The Economy

The Canadian economy slowed during the third quarter of 2007. Annualized growth in real gross domestic product (GDP) was 2.9 per cent, down from 3.8 per cent in the second quarter and 3.5 per cent in the first quarter. The strong Canadian dollar was a key factor that slowed GDP growth in the third quarter. The high dollar made imported goods less expensive, while making Canadian exports less competitive. As a result, net exports were a significant drag on the economy. Growth, however, is still much higher than the 1.5 per cent in the fourth quarter of 2006. Overall economic growth for 2007 is expected to be 2.6 per cent, with 2008 coming in at 2.4 per cent. The consumer side of the economy continues to grow, albeit at a slower pace. Personal expenditures were up an annualized 3.0 per cent during the third quarter of 2007, compared to 5.9 per cent in the second quarter and 3.4 per cent in the first. Despite the falloff, the consumer is still expected to bolster the economy into 2008. Interest rates still remain relatively low and should not put a significant drag on consumer spending. The continuing challenge for the

Canadian economy is the deterioration in net exports and manufacturing jobs, which have decreased by nearly 100,000 positions during 2007. A soft U.S. economy may mean further interest rate reductions for Canada’s largest trading partner, but it is unclear how aggressive the U.S. Fed will be in combating the lingering issues in the U.S. sub-prime housing market and whether further interest rate reductions will occur. Output of goods-producing industries fell by an annualized 0.35 per cent during the third quarter of 2007. The manufacturing segment fell by an annualized 2.8 per cent. Meanwhile, output of services-producing industries grew by an annualized 3.8 per cent during the third quarter. Wholesale trade, finance, construction, mining, accommodation and food services contributed to the increase. On the whole, it is anticipated that domestic demand will remain the engine of Canada’s economic expansion for 2008 and beyond. Consumer spending should stay vibrant thanks to high employment, income gains and low interest rates. On the downside, soft net exports and global insecurity pertaining to the subprime meltdown could be a larger issue for economic growth. It is expected that inflationary pressures will remain stable within the Canadian economy. Inflation was up 2.4 per cent in 2007. For 2008 inflation is forecast to be 2.3 per cent. Canada’s core inflation rate for 2007 increased just 1.7 per cent.

Mortgage Rates

Mortgage rates increased by about 100 basis points between the start and the end of 2007. The sub-prime mortgage loan crisis in the U.S. has continued to rock financial markets resulting in liquidity issues which have increased the costs of funding mortgages. Equity and financial markets have experienced additional

upheaval as many analysts and investors speculate on the possibility of the U.S. slipping into a recession. The ensuing flight to quality in financial markets has resulted in lower yields on government bonds, but has not had a large impact on posted mortgage rates.

The potential drag on Canadian GDP growth due to a potential U.S. economic slowdown, coupled with the tightening of Canadian credit conditions, and the high value of the

Canadian dollar will cause minor fluctuations in mortgage rates through 2008. Mortgage rates are expected to remain within 25-75 basis points of their current levels in 2008 and then stabilize throughout 2009. The one year posted mortgage rate is forecast to be in the 6.75-7.50 per cent range, while three and five year posted mortgage rates are forecast to be in the 7.00-7.75 per cent range in 2008.

Migration

Net migration (immigration minus emigration) was up by about 5.4 per cent to under 228,000 people during 2007. In 2008, net migration is expected to increase to approximately 235,000 migrants. These levels will continue to support Canada’s housing demand. For the most part, newly arrived immigrants initially settle in rental accommodations, and, over time, an increasing share will move into home ownership. Net inter-provincial migration to Alberta, British Columbia and Saskatchewan will continue to support demand for both rental and ownership housing in these provinces in 2008.

Employment and Income

For 2007, employment grew at a healthy pace of approximately 2.3 per cent. On a comparative basis, 2006 experienced 1.9 per cent growth with most of the new jobs created as full time positions. A record share of Canadians was employed during 2007, which helped the unemployment rate to move below 6 per cent some months.

The Canadian economy is at or near full employment. Accordingly, the pace of employment growth is expected to slow during 2008 to a pace that is more in line with that of the general population. Employment is forecast to grow by 1.5 per cent and the unemployment rate is likely to remain in the low 6 per cent range for 2008. While these are positive developments in Canada’s labour markets, current economic conditions do pose some risks. In particular, Canada’s manufacturing sector is presently experiencing some weakness due in large part to a strong Canadian dollar. Accordingly, this sector will have some uncertainty with respect to employment and income as 2008 progresses forward. Despite this caveat, Canada continues to experience tight labour market conditions, which has had led to strong growth in average weekly earnings, especially in western Canada. Overall, more moderate income and employment growth will limit the expected decline in demand for new and existing homes this year.

