Two well-known economists suggest the angst about Canadian consumer debt is overdone.
And, one says in a new report, Canadians need not fear a U.S.-style real estate meltdown.
The comments by deputy chief economist Benjamin Tal of Canadian Imperial Bank of Commerce and chief economist David Rosenberg of Gluskin Sheff + Associates come amid repeated warnings for the Bank of Canada that consumers must get a handle on their record debt burden as the country heads toward an inevitable increase in interest rates.
The central bank went so far last week as to warn that it could raise rates if they don’t, though that appears unlikely at this point.
The key debt-to-income measure has been particularly worrisome, in that it has now surpassed the level at which the United States hurtled into the real estate crash.
But, Mr. Tal said Tuesday, less attention should be paid to the level, and more to the speed at which it has been rising. Several countries have had higher ratios with a meltdown, he suggested, adding that in the last three years that measure has climbed at half the speed than that of the pre-crash era in the United States, making it appear less threatening.
He also stressed that the quality of mortgages in Canada, as determined in large part by the credit scores of borrowers, is much better.
One-third of U.S. mortgages taken out in the U.S. in 2005 and 2006 were in negative equity positions before house prices dropped, and at least half of the mortgages had less than 5 per cent equity, making them extremely vulnerable to even a small drop in prices. In Canada, only 15 to 20 per cent of new mortgages have less than 15 per cent equity, and the negative equity position is nil, he said.
In addition, Canadian borrowers have begun reducing their exposure to rising interest rates by choosing fixed-rate mortgages over variable. The opposite occurred in the U.S., where adjustable rate mortgages remained popular until the bitter end.
Mr. Rosenberg also talked down the issue, having heard “all of the horror stories” of late. Among his points: Disposable income in Canada is “distorted” against that in the U.S. because Canadians pay for health care from taxes, household debt relative to assets is below peak levels, Canadians have more equity in their houses, wage growth in Canada is double that of the U.S., and debt-servicing abilities are “hardly being impaired.”
Mr. Tal does believe house prices in Canada will probably fall over the next two years, but there are factors to lessen the blow, leading to a soft landing. That’s what policy makers are hoping for.
Those factors include a lower degree of speculation in the Canadian market, and higher quality mortgages.
His report also poked holes in some of the reasons that policy makers and bankers in Canada often cite for keeping the Canadian housing market on a solid footing. For instance, bankers will regularly point to the extremely low mortgage delinquency rate here.
“But as the U.S. experience teaches us, this sea of tranquillity can turn into a violent storm overnight,” Mr. Tal said. “In a short eighteen-month period in 2007-08, the serious mortgage arrears rate in the U.S. surged by more than 300 per cent.”
Canadians also draw false comfort from the idea that lenders in all provinces but Alberta have recourse on mortgages, meaning they can go after a borrowers’ other assets to pay off a mortgage. The reality is that only 12 U.S. states are non-recourse, Mr. Tal said. And there actually appears to be no significant difference in housing market performance between recourse and non-recourse states.
But there are plenty of other factors that should help Canadians sleep a little bit better at night, the report suggested.
“When it comes to jitters regarding a U.S.-type meltdown here at home, the only thing we have to fear is fear itself,” it said.
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