Inflation Is Slowing in Canada. What’s Next for Mortgage Rates?

With inflation and the housing market dominating economic headlines, it’s important to understand how they go hand-in-hand. When the rate of inflation is too high, the Bank of Canada takes action by raising the key interest rate. As a result, borrowing money becomes more expensive—and interest rates on things like car loans, credit cards, and mortgages go up. This does usually have the effect of driving inflation down, but it can also impact different markets, industries, and even the entire economy.

Right now, the BoC is hoping to direct Canada to a “soft landing,” in which inflation and growth slow, but the economy as a whole avoids a recession. Recent data supports that we’re headed in that direction—but industries like tech, finance, and especially the housing market have felt the force of higher interest rates. 

Here are the details.

Inflation is at a 27-month low.

Last month, the national inflation rate dropped more than expected. It’s now hovering around 2.7%, which is lower than analysts' previous predictions of 3.0 to 3.4% (Ismail Shakil and Steve Scherer). This drop is welcome news, especially with home prices remaining stubbornly high around the housing shortage. However, the inflation rate is still above the target rate of 2%, and the core inflation rate has been hard for the Bank of Canada to affect. 

What’s core inflation? When the prices of everything started rising, did it seem like the prices of groceries and utility bills jumped the most? If you said yes, you’re right—and it wasn’t your imagination. That’s because historically, the prices of food and energy are volatile, meaning that they are sensitive to changes in the global economy, environment, and more, and they can rise or fall dramatically in a short amount of time. Core inflation measures the price inflation of goods and services excluding these items because of their volatility. That way, the national inflation rate won’t be skewed dramatically by an outlier, and we can get a more accurate picture of inflation overall.

What does that mean for the housing market and mortgage rates?

Analysts believe the likelihood of further BoC rate hikes is dropping.

According to Reuters, the likelihood of another rate hike this year from the Bank of Canada has dropped from 25% to 20%. The next announcement from the BoC will come on September 6th, so whether or not rates rise again will depend on what inflation does between now and then.

What’s next for mortgage rates?

The Bank of Canada’s goal with raising rates is to put downward pressure on inflation. With this in mind, there’s a chance that the rate will rise one more time this year—but even if it doesn’t, that won’t necessarily equate to a drop or even a freeze in mortgage rates.

Why? There are two types of mortgages in Canada: fixed-rate mortgages and variable-rate mortgages. The Bank of Canada’s target interest rate has the most effect on variable-rate mortgages—but if you have your eye on a fixed-rate mortgage, you still shouldn’t expect a drop just yet. The foundation of the 5-year fixed-rate mortgage forecast is the five-year Government of Canada bond, and bond rates are rising.

Additionally, most Canadians must pay what’s called a “risk premium” on these types of loans. What’s a risk premium? It’s the gap between what banks charge the government to borrow money and what they charge the average person. The difference is about 1.5 to 2.0%. Why? Because while mortgage loans are considered low-risk, a loan to the government is considered riskless. What you’re paying for is the higher amount of risk you present to banks compared to other customers—which is in this case, the federal government (Mortgage Sandbox).

Instead of waiting for mortgage rates to decrease to buy or sell your home, it can often be a better choice to make moves now and refinance later when rates drop. Here’s why:

1. Real estate values always appreciate in the long run. So even if values rise and fall in the short term, you’ll face higher prices down the road if you wait.

2. If you move now, you’ll start building equity. When you do that, you benefit from rising home values instead of struggling with prices that feel unattainable.