Source: CMHC First Quarter 2008

New home construction in 2007 and 2008 can be described as buoyant by historical standards. For 2007, housing starts in Canada were up 0.4 per cent to 228,343 units over 2006’s 227,395. Seven out of the ten provinces saw housing starts move higher in 2007. Saskatchewan led the way with a 61.7 per cent increase. Housing starts were also up in PEI, Manitoba, Quebec, New Brunswick, B.C., and Newfoundland and Labrador. However, for 2008 only Ontario, Newfoundland and Labrador and Manitoba are forecast to have increases in starts. Residential construction will begin to trend down in 2008 to 211,700 units, a 7.3 per cent decline from 2007. Despite the fall, 2008 will be the seventh consecutive year in which housing starts exceed the 200,000 unit threshold. For 2009, 204,700 units are forecast to be built. Continuing high employment levels and rising incomes will provide a solid foundation for strong housing markets. Despite this, several factors will cause construction activity to ease. Most, if not all, of the pent-up demand that built up during the 1990s has now been fulfilled and residential construction activity will gradually move in line with Canadian demographic fundamentals. In addition, higher mortgage carrying costs due to price growth will temper housing demand, particularly among first-time buyers who are more sensitive to the widening gap between the cost of renting and home ownership. Moreover, competition from the existing home market, particularly in the central and eastern provinces where housing markets are more balanced, will give homebuyers more choices. This, in turn, will dampen spillover demand from the existing market into the new home market. Lower demand for new homes is already being felt in the majority of central and eastern Canada. Accordingly, the demand for new homes has slowed in Ontario and Atlantic provinces, excluding Newfoundland and Labrador, which will translate into a decline in housing starts heading into 2008. Out west, housing starts in Saskatchewan and Manitoba experienced strong growth in 2007, while the increased cost of homes in Alberta and British Columbia had a dampening effect in those provinces. For 2008, only Manitoba will see an increase in starts, of about 1.1 per cent. The same holds true for 2009, with Manitoba at 1.7 per cent growth and the rest of Canada’s western provinces negative.

Single detached starts to trend lower in 2008

Single detached starts peaked at 129,171 units in 2004, their highest level since 1987. In 2007, single starts were notably lower at about 119,000 units. The strongest declines in single starts were in Alberta and British Columbia. Single detached construction activity is forecast to fall 10.6 per cent to about 106,300 units in 2008, and then an additional 4.9 per cent fall to 101,100 units in 2009. Starts of single-detached homes will rise in just two out of ten provinces across Canada in 2008; starts in Manitoba are forecast to grow by 3.7 per cent while in Newfoundland by 0.7 per cent. The largest decrease will be in Alberta, where single detached starts will fall by an estimated 17.3 per cent. Following Alberta is British Columbia’s decrease at 14.5 per cent. Heading into 2009, the downward trend will continue, with only Newfoundland and Manitoba pushing out gains of 2.3 and 2.5 per cent respectively. Multi-family starts will begin to slow in 2008 Starts of multiple family homes increased during 2007 by 3.2 per cent to 109,426 units. This segment is forecast to slow during 2008 and 2009 where growth will be negative both years at -3.7 and -1.7 per cent respectively (105,400 units for 2008 and 103,600 for 2009). The slower decline in multiple starts, when compared to single starts, reflects a continuing shift in demand toward less expensive homes. This is especially true in Western Canada, where rising house prices have pushed overall mortgage carrying costs higher. In fact, British Columbia and the Prairies, where growth in house prices has been the strongest, saw an increase in multi-family housing starts in 2007. Conversely, Ontario and the Atlantic region experienced a decrease in multi-family starts as growth in house prices moderated during 2007. Apartment starts, which account for two-thirds of total multi-family starts, moved up by 1.3 per cent in 2007. They are expected to decrease by 2.4 per cent for 2008 and then rebound by 1.1 per cent for 2009. Starts of row houses grew by 11.1 per cent during 2007 and are forecast to fall by 7.6 per cent in 2008 and 4.6 per cent for 2009. Starts of semi-detached houses grew by 0.5 per cent during 2007, but will fall by 3.9 per cent during 2008 and 11.2 per cent during 2009.

MLS®1 sales set to establish a new record for 2007

Existing home sales as measured by the Multiple Listing service (MLS®), are expected to increase during 2007 by 7.6 per cent to approximately 519,722 units, surpassing the previous record level of 483,344 set in 2005. In 2008, MLS® sales are expected to decrease by 3.9 per cent to 499,650 units reflecting moderating demand due to rising mortgage carrying costs. Despite this forecasted decline, MLS® sales in 2008 will be at their second highest level on record. During 2009, continuing moderation is expected with growth falling by 2.3 per cent to 488,300 units.

House price gains will remain strong in 2008

The average MLS® house price is expected to grow by 10.6 per cent for 2007, to about $306,000 as strong sales in Western Canada continue to put pressure on prices. In 2008, existing home markets will become more balanced and price pressures will begin to ease. The average MLS® price will increase by 5.2 per cent to about $322,000 in 2008. Looking ahead to 2009, the average MLS® price is forecast to increase by 3.8 per cent to approximately $335,000.

Source: CMHC First Quarter 2008