Canada is seeing weak home sales, slowing population growth, and economic uncertainty. It’s the perfect recipe for… higher rental prices? A new report shows that rental prices made a sharp jump in March, amplifying already accelerated growth in small cities and traditionally cheaper purpose-built rentals. It’s a little weird to see Toronto and Halifax rental prices now within spitting distance of each other, but it resembles a concept called bubble contagion that impacted home prices a few years ago. Poor policy decisions didn’t just prevent the contagion from fully correcting, but extended the market inefficiencies to rental prices.
Canadian Rental Prices Resume Climbing, Affordable Options Narrow
Canadian rental prices weren’t stagnating, they were just on a winter vacation. A new report from rentals.ca shows the average asking price for an apartment rental climbed 1.5% in March to $2,119 per month. It was the first increase in six months, but enough to reverse the prior 4-months of affordability improvements.
One of the most critical issues in the data is the narrowing between private and purpose-built rents. Since 2020, the average monthly rents climbed 17.8% (+$322) to $2,119 in March. Purpose-built rentals, traditionally much more affordable, climbed 35.5% (+$547) to $2,086 over the same period.
The gap between the two is now almost insignificant. Back in 2020, it cost roughly 16.8% (+$258) more to rent a condo apartment than a purpose-built rental unit. The latter rose so aggressively since then, that a condo apartment is only 1.6% ($33) more expensive than a purpose-built rental. Despite economies of scale producing lower operating costs for purpose-built apartments, those savings are no longer being passed to end-users.
This makes sense to any business, finance, or real estate professional. After market prices disconnect from input costs, lowering input costs increases profits. The market price is still the market price, and input costs are still disconnected.
To be blunt, policymakers’ recent efforts to incentivize institutional investment in purpose-built rentals doesn’t make sense if the goal is improved affordability. It contributes to rental affordability as much as your morning Starbucks run does. However, they nailed it if the goal was more profits for institutional investors.
But wait, there’s more!
Canada’s Big Cities See Rent Stagnate, Small Cities Surge & Close Gap
The Great Rental Price Flattening has also occurred when it comes to location. Smaller cities have seen a sharp increase in the cost of rents, while the country’s largest cities continued to move lower. The Big Three are all going through an unusually long losing streak.
Toronto’s average asking rent fell to $2,590 in March, down 6.9% compared to last year. That marks a 32-month low for prices, after 14 consecutive months of declines.
Vancouver did slightly worse than Toronto, despite home sales being generally more resilient. Rents came in at $2,822 in March, down 5.7% from last year. It was the 16th month of price declines, and marked a 35-month low.
Similar trends were also observed in Montreal, and Calgary. Montreal fell to $1,968 in March, down 4% from last year following 8 consecutive months of declines. Calgary fell 7.8% to $1,915 over the same period, hitting a two-year low and earning the biggest drop across Canada.
While major cities have seen a pullback, small city rents have seen astronomical gains. Contrasting that with Halifax emphasizes the distortion in the rest of the country. Back in 2020, a 1-bedroom in Toronto cost 74% more than one in Halifax. As of last month, prices in Halifax climbed so aggressively that Toronto’s average 1-bedroom is just 15% more expensive.
Not from Canada and wondering where Halifax is? If you were in Toronto, you would walk 500 miles and then walk 500 more, just to be the man who walked 1,000 miles to fall down at a door still roughly 200 miles away from Halifax. It’s a lovely place, but at less than 10% of Toronto’s GDP it’s a little more than just 5 years behind.
The Canadian Real Estate Bubble Contagion Spread To Rents
Starting to think there’s no refuge when it comes to a more affordable life in Canada? You’re onto something. Despite significantly lower operating costs, purpose-built rental prices are now similar to private apartments. Rents are rising in small cities and stagnating in big ones, narrowing the gap between major and minor economic regions. It’s starting to feel like the cost of living only has minor degrees of variation from Victoria to Halifax, despite very different lifestyles, no?
The issue resembles what experts refer to as bubble contagion. This is when a bubble becomes so large that it spreads like wildfire. Affordable regions see prices surge while expensive regions stagnate as they run out of deep-pocketed households.
We discussed this back in 2022 when home prices in distant suburbs rose much faster than the cities they surrounded. Buyers dismissed any value derived from the proximity to amenities, and scrambled to buy whatever they could. They maxed out the excessively cheap credit and leverage that persisted just a little too long. The Bank of Canada (BoC) warned these regions are vulnerable to the sharpest corrections. The BIS, a central bank for central banks which was led by the BoC governor at the time, warned that central banks inflated home prices with excessively cheap credit. Whoops.
The trend usually only extends to real estate prices but we’re in a unique situation. Real estate bubbles are a function of inefficient and excessive credit use, and when that corrects, the market does too. It is expected that policymakers will try to extend credit further to save home prices, even though the BoC recently warned they should stop doing exactly that.
What’s not expected is extending the credit bubble to institutions to build rentals. Policymakers aren’t just pumping tens of billions into home buying stimulus, they’re deploying hundreds of billions to backstop purpose-built rental projects. In addition to increasing building costs by inducing non-market demand, this reinforces inefficient rents. Kind of like preventing a home price correction, they’re trying to halt a rental price correction to prevent a reduction of institutional income flows.
Imagine watching very profitable institutions push rents aggressively for years. They hit a wall and suddenly have trouble squeezing higher rents out of consumers, so they have to reduce profits slightly. Any cash flow is usually better than no cash flow, especially when bond payments are due. Finally renters are about to catch a break on their payments!
But hold on. A guy in a suit shows up and says he’s from the Government and he is here to help. He reaches into your wallet, gives half your cash to the institution, and tells them there’s plenty more where that came from—no need to negotiate. After eliminating your negotiating power with the money you pay in taxes, he goes outside and tells everyone he just improved your housing affordability.
In reality, further market inefficiencies were introduced to protect investor revenues. Not mom and pop landlords, but massive institutions run by people who say supervillain-like things and not realize it.
The good news is this can’t be extended forever. The risk eventually builds up and blows, with the fallout largely dependent on how much voters are willing to gamble. The bad news is, we underestimate just how predatory policymakers can be, and while it doesn’t last forever the distortions can hurt a generation for its whole lifetime.
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