Debt Shift

120094316Credit cards account for just 5% of total household debt (Source: BoC), but it may not stay that low for long.

The government is on a mission to clamp down on low-cost secured borrowing (e.g., HELOCs).

If coming regulation makes it harder to access low-interest credit, borrowing will (not surprisingly) shift to high-interest credit.

The big winners in that scenario will be credit providers, not credit users.

As CMT wrote on March 20, OSFI is contemplating a reduction in the maximum loan-to-value of HELOCs, from 80% to 65% LTV.

If OSFI interprets this as meaning that one’s mortgage plus one’s HELOC (combined) cannot exceed 65% LTV, then tens of thousands of Canadians will turn to more expensive unsecured credit.

Hopefully OSFI:

a) realizes that LOCs are often integrated with mortgages, and

b) allows mortgages and LOCs combined to total 80% LTV, subject to some reasonable cap on the LOC portion(s) if deemed necessary.

Depending on the survey (CBA/Strategic Counsel or StatsCan), roughly 35-40% of Canadians carry a balance on their credit card(s). As interest rates and debt ratios climb, the number of people holding balances will also climb.

Overly restrictive credit line limits could force folks to maintain those balances at blood-sucking interest rates over 21%, instead of a good HELOC rate like prime + 1/2%.

********

Mark-CarneyNone of this dismisses the seriousness of Canada’s growing debt balloon. Governor Carney is rightfully concerned, saying:

“What we have seen in aggregate across the Canadian economy has been a sharp increase in the usage of home equity lines of credit, some of which have taken place in a context of underwriting standards that are less than optimal…Canadian households as a whole are being overstretched, which creates risk for the economy.”

This siren has Canada’s credit police eager to propose solutions. Unfortunately, the solutions proposed thus far could raise borrowing costs and stretch many households even further.

Incidentally, Carney did not define “less than optimal” when he spoke of HELOC underwriting the other day. It would have been nice if he had because many observers will challenge his underwriting statements. HELOCs have traditionally been low-risk products that are:

  • Uninsured
    • i.e., the lender assumes almost all the risk, not the government
  • Generally amortizing
    • e.g., Data from RBC, one of the biggest HELOC purveyors, shows that only 7% of customers make interest-only payments
  • Not over-utilized
    • Just 1 in 5 homeowners have a HELOC (CAAMP)
    • Median HELOC utilization (balance vs. limit) is 43% (Source)
    • The average HELOC balance is $60,000-$63,000, representing 18-19% of people’s home value (CAAMP). Much of that is mortgage-substitute, renovation or investment borrowing.
    • Only 3.9% of HELOC borrowers are maxed out and 30% have a zero balance (Source)
  • Secured
    • HELOC holders must have a minimum of 20% equity. Most have a fair bit more.
  • Sound
    • Default rates are well under 1%, despite record high debt-to-income levels.

104699417New HELOC guidelines, depending on how they’re enacted, threaten to shift debt from comparatively benign HELOCs to budget-busting high-interest cards and loans.

Some believe that this financial pain will serve as an effective deterrent to debt accumulation. We don’t.

People compelled to borrow will keep borrowing. Heavy debt users are often compulsive spenders or event-driven spenders (i.e., unexpectedly forced to borrow due to divorce, illness, job loss, etc.).

When these folks try to get back on their feet and reform their finances, many could find that new government policies block their access to low-cost credit, thus extending their debt payoff period by several years.

If that scenario materializes, this decade could include some of the most profitable years ever for credit card issuers.


Sidebar: Home-equity extraction has funded roughly 3 per cent of aggregate consumer spending in Canada in recent years, the Bank of Canada says.


Partial Sources: Reuters, StatsCan


Rob McLister, CMT

  1. Shouldn’t the government be doing something productive, like catching criminals or lowering taxes?? I wish Ottawa would stay the hell out of our wallets.

