Why chop rates?

The owner of a $4,000-a-month for-lease condo in DT Toronto says renting is a short-term thing. “When rates fall this year,” he explains, “I’m selling. Who wants to be a landlord?”

Exactly. Tenants can stop paying and stay occupants with no way to crowbar them out, since tribunals are jammed. Meanwhile the LL has financing charges, property taxes and monthly fees to hand over. In this instance, those costs are almost three grand a month. It’s a mug’s game.

So selling makes sense. But not now. Sales are down, inventory has been rising and it’s a buyer’s market. Every realtor worth her Audi is telling clients that come the spring or summer things will be far different, for one key reason. Rates will fall.

As the American Fed hits the snooze button on its rate policy today a lot of people ask what the game plan is. Despite language from the CBs warning they could hike again if inflation rekindles, most economists (and stock markets, as mentioned yesterday) fully expect a rate drop of 1% or so in 2024.

But why would that happen? Some people wonder what the rationale for monetary loosening would be when the economy’s okay. Is it politically motivated? (The Trumpers see conspiracy everywhere, even with Swifties and the Super Bowl.) Is it just a policy mistake?

Well, it’s true. The economy – especially the American one – is swell. The GDP grew like a nice little weed through the second half of 2023. Inflation has been crushed from 9% to 3%. Unemployment is sub-4% and has been there for two years. Stock markets are at record highs. Retail sales and consumer spending are up. Corporate profits are forecast to plump. It’s that long-awaited and fabled soft landing, happening right before our eyes.

So why drop rates and risk reigniting inflation? Some of the self-flagellating macroeconomists in the comment section tell you daily this is but a prelude to a rate explosion in 2025, followed by economic collapse.

Are the central bankers that dumb? Will they lead us into a borrowing abyss?

Nah. Don’t think so. The cost of money needs to climb back down from the 23-year high where it now sits. The recent tightening cycle was aggressive, rapid and historic. It worked in carving the heart out of inflation, yet allowed wages to rise, the GDP to grow and hiring to continue. But if monetary policy doesn’t get cuddly, all that could fade fast.

High rates mean builders stop building

Let’s look at the housing ‘crisis’ and the construction of millions of new units that government say is necessary.

It’s not happening. Rates are the reason. Construction loans and builder financing are the most expensive they’ve been in decades – and this could affect supply and the future price of real estate.

This week there was grim news from the Canadian Home Builders’ Association, helping explain why housing starts have crashed in recent months. Confidence among builders of single-family homes has hit an all-time low. During 2023 almost two-thirds of builders reported a drop in activity due to high rates. Another 30% had to cancel projects (in Toronto alone this took over 10,000 planned new units off the market).

Buyers aren’t buying because the cost of home loans is too high. Builders are not putting up homes or starting new projects since financing costs are extreme and demand waning. High-profile mega-projects in Vancouver and Toronto have been shelved in the middle of construction, leading steamy piles of high-cost and unserviceable debt. In short, high rates have all but guaranteed this housing quagmire is about to get far worse.

There’s more.

Families finances whacked by borrowing costs

High rates are going to drain billions in cash flow from the roughly half of mortgaged families renewing their loans this year and next. Without a meaningful drop in the cost of that debt, this stands to reduce consumer spending, the GDP, corporate profits and equity markets.

Remember that chart of household debt published here a few days ago? Families owe $2.9 trillion, of which $2.157 trillion is in mortgages. HELOCs add another $158 billion with credit cards and car loans at $100 billion each. It’s an unfathomable amount of dough, and every quarter point in interest means a torrent of after-tax money flowing out the door. If this Hoovering is maintained, recession will follow.

Debt service charges gobble tax dollars

And more. Public finances. What a mess this has become.

Canada’s federal government alone owes more than $1.2 trillion (growing at $4.5 million per hour), and the cost of servicing that has become debilitating. Three years ago debt charges were $20 billion. This year they’re $46.5 billion. In four years they will be at least $60.7 billion – becoming one of the single most costly line items in Ottawa. Is this really what we want our tax money used for? How could a rate reduction not help?

Of course, there are other reasons rates should fall. Reducing the cost of billions in business borrowing will free up capital for expansion, hiring and innovation. Easing loan costs for farmers, wholesalers, truckers and retailers will make food more affordable. Dropping family debt costs will allow people to save more, help educate their kids and better finance their retirements. The ripples are endless.

Nobody, of course, is suggesting rates revert to pandemic-crazy levels. Mortgages at 1.5% are not coming back. Maybe ever.

But if we’re to avoid recession, stop blowing through tax money on debt payments, keep people working, feed the economy, build houses and give hope to the next gen, rates must drop.

And, lo, they will.

About the picture: “Hi Garth, Long time reader, first time sending you pics,” writes Jason. “Here is our 11 year old beast, Naslund, doing what she loves almost as much as eating things, dinghy rides on the BC coast. Keep up the great work, we appreciate the free advice and confirmation we are not crazy by saving and not buying RE we can’t afford!”

To be in touch or send a picure of your beast, email to ‘[email protected]’.