Peter Foster, Financial Post Published: Wednesday, February 17, 2010
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For Finance Minister Jim Flaherty to bemoan the possibility of house buyers getting in over their heads is a bit rich when the federal government is up to its own eyebrows in unsustainable debt and it was Ottawa that both inflated the housing market and lured first-time home purchasers into deep financial waters in the first place.
Mr. Flaherty yesterday announced mortgage tightening measures that came attached to all the usual adjectival lipstick -- "timely," "targeted," "measured," "proactive," "prudent," "cautious" -- that governments apply to their policy pigs.
The Department of Finance's press release neglected to mention that the main reason some homebuyers might be out of their depth is a combination of artificially low interest rates and government insurance of big mortgage lenders via the Canada Mortgage and Housing Corporation, CMHC.
Low rates have juiced the real estate market by making the short-term carrying costs of housing cheaper, and by inducing buyers to rush into the market before borrowing costs inevitably rise. Meanwhile the CMHC has boosted mortgage lending by taking on the risk of default in the riskiest of mortgages. Not only that, but in the wake of the 2008 meltdown, CMHC relieved the banks of over $60 billion in mortgage loans, thus enabling them to lend more to home buyers.
As noted here last week, recent studies from Moody's and the Fraser Institute have pointed out the risks of a government-backed housing bubble. Yesterday, a report from The Vanier Institute of the Family suggested that Canadian household debt was at an all-time high, with the average equalling 145% of family income last year. The Vanier study claims that there unequivocally is a housing bubble, since average Canadian house prices at the end of last year were five times the average after-tax income vs. the long-term average of 3.7 times.
Significantly, all the measures announced by Mr. Flaherty yesterday related to tightening the CMHC's mortgage rules, which confirms that the CMHC was a big part of the problem in the first place. However, the tightening doesn't look that severe. Indeed, it looks almost cosmetic, although it does feature a little fashionable bashing of "speculators."
New buyers will still only have to put 5% down on an insured mortgage, whose maximum amortization period remains 35 years. The principle changes relate to the fact that anybody refinancing a CMHC-backed mortgage can do so "only" up to 90% of the value of the related property, while those buying property for "speculative" purposes have to put down 20% if they are to be backed by CMHC insurance. One might well ask what the government is doing backing "speculators" in the first place. Also, how does one distinguish between a speculator and somebody buying a property to rent out? Indeed, the CMHC's policies seem to have been designed to encourage the purchase of rental properties. Will Mr. Flaherty's moves sideswipe the rental market?
Mr. Flaherty's third CMHC move is to stipulate that when assessing a borrower's ability to pay, she will be judged as if she were taking out a fixed five-year loan, even if she is going with a lower-rate three-year variable term.
The degree to which these measures will let air from the bubble (which Mr. Flaherty claims does not exist) is an open question. But the undeniable fact remains that if there is a bubble it has been promoted and backed by Ottawa. Indeed, it has been promoted and backed to a greater degree in Canada than in the U.S., since CMHC is responsible for 90% of insured Canadian mortgages.
In the meantime, Mr. Flaherty's moves, typically, threaten unintended consequences. Since the measures do not come into effect until April 19, we may see a pre-deadline rush of demand for high-ratio mortgages and the "speculative" purchase of rental properties.
Yesterday's press release out of the Department of Finance, complete with its computer-generated remarks on the part of Mr. Flaherty, declared that the steps were designed to promote stability while continuing to encourage home ownership. One major question is whether government has any business encouraging home ownership in the first place, especially by socializing insurance risks.
It requires considerable gall to suggest that "Our Government is acting to help prevent Canadian households from getting overextended, and acting to help prevent some lenders from facilitating it," since this overextension and facilitation is based entirely on government policy. It takes even more gall to be quoted saying "If some lenders aren't willing to act themselves, we will act."
This suggests that feckless financial institutions might be spraying mortgage cash out the door were wise and prudent government not there to stop them.
However, big financial institutions are not likely to quibble with Mr. Flaherty's fingering them. After all, it is they, not borrowers, who are the prime beneficiaries of CMHC insurance. Maybe that explains why some bank economists yesterday were treating Mr. Flaherty's moves as the wisdom of Solomon.
But the Finance Minister's moves raise a larger question: If artificially low interest rates, and the prospect of rate rises -- not to mention the socialization of private risk via the CMHC -- are screwing up the housing market, why would the same factors not be subverting the economy more generally?
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