  2. What’s your solution Rob? Every solution put forward by the regulators is criticized as either cutting off “responsible borrowers” or raising the cost of capital. Do you believe consumers (some or all) are over-indebted? How would you solve it? Action plan, please. And no finger wagging. Carney’s been trying that for years with poor results.
    P.S. MY use of credit certainly depends on how much it costs. And history shows that raising and lowering interest rates has a dramatic effect on the economy, so it must be true for most other people, too.

  3. This would reduce the supply and demand of credit and increase interest rates for consumption (and some small businesses) for those who borrow through other means. So overall it would mean higher interest payments and tighter credit to some degree. I wonder why they don’t just raise interest rates or tighten mortgage rules? Maybe there’s a bit of pressure to limit the use of the Smith Maneouvre to reduce taxes.

  4. You seem to be trying to have it both ways, either new LTV restrictions will restrict access to credit or HELOCs are no problem and the change in LTV rules will make little difference.
    “People compelled to borrow will keep borrowing.”
    People compelled to borrow just to get by need to find lower cost digs. The current access to the house ATM should not be the way people remain in their house. If they are overextended, moving while there is still equity is better, no?
    What is your suggestion to the problem of growing debt? You don’t actually make one. Except perhaps by implying that it should be means tested given that you worry about the crimp on event-driven spenders.
    Flip your logic over: Since consumers need to get by in life by borrowing against their equity at 85% LTV limits we could really help them out by raising it to 105% LTV.

  5. I remember when I started lending… My manager used to look at Refinancing for DEBT consolidation as a one time affair. Irregardles of GDS/TDS, we were instructed to pay off the debt and close all but one credit facility. Sometimes in conjunction with the closing of accounts, we had the client sign a letter to have the remaining credit facilities limit reduced. If the client did not like those terms, then they were welcome to go and try elsewhere.
    Could we not look to our past and adopt that sort of policy and educate rather than legislate with a sledge hammer?

  6. The Heloc market will recede if these regulations come into practise. Then it follows that the mortgage market will increase. Heloc’s will therefore only be granted to those with significant equity. Reminds me of the old days which is where we are going as we were more fiscally once upon a time.

  7. HELOCS are an excellent financial tool. Much like credit cards. In the right hands, they enhance the economy through responsible and convenient borrowing.
    Less than 5% of users default on their credit cards and less than 0.5% default on secured debt. It’s called adult behaviour.
    Let’s all act like adults and allow the responsible individuals to continue to call the shots, instead of the real estate doomers and ‘nanny-state’ regulators.

  8. This is likely not good news for those of us who use a LOC as a mortgage substitute… in my case I have no mortgage, only a LOC equivalent to ~25% LTV of the value of my house which I keep as a safety cushion for my business and used to do some renovations on my house after it was paid cash. Cost of LOC = 3.5% is a small premium to pay for the flexibility as I am agressively paying it off. I guess they’d rather I have a less flexible mortgage.

  9. Clients will look to refinance using a mortgage rather than a heloc. The unfortunate thing here is that the Heloc is a very useful tool for responsible borrowers.
    The OSFI should instead look to force amortising payments on heloc balances.
    Regarding unsecured credit-card debt, I think a solution might be to have some consequence for the lenders for irresponsible issuance of credit cards. For example if they didn’t properly income-qualify the client, their access to recourse for non-repayment would be eliminated. If you don’t do your homework to make sure the client CAN repay, when they don’t – you can’t do anything and have to suck up the loss. Just an idea.

