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household finances

Every dollar borrowed in this country is an argument in favour of higher interest rates.

There's a little insight for you into the mindset of the Bank of Canada right now. The central bank has seen Canadians increase their borrowing to levels last seen in the United States before the last recession, and it's keen to do something about it. Higher rates are an obvious answer, but now really isn't the time for that. Not with the global economy still so fragile.

And yet, the time may be coming when high personal debt levels are a greater threat to the economy than higher interest rates. We know this as a result of a report from Statistics Canada that the household debt-to-income ratio reached 163.4 per cent in the second quarter. That's a staggeringly high number and it results from two factors, one of them a revision by Statistics Canada in the way it presents certain key financial indicators (the 2011 ratio was 150.6 per cent) The other factor is the ever increasing growth in borrowing by individuals.

It's not widely known, but the pace of borrowing growth has cooled considerably in the past year or so. Even so, people are still packing on new debt at a faster rate than their incomes are rising. That's why our debt-to-income ratio has expanded to planetary proportions and thus become a preoccupation of the Bank of Canada.

In prepared remarks for a speech this week, Bank of Canada governor Mark Carney said that he would be quite clear about his intentions if he raised interest rates to quell borrowing growth. You might say that Mr. Carney has already been crystal clear: Debt is a problem and rising rates are a fix he could conceivably use.

Unfortunately, rising rates are a blunt instrument. They'll deter some people from taking on new debts while at the same time hammering those who have already borrowed extensively. A rise in the Bank of Canada's trendsetting bank rate will result in a corresponding increase in costs for variable-rate mortgages, loans and lines of credit. If financial markets perceive a rising trend in rates, fixed mortgage rates will follow along.

Borrowing growth has already slowed. Now, it needs to slow some more to keep the Bank of Canada from raising rates ahead of the schedule dictated by the economy. Here are three ways to make it happen:

1.) Take your time as a home buyer: Recent declines in home sales show there is no longer a need to rush into the market before it gets even more expensive.

2.) Reel in that line of credit: Declare a one-year moratorium on new borrowing and devote your energy to paying your balance down (not just making the minimum monthly interest payment).

3.) Ramp up your savings: Regular automatic contributions to a tax-free savings account or registered retirement savings plan will leave you with less money for loan payments.

The reason why borrowing has taken off in formerly debt-shy Canada is historically low interest rates. The more we borrow from here on in, the quicker those low rates could disappear.

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