Expect Mortgage Liquidity from Central Banking in the Near Future

Last week, in an act that’s designed to add to its assets and potentially give a nudge to the housing market, the Bank of Canada (BoC) set a plan in motion to purchased government back mortgage bonds. The fact is, it’s usually a bad omen when mortgage liquidity concerns are addressed by government institutions. What’s an even larger cause for concern is this being the 2nd mortgage liquidity strategy presented this year after the Office of the Superintendent of Financial Institutions (OSFI) was examining a possible expansion of the covered bond programs in earlier 2018. Covered bonds are another means to offer low-cost funding for mortgages.

It’s a move that seems beneficial on the surface—but once you dig deeper, you’ll realize the similarities between this maneuver and the one created by the US Federal Reserve a decade ago.

The Basics of Central Bank Balance Sheets

Consisting of assets and liabilities, the BoC balance sheet doesn’t deviate from any other. The central bank credits the account of the seller when they buy assets. Usually, it does so with money that didn’t previously exist and is a calculated move for inflation and is known as a “print”.

Also, anything purchased by the central bank, usually Government bonds, is an asset. While liabilities, similar to the deposits in your bank account, are anything the BoC gives out.  

Prints are commonly required to boost the money supply which is why the central bank acquires assets. It’s craftily utilized to maintain the targeted inflation of interest rates. In an effort to offer liquidity in the market and find the requisite assets, the BoC will stretch its mandate or types of assets they’ll acquire.

Central banks buy assets to increase the money supply, since a print is usually required. This is strategic, used with interest rates, to maintain inflation at target. Sometimes a central bank can’t find enough assets to buy or needs to provide market liquidity. In this event, they’ll expand their mandate or the types of assets they intend to acquire. The BoC is basically announcing both.

For all intents and purposes, the BoC is announcing both.

An Explanation of Canada Mortgage Bonds

A method for lenders to access inexpensive money for mortgages, Canada Mortgage Bonds (CMBs) see investors provide cash for Federal government-backed CMHC guaranteed loans. Given the nature and firm standing of both the CMHC and Canadian Government, these investments are labelled secure.

These kinds of investments aren’t known to pay much. This is mutually beneficial since low-cost funding historically generates more profits for lenders and less interest owed by borrowers.

Is this a Huge Positive or a Bone-chilling Negative?

The higher amount of liquidity could neutralize rates that are rising too fast, which has the possibility of acting as a catalyst to lower funding costs and in turn be passed down to borrowers. Those circumstances are definitely positive.

Conversely, it’s well known that the BoC only gives mortgage liquidity when faced with liquidity concerns, presenting a sign of market weakness. Having plummeted to multi-year lows, mortgage credit growth is most likely to sink even more as “neutral” policy rates are hiked.

It’s hard to say whether this is a good or bad thing, but constant government intervention should act as a cause for concern.