  10. I worked as a mortgage specialist at a major bank for over 20 years. During most of those years I sold mortgages only. In the last 7 years or so since they came out with the mortgage/LOC product I witnessed many things. One is it went from only educated older client in their last house being approved for this product. Then all of a sudden it became a major money maker and great product to keep customers with their lender. Branches and mortgage specialists were pushed to sell the product they were rated on how many they sold; compensation was based on push and push of this product.there were also “coached” when they didn’t meet the banks expectations for their targets. Branches started converting all my mortgage clients to this product, many of them not in any position to have a sec credit line and what made it worse was they were over valuing the home to get that product on the books. So people what I see happening is a big problem, a tremendous amount of these credit lines are on the books today with true values of houses exceeding 80%. We say it should be fine because they have 20% equity but a lot don’t and I am just talking one large bank right now. I have met with countless customers in my new role that are over extended on mortgage debt because of this, quite a few can’t even sell as there is no equity. And as far as the stat of only 7% pay interest only, hogwash, I have observed too many HELOCS sitting at interest only to believe that one. I think they should reduce the amount of credit line you can have or tighten up the rules to get one. There is bankers in their 20’s giving home buyers in their 20’s this product and neither really understand what it is and the implication of using up all your hard earned equity with a very easy to use credit facility. what happened to being proud to see your LTV go down each year and your equity growing. now its just a big revolving door at 80% or more.

  11. ” They were over valuing the home to get that product on the books…..We say it should be fine because they have 20% equity but a lot don’t ”
    How many is “a lot”? Are you saying RBC is illegally incentivizing its appraisers to overvalue properties? That is the most ridiculous comment I’ve heard in months.

  12. First of all I never said any particular bank and conversions and refinances can be done without an appraiser being involved. CMHC high ratio??? if an appraiser was involved then it would have been valued properly.

  13. Vanbroker,
    The OSFI guidelines specifically talk about amortizing HELOCs. Going forward, OSFI expects HELOCs to amortize.
    Granted, this is a non-issue if truly only 7% of HELOC clients are interest-only.

  14. So you’re saying that the bank was systematically and fraudulently misleading CMHC’s emili system to assign a higher property value so the bank could sell more HELOCs?
    Do you hear what you are saying?

  15. Ralph,
    You ask some fair questions. I assure you we’ll leave the finger wagging to guys like Stephen Colbert.
    As a side note, past discussions about solutions to higher-risk borrowing can be found in the archives. But to review…
    The “cancer” is risky debt accumulation. Like with medicine, the ideal solution is to target the cancer and leave the healthy cells alone. It rarely makes sense to over-regulate people who don’t pose a material risk to the system. The long-term economic repercussions of doing so are almost always unfavourable.
    Before proposing solutions, let’s acknowledge that people don’t borrow just because they have a good rate. They over-borrow, in part, due to the reasons alluded to in the above story. Therefore, the solution should not be limited to more regulations on secured borrowing alone.
    Secondly, the risk group is a minority. Lenders and regulators have piles of data on who these people are, as well as their borrowing tendencies and default patterns. So, it’s not a matter of whether the solution can be targeted or not.
    The folks who need to be corralled the most are the big/frequent spenders with a higher probability of default. Again, the purported intention of these regulations is to protect the financial system, not to eliminate options for people who borrow reasonably.
    That can be done in any number of ways, including but not limited to imposing restrictions on the higher-risk borrowers (e.g., those with minimal non-real estate net worth, those with above-normal debt service or those with imperfect repayment history).
    Those restrictions might include limiting HELOCs to a certain dollar amount or LTV above one’s mortgage, forcing HELOCs to amortize if above a specified LTV, requiring account closures or reducing limits (as per Bob’s suggestion below), or prohibitions on opening new accounts and/or increasing one’s total authorized credit for a set period.
    Regarding your last point, borrowing cost does impact overall credit demand. That’s not being disputed. The point being made is that many in the risk group will over-borrow anyway, and those who borrow the same amount will be left far worse off due to the higher interest burden.
    Cheers…

  16. Hi VanBroker,
    Thanks for the post. You’re certainly right that full refis are done more with mortgages than HELOCs, although not exclusively of course. A lot of folks simply move high-interest borrowing to an existing HELOC. Others use their HELOC instead of higher-interest credit (to buy things like cars for example–we all need transportation and often it doesn’t make sense to pay 3 points more for a car loan).
    Interesting points about unsecured credit qualification. I’m admittedly not that familiar with current credit card underwriting practices.
    Cheers…

