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High interest rates are slowing homebuilding, but the worst is yet to come

Click to play video: 'Will the pause on the interest rate drive up Canadian housing prices?'
Will the pause on the interest rate drive up Canadian housing prices?
WATCH: Anne Gaviola reports on how the interest rate pause has impacted the market so far, and why experts don’t agree on what’s to come – Mar 9, 2023

Homebuilding in Canada is slowing down just as policymakers are trying to pick up the pace.

The rapid surge in interest rates over the last year is starting to throttle the pace of homebuilding, the Canada Mortgage and Housing Corp. (CMHC) warned in a new housing supply report Wednesday.

As the Bank of Canada’s interest rates rose substantially through 2022 and early 2023, many homebuyers were priced out of the market and home values retrenched from their pandemic-era highs.

CMHC said in its report that this has made developers “more cautious” about building new projects. At the same time, those higher interest rates are driving up costs for builders, the Crown corporation noted.

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Recent data on housing starts — new units initiated by builders — shows how this slowdown is progressing.

Data released Wednesday from CMHC alongside its housing supply report shows annualized starts were down 11.2 per cent month over month in March.

Across the first quarter of this year, total starts were at their lowest level since the early pandemic in 2020, according to BMO senior economist Robert Kavcic.

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“While some volatile weather likely impacted activity in recent months, it’s a good time to step back and look at the bigger, smoothed-out picture for Canadian residential construction. The short story is that activity is slowing meaningfully from very elevated levels,” he said in a note to clients Wednesday.

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While Canada’s housing market and home prices are showing signs of stabilizing after a correction tied to higher interest rates, CMHC says the slowdown in construction is nowhere near complete.

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Most projects that started in 2022 had financing in place based on the low interest rates at the start of the year, making new builds more affordable and therefore financially viable, CMHC said in its report.

While some major urban centres began to show signs of slowdowns in building late last year, CMHC projects the iciness in starts will continue to spread in 2023 as higher interest rates impact builders’ ability to secure financing.

“Some projects may become unviable at current financing rates, or construction financing will become harder to obtain,” the report read.

“The full impact of interest rate increases hasn’t yet been observed in our housing starts data.”

Kavcic pointed out that while the slowdown represents a normalizing of building pace compared with the pandemic highs, it’s coming as governments at all levels of the country are attempting to ramp up homebuilding in an effort to accommodate rising immigration levels and keep homes affordable for those struggling to enter the housing market.

The federal government, for instance, pitched a plan to double the current pace of homebuilding over the next 10 years in its 2022 budget.

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But Kavcic called this goal a “bit of a fantasy” in his note on Wednesday, arguing that Canada’s homebuilders are already running at “full capacity.”

“Make no mistake, we are still seeing a historically robust level of activity, but the downward turn is going to confound policymakers that have been pushing for a doubling of output,” he wrote.

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