A feature article in this week’s Focus digest from BMO highlights the many risks involved in the prolonged period of low borrowing costs. This past week, the Bank of Canada decided to leave rates on hold for the 9th consecutive meeting and 13th straight month.
Here are the first 2 risks of 6 outlined in the report:
1) It encourages households to take on potentially excessive debt: While an extended period of low interest rates can give the illusion that a hefty debt load is manageable, even a small rise in rates can cause problems for many borrowers. Of course, this is a fact the Bank itself has oft mentioned, stressing that borrowers should not be lulled into a false sense of security that low rates are permanent, thus heightening the shock when rates inevitably rise.
However, actions speak much louder than words for the Bank—it doesn’t really matter how much the Bank scolds Canadians if it continues to offer the heavy-duty lure of near-record low borrowing costs. Household debt has risen almost non-stop over at least the past 20 years and to a record share of personal disposable income. Indeed, the Bank’s concern about household debt is likely one key reason near-term rate cuts are unlikely.
2) It risks inflating a housing bubble: Average home prices have more than doubled in the past ten years, and are up more than 20% in the past three years alone, both far above personal income growth. While affordability remains reasonable, the long stretch of solid gains could set the stage for more speculative activity.
You can read the rest of the report here