  17. I think you may have misunderstood him, Gerry.
    But why do you act as if it’s unthinkable? In the past few weeks, the heads of the Bank of Canada and OSFI have both said that banks’ internal controls are broken, that they’re not following their own underwriting guidelines, using product inappropriately, doing a poor job of verifying borrowers’ assertions, etc. We’ve seen that if people are incented to get deals done and can lie to do it with a low probability of getting caught, then (some, not all) people will do just that.
    http://www.calculatedriskblog.com/2008/03/zippy-cheats-tricks.html

  18. Read my comment and tell me where it suggests this is “unthinkable.”
    No system can be perfect. It’s a question of how widespread the problem is.
    I’ve been in lending for many years. The procedural deficiencies you’re quoting OSFI on are greatly overblown.

  19. It’s common knowledge and a fact that the BIG SIX Banks extend credit more loosely than the smaller firms…
    HELOCs are typically harder to get but not with retail BANK branches or so-called ‘mortgage specialists’… you are supposed to qualify at Bank posted rates, lower amortization and maybe a lower debt servicing ratios (GDS and TDS).
    That’s the only way MORTGAGE BROKERS are able to get HELOCs approved….
    But several of the BIG SIX Banks have been using a ‘no-income’ verification and no appraisal system for years…
    OSFI…just change the rules for qualifying… Make the BANKS perform some due diligence…These are the only changes necessary…
    I’ve lost several clients to RBC, TD, CIBC, SCOTIA and BMO where they came up with an inflated property value based on some desktop system…
    An example that stands out is an appraisal that came in at $565k when the true appraised value was $475k…
    But because the Banker’s ‘system’ came up with that value, the client was able to obtain a 95% LTV HELOC limit… Today, the LTV is probably around 75% due to an increase in property values…so I guess they are safe now…
    The housing market bull run for 14 yrs has saved the Bank’s from being exposed…
    HELOCS are a great product that serve many purposes… investors, cheap capital for businesses, cheap and easy access to equity for retired people, etc… why punish these people?

  20. I thought it was snark, not a straw man. If more cheap debt is better, how about even more cheap debt? In thinking about it more, I suppose what I’m really asking is why defend 85% LTV? Is that some kind of magic number or just the number the regs happen to be at right now?
    There is also the broader question of: why uphold ownership as being all about building equity (unlike those silly renters) if consumers are just going to burn the equity anyway? But that is probably outside the scope of this discussion.
    (Thanks for the long response above. Applying tests of the sort you describe aren’t impossible, but they are pretty detailed. If OSFI had a calculator the banks had to use . . . but from the U.S. debacle I can assure you those will be gamed unless there is regular auditing.)

  21. As someone who took advantage of Bernanke’s announced 3-year rate lock last summer to pay down 30% of my outstanding fixed-rate mortgage with cash taken out of a new HELOC, I can only respond with some cynicism.
    Not because this hurts me personally, but because it prevents others from doing what I did, namely profiting from low short rates to reduce my borrowing costs.
    So, just to be perfectly clear:
    “Silly rabbit, low short-term costs of funding are for *banks*, not for you.”

  22. Good for you to pay down your debt like that.
    The Dept of Finance, Bank of Canada and OSFI don’t give us much credit. It’s time they realize the govt has no business telling qualified uninsured borrowers how to manage their money. If people want to use a line of credit for a mortgage substitute so they can pay off big chunks at one time or discharge without a penalty, that is their business.
    Communist government meddlers should get the f##k out of the way.

  23. Thank you for your kind words.
    To be clear, however: My point is that the aim of central bankers worldwide is to stabilise credit markets and bank balance sheets with the aim of keeping some air in the vastly deflated post-2008 money supply.
    The risk of doing this is still further asset inflation, including but not restricted to the housing market.
    The first can be achieved can be combined by restricting consumer access to the low rates, ensuring that they remain within the banking system, which is exactly what this new policy does.
    To suggest that this has something to do with “communism” is, shall we say, peculiar, in light of the fact that what is being restricted is something that is being offered by the government in the first place. Furthermore, the architects of the above policies–Bernanke, Carney–are all free market capitalists, Carney formerly of Goldman Sachs.
    But then, you probably voted Conservative and think that Goldman Sachs is a subsidiary of the Elders of Zion.

