This year has been revelatory for Canadian housing markets. After years of rapid home-price growth emanating from key metro areas—notably Toronto and Vancouver—average prices have either dropped or stabilized, revealing important lessons including a reminder that house prices are determined in large part by fundamentals such as population growth, income growth and—crucially—interest rates.

According to recent research published by the Fraser Institute, the average interest rates at which Canadians borrow for mortgage loans fell from approximately seven per cent in 2000 to under three per cent in 2016—almost a two-thirds drop. As a result, Canadian homebuyers found themselves able to qualify for far larger mortgages.

For example, the same monthly mortgage payment that would qualify a family for a $200,000 loan based on prevailing interest rates in 2000 would qualify them for more than $300,000 based on rates in 2016—a significant jump.

In addition to this important shift in mortgage borrowing power attributable to rate changes, incomes have grown. Over the same period (2000-2016), average real family incomes grew by 18.5 per cent nationwide. As such, the 50 per cent increase in borrowing power described above was amplified by the ability to shoulder greater monthly payments, significantly increasing the bids homebuyers (across all income groups) were able to bring to real estate transactions.

Faced with this additional mortgage “firepower” many housing markets saw significant price increases, especially markets where homebuilding was unable to keep up with growing demand. For example, sale prices in Greater Vancouver at the end of 2016 were almost 85 per cent higher than a decade prior. Price growth was even higher in the Greater Toronto Area, rising by almost 110 per cent over the same period. Canada-wide, the increase was approximately 68 per cent.

Despite the undeniable role of interest rates and income growth, there were no shortage of opinions attempting to explain why the cost of buying a home had grown beyond the reach of many families in select markets, particularly Vancouver and Toronto. Chief among them was (and remains) the argument that foreigners are flooding Canadian real estate with capital.

Of course, Vancouver and Toronto are (and always have been) important ports of entry for newcomers, making a certain degree of foreign ownership a natural feature in these markets. However, faced with mounting public and political pressure on this front, the governments of B.C. and Ontario introduced taxes on foreign buyers.

Statistics Canada also began tracking non-resident home ownership, publishing its data late last year. The data showed that non-residents represented 3.4 per cent of all residential properties in the Greater Toronto Area, and 4.8 per in Metro Vancouver, and approximately the same share of residential property value (rather than a disproportionate share). Regardless of the role this niche plays in influencing home prices, there are clearly greater forces at play in Canada’s most expensive cities.

Indeed, a recent report by the Canada Housing and Mortgage Corporation (CMHC) cited “conventional economic factors” such as income growth, population growth and falling interest rates as major (if not primary) drivers of housing demand in these two metro areas.

Which brings us back to our reflection on this past year. Starting on January 1, 2018, Ottawa required all federally-regulated financial institutions to ensure mortgage borrowers qualified at prevailing interest rates, plus two percentage points—the so-called “stress test.” As outlined above, such changes (an effective interest rate increase) can have a significant impact on mortgage borrowing power, in turn reducing both the number of would-be buyers and the size of the mortgages they qualify for—leading to a reduction in overall demand. Indeed, price growth has now slowed or even reversed.

Clearly, as we’ve seen in 2018, it’s unwise to focus on any single element of housing demand when trying to explain rapid price growth. Rather, it helps to remember the fundamentals, which include population growth, income growth, housing supply and—of course—interest rates.