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The Bank of Canada’s move to hike its benchmark rate by 25 basis points last week appeared to quell the prospect of rate cuts by the end of the year – and with a slew of mortgages coming up for renewal in the next two years, could the prospect of persistently high rates spell trouble for the market’s stability?

The central bank’s aggressive war on inflation has seen its trendsetting interest rate surge by 450 basis points since March 2022, and deputy governor Paul Beaudry indicated in a speech last week that there was a clear possibility rates could remain elevated for a prolonged period.

“A lot of uncertainty remains. But it’s possible long-term interest rates will be higher in the coming years than what Canadians are used to,” the Bank official told an audience at Greater Victoria’s chamber of commerce.

How big is the risk of higher mortgage rates persisting by 2025?

The likelihood that rate cuts are being pushed further into the future is significant, according to CIBC deputy chief economist Benjamin Tal, because it means rates will probably still be high when a glut of mortgages originated at the height of the COVID-19 pandemic – when rates were at a record low – come up for renewal.

That could mean a big payment spike for scores of Canadian borrowers, he suggested. “Now it seems [the Bank is] not going to cut until the second half of 2024. That’s a year from now, which we look at as another year for elevated rates,” Tal told Canadian Mortgage Professional.

“Why is it important? Because it’s getting closer and closer and closer to 2025. And we all know what’s happening in 2025: that’s when we are going to see the big reset of all the people that took mortgages at extremely low rates during COVID.”

In some cases, borrowers could see an increase of up to 80% in their mortgage payments if rates don’t start falling, Tal said, a significant shock for most homeowners to absorb.

“So if you start cutting late, you are getting way too close to 2025, and that’s the risk that we are facing now,” he said. “That’s more or less where we are. We still believe that they will start cutting in the second half of 2024 and that they will cut enough to ease the pain, but clearly that’s a risk.”

“A looming cloud over the economy”

Beaudry said he hoped his warnings about the future rate trajectory would “help people be prepared in the eventuality that we have entered a new era of structurally higher interest rates.”

That could be necessary, he said, to help bring inflation back towards the central bank’s 2% target, with the consumer price index having unexpectedly ticked upwards in April for the first time since the summer of 2022.

After peaking at 8.1% last June, the inflation rate had steadily decreased in the ensuing months before increasing by 0.1% between March and April of this year.

Benjamin Reitzes, managing director of Canadian rates and macro strategist at BMO, told CMP that the Bank’s latest rate hike would increase the strain on many borrowers, although it remained consistent with its overall approach to bringing down inflation.

“What it does is it just puts a cloud, a headwind [on] the economy in 2025, a little bit in 2024,” he said. “It’s a looming cloud over the economy and if rates stay up here it’s going to be substantial for a lot of people.

“That in turn could drive enough of a slowdown, or maybe we get one in the meantime and that brings rates lower – but it’s something to keep in mind for sure.”

While the central bank is undoubtedly cognizant of that risk, Reitzes said its “singular mandate” was to keep inflation ticking down to its 2% target.

“If the impact of all these rate hikes is that much more delayed, if it takes until 2024/25, that’s too late for them,” he said. “They can’t have inflation sticking around 3.5% over the next couple of years. That’s much too high. That’s not something they’re willing to tolerate.”

Source: Canadian Mortgage Professional