  24. The bank branches over valuing a property is not hogwash. I’ve seen it happen on more than one occasion.
    Hence the OSFI lending guidelines…..

  25. I have a friend who was pre-approved for a $600,000 mortgage, $25,000 line of credit, and a $10,000 credit card when she and her husband purchased their first home. This is at a big 5 bank. Their income combined is 100K GROSS! And you wonder why the real estate market is a bubble. We’re going to have the first generation that will not be able to retire in their own homes, pay their child’s tuition in full, or have any real savings upon retirement. What’s that tune I’m hearing in my head…”Bye, bye Mrs. American pie”!

  26. Ralph…lets try thinking outside the box for a moment. Do you honestly think that reducing the HELOC share of the entire credit pool will stop consumers from using credit without concomitant tightening of PLOCs and credit card limits?
    There’s no doubt that credit use balooning and has the potential to cause problems in the future, but if an individual has his HELOC, and all things being equal, he starts using higher interest credit (CCs, PLOCs). Doesn’t this have the opposite of the intended effect? i.e. adds more stress to the system.
    Here’s an idea for the GoC: address some of the underlying reasons consumers have been relying on credit.

  27. Great article, well written.
    Credit card rates have been raising for the past few years and I think that should be capped. There is no reason the Mastercard needs to charge 19.5% on a credit card.

  28. “what is being restricted is something that is being offered by the government in the first place.”
    How do you figure? HELOCs are uninsured. The government doesn’t “offer” them, banks do.
    I don’t know what your definition of a “free market capitalist” is but most define it as someone who believes in an environment where transactions between consenting private parties are free from state intervention.
    A market where the government dictates supply and demand through broad regulation is not a “free market.” It’s a controlled market.
    When big brother tells an 800 Beacon borrower with a 35% TDS ratio that he can’t have an 80% uninsured HELOC, that is the most sinister type of controlled market.

  29. Right now or in the future? Do you honestly think the bank won’t re-allocate any reduced HELOC volume over to their other products like PLOC, etc? Don’t be naive, even if they can’t cope with existing unsecured products, financial innovation will create a solution, it always does since finance employs one of the since greatest concentrations of human capital available.

  30. To be fair, real estate valuation, like business valuation, is not an exact science. There might have been instances in the past where properties were under-valued by an appraiser or computer, but I don’t know this for sure.

  31. I have 2 personal bank Visa’s and with the credit limits combined could buy a brand new, fully loaded BMW 3 series.
    Address and legislate the disease, not the symptoms

  32. Dave,
    Yes, B of C thinks an LTV haircut will reduce credit usage. I agree this will happen. If banks try to stick-handle around the reg OSFI will respond with a stricter reg.
    You suggested addressing the reasons why people rely on credit. What are those reasons?

  33. I agree with you banker.
    HELOCS are barely $70 billion. Mortgage credit is over $1 trillion. HELOCs are peanuts.
    Discussing an LTV grind down is making mountains out of mole-hills.
    I’d be far more concerned about the consolidation we’re seeing in the population of non-bank lenders.

