Some misconceptions about housing must be addressed.
With new federal measures coming into place to settle the market down, we're going to be talking ever more about real estate. To help start the conversation, let's look at four things people have wrong about housing.
1) We should nurture housing because it's the only thing going right in the economy
Sad but true: Housing is a rare bright spot in our economy. Oil prices are still slumping and exports have been a disappointment considering the low dollar. At one point earlier this year, housing contributed nearly one-third of the country's economic growth.
Intervention in the housing market is about preserving this sector's core strength. Cool the market now to avoid a bust later on that would be far worse for the economy. The U.S. economy was devastated by the housing crash of 2008 – we don't want even a milder version of that happening here.
Something else to consider is that if people aren't buying houses, they're freed up to invest and spend elsewhere. The allocation of household spending to housing is too high already.
2) First-time buyers are being persecuted
First-timers are expected to be hit hardest by new federal government rules affecting people with mortgages insured against default. Starting Oct. 17, these buyers will have to pass a mortgage stress test where payments are pegged to a reference rate currently set at 4.64 per cent. The rate used in this stress test is probably too high at close to double the current five-year fixed rate.
But we have to be tougher-minded as a country about who buys a house at today's high prices in many cities. Financial sanity is a more important national goal than getting every young couple snug in a house. Anyway, no one's saying these young people can't buy. They'll just have to save longer. This may actually work to their advantage if the housing market cools enough for prices to move lower.
Let's also remember that governments have introduced a variety of measures in the past few decades to promote first-time home buying. Highlights include the Home Buyers' Plan (burglarize your retirement savings for money to buy a house), the reduction in the minimum down payment to 5 per cent from 10 and the reduction in the minimum down payment required to be excused from paying a mortgage default insurance premium to 20 per cent from 25.
3) Our financial well-being is at stake
This is based on the idea that our financial success is best measured by our net worth, which is defined as assets minus liabilities. It's obvious why net worth is so favoured right now. Houses have increased in value in many cities in the past decade, sometimes stunningly. Net worth has likewise soared, and that's a feel-good story for sure.
But net worth based on housing wealth is squishy at best. Houses can fall in value, just like any other financial asset. But more importantly, money tied up in house wealth can be strikingly useless. You can sell your home, but you'll use most of the proceeds to buy another home unless you relocate to a cheaper community. Other ways to unlock the equity in your house are a home equity line of credit or a reverse mortgage, both of which charge interest.
Mollycoddling the housing market won't protect your wealth. The answer is diversification – own a house and a portfolio of stocks, bonds, funds, GICs and whatnot. No asset wins all the time and every asset wins sometimes.
4) Rising interest rates are the real risk to the housing market, and rates aren't going anywhere
Agreed. But what we're seeing now, and may well see more of, are stealth rate increases driven by government intervention in the mortgage market. There's speculation that some of the new mortgage rules introduced by the feds will make it tougher for alternative non-bank lenders to do business. This could mean less competition in the mortgage market and higher rates.
In case it has to further slow the housing market, the federal government is consulting on the idea of making banks share some of the pain if a borrower defaults on a mortgage. Currently, the government-backed mortgage insurance program assumes a lot of the risk of default. If lenders have to take on extra risk, they'll want to be paid for it. That means higher rates for borrowers.