the current degree of monetary policy stimulus remains appropriate.”

Market Interest Rates Are Tumbling

The Bank prefers to wait for more concrete evidence that the economy is in need of additional stimulus. Despite this, market interest rates have fallen to record lows in Canada and elsewhere and the yield curve is inverted. Government of Canada 5-year yields have slid from 1.85% to 1.15% this year, an incredible 38% decline. Ten-year returns are down from 1.92% to 1.13% (lower than the 5-year yield), and the 30-year bond yield has plunged from 2.13% to 1.40%.

Short-term interest rates are higher than longer-term yields. The overnight rate, controlled by the Bank of Canada, is 1.75%–well above all of these long-term yields. The 3-month bill rate is at 1.62%, almost 50 basis points higher than the 5-year yield.

The posted mortgage rate is the qualifying rate for mortgage borrowers. It has barely moved this year, down only 15 basis points to 5.19%. Its stickiness at elevated levels has prevented many borrowers from taking advantage of today’s low contract mortgage rates.

Mortgage Rates Have Fallen Even More Than Bond Yields

According to Rate Spy, the best high-ratio 5-year fixed mortgage rate is at 2.25%, down 94 basis points from the 3.24% rate posted at the beginning of the year. Conventional high-ratio 5-year fixed mortgage rates are down 95 bps and refinance 5-year fixed rates have fallen 118 bps. Much of this phenomenon might be lenders playing catch-up as they were slow to cut fixed rates when interest rates began to fall at the end of last year.