If George Orwell had written a dystopian novel about Canada's housing market, it might have been called 1981.
That was the year mortgage rates reached levels that now seem like a plot of some oppressive force designed to terrify the population into submission. For several months, both one- and five-year fixed-rate mortgages were in the high teens and even, for a while, above 20 per cent.
The point of this heritage moment in personal finance is to provide some context for the cost of carrying a mortgage in today's housing market. It was much worse back then if you use inflation-adjusted data. That simply means making 1981 dollars directly comparable to 2015 dollars, an easy trick using the Bank of Canada's online inflation calculator.
No gloating about your greater suffering, baby boomers. You got hammered in the short term, but made out brilliantly in the housing market over subsequent decades. Today's young buyers may just be looking at a short-term benefit in the form of low interest rates and longer-term obstacles posed by rising rates and the dampening effect they'll have on prices.
Expressed in 2015 dollars, the national average price of a resale home back in 1981 was $198,094. If you took out a one-year mortgage back then at mid-year (that would have been the smart thing to do with interest rates so high), your rate would have been 19.75 per cent. With a down payment of 10 per cent, your monthly payments would have been $2,914.
Today's equivalent would be $1,880 per month. That's based on the average national price of $450,886 in May and a five-year fixed-rate mortgage rate of 2.59 per cent (with mortgage rates at rock-bottom levels, a five-year mortgage term makes more sense right now). The lesson here for home buyers is clear: Changes in interest rates have much more of an impact on affordability than changes in price.
The comparison of 1981 and 2015 numbers show some things never change in Canada's real estate market. Vancouver's the most expensive market in both years, by a large margin. The inflation-adjusted cost of carrying a mortgage on the average-priced home in 1981 was an incredible $5,707, compared with a 2015 cost of $3,777. Vancouver was much more expensive than second-ranked Calgary in 1981, and it's pricier by a wide margin than the second-ranked market in 2015, which is Toronto.
If you subscribe to my twice-weekly Personal Finance Reader newsletter (e-mail me if you don't and I'll get you signed up), you'll have seen some links to blog posts and articles about the frustration young adults are feeling about being able to afford a house in Vancouver. Now, there's some historical context for these complaints. This city has had bouts of even worse affordability.
The high interest rates of the early 1980s must have felt unbearable for all Canadians buying homes and arranging mortgages (it was heaven for savers, but never mind). The reward for perseverance was a 30-year run in which resale house prices on a national basis surged by an average annual 5 per cent and were up in 28 of 34 years.
This rally was fed by falling interest rates. After the visit to high-rate hell in the early 1980s, home owners benefited from a long decline in rates that continued into 2015. House prices haven't gone up because homes are a great investment, because of immigration, because of foreign money or because home ownership is awesome. It's because we've had a 30-year sale on the cost of financing a home purchase, with ever-increasing deep discounts.
That sale may be ending. There's a growing sense that the U.S. economy is on the upswing, and interest rates in the bond market have already started to creep higher. Mortgage rates take their cue from rates in the bond market, so we could see lenders increase fixed-rate mortgage costs at some point this year or next.
No one expects dramatic increases in mortgage rates, so a 1981 redux is out of the question. But if mortgage rates grind higher over a period of years, today's house prices are going to be increasingly difficult to afford for both first-time and move-up buyers.
So let's give the home owners of 1981 their due – they lived through tougher affordability problems than we have today. But they at least had a bright future ahead. For today's buyers, the short-term gain of low interest rates may give way to long-term pain.
Who had it worse in the housing market?
Interest rates were sky high in 1981, but prices were low. Today, rates are ultra cheap, but prices are high. Here's data that shows 1981 buyers had it worse on an inflation-adjusted basis.
~A posted rate was used for 1981 because discounting was far less common; the rate for 2015 reflects a healthy discount
~Mortgage payments include the cost of mortgage default insurance
Source: Canadian Real Estate Association; Bank of Canada, superbrokers.ca