The Next Age of Uncertainty: How the World Can Adapt to a Riskier FutureThe state of the housing market is a perpetual preoccupation for Canadians. Home prices have been rising faster than inflation for decades, but prices have really accelerated during the COVID-19 pandemic, putting even more pressure on housing affordability.
It is noteworthy that rapid housing price inflation is not unique to Canada. There are at least two important drivers of housing prices common to all countries that have been getting less attention than they deserve. To shorten their commute, people have always been willing to pay more to live closer to the centre of a city. Therefore, as a city grows outward, the prices of existing homes closer to the centre go up.
The present value of that future income stream is higher the lower the rate of interest. Therefore, the price one is willing to pay to own that home today instead of renting it increases when interest rates fall. This asset valuation effect is the same as the one that boosts the stock market, as shares also deliver a stream of earnings long into the future.
The net effect of these two contrary forces is difficult to forecast, but if the outcome was a decline in prices, this would certainly not constitute proof that we are in a housing bubble today. In a bubble, prices rise – and later fall – for purely speculative reasons, not because of changes in fundamental price drivers.
Canada’s immigration plans suggest a future price correction could follow the same pattern. Even if an unexpected drop in housing prices causes long-term homeowners to feel less wealthy and to rein in their household spending, the associated slowdown in the economy would be temporary.Darryl Dyck/The Canadian Press
This complex cocktail of unusual forces contains the potential for unpredictable bouts of economic and financial volatility in the years ahead. Past interactions between technological waves, growing income inequality and rising indebtedness have led to depressions or stressful jobless recoveries . Employment and income volatility, combined with more variability in interest rates, will spill over into the housing market. Home buying and selling activity and housing prices will also become more variable, both up and down. Our biggest financial decisions will become riskier, whether they are made at the kitchen table or at the boardroom table. I call it the next age of uncertainty.
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