  34. “If banks try to stick-handle around the reg OSFI will respond with a stricter reg.”
    I completely disagree with you there. The banks with do anything and everything in their power to maintain (and increase) revenue. If new regs force a decrease in HELOC volumes, you can bet they will re-allocate to other credit products or invent new ones (in fact, shareholders will insist upon it).
    With regards to the reasons behind robust credit growth in the last several years, I’m not sure this is the appropriate thread to discuss this, but a few things come to mind:
    – in Canada, roughly 1/2 of income goes to goverment in form of taxes, fees, etc. Incomes haven’t been increasing as fast as CPI
    – a persistant structural unemployment caused by 08/09 recession (as acknowledged by the BoC) and broader underemployment.
    – Education costs are increasing at near double digit annual growth rates, combined with Canada having the highest post-secondary matriculation rate in the G8 nations (and sadly, one of the lowest productivities). Lots of this is going on HELOCs and PLOCs and costs (debt) increases as students stay for post-grad b/c of #2.
    – High living costs incl. housing, electricity (esp. in Ontario) and just about everything else.
    – Changing psycho-social attitudes and consumption behaviours…the so called “entitlement effect” that everyone in my generation (Y) seem to possess

  35. Dave,
    The “nuke” the banks are desperate to avoid is OSFI increasing banks required capital %. Playing ball with OSFI on these harmless changes is smart, and the banks will do it. The LTV haircut we’re talking about will pull max 12 billion out of lending…peanuts.
    With regards to your other points re. credit growth…well…credit / inflation are chicken / egg aren’t they? No more needs to be said about that, it’s beyond the scope of this blog.

  36. “Discussing an LTV grind down is making mountains out of mole-hills.”
    —————————-
    It’s not a “mole-hill” if your family is the one being affected by this rule. We have never missed a payment and never carry a balance on anything. We rely on our HELOC for emergencies. I can only hope that not everyone is affected by this new limit.

  37. Hi Rob,
    Good discussion. Lenders can certainly use technology to predict, more accurately than in the past, who may default in future. As a similar example, I had a credit card compromised in December, and the bank recognized it and called to tell me they were mailing me a new card before I knew anything was amiss. A bank that issues your primary credit card can practically see into your soul. One problem, however, is that these risky customers are also the banks’ most profitable, and most of them won’t default. In the case of HELOCs, the bank is likely to recover most or all of what it is owed, with only internal loss mitigation costs to be concerned about.
    Regulations which ban lending to borrowers who have exhibited prior risky behaviour would probably be seen as awfully intrusive.
    Although nobody sets out to write a bad loan, most banks would rather have a fat book of loans with a low default rate than a smaller book with no defaults, and they all manage to convince themselves, toward the end of a credit cycle, that everything will turn out OK and they’re booking good risks.
    One thing’s for sure: Canadian lenders dodged a bullet when the FSB stopped short of requiring a maximum LTV ratio, saying it would be difficult to apply such detailed guidance globally. I don’t know that their maximum would have been as high as 95%.

  38. To the extent that borrowing is interest rate sensitive, yes, I do think that reducing HELOCs would reduce borrowing. Some would go to unsecured lines and CCs, just as some people today use payday loans, loan sharks and instant income tax refund services.
    What should the government address? It already gives generous tax breaks for people who invest rather than consume (TFSA, RRSP, dividend tax credit, lower rate on capital gains than income). Alas, an even more generous credit for the primary residence capital gains deduction. Canada’s economy is driven (60-65%?) by consumer spending. A “Spend Less!” campaign? Won’t happen. Recall the Paradox of Thrift.

  39. It seems you haven’t read much history and you haven’t read any behavioural economics. History has shown repeatedly that, absent stringent regulation, banks and insurance companies will bust, leaving depositors, policyholders and annuitants destitute. Behavioural economics shows that Homo Economicus is largely a myth. Every state is a nanny state in the FIRE sector, it’s been this way for a century now, and for good reason. Mark Carney hails from Goldman Sachs, not the École nationale d’administration.

  40. Nobody’s telling you that you can’t lend however much you want, to whoever you want, with whatever collateral you desire, at any interest rate short of usury. You can even register the deal on title if land is the collateral. If said borrower defaults, the state will enforce your legal action against him. Anyone who uses the term “free market capitalist” in the context of banking regulation is, to put it charitably, not well read. Want to know what an ideal free market would have had in store for you? Picture yourself broke and illiterate.

  41. I could be wrong, but I suspect that those who use TFSAs, RRSPs, and are claiming cap gain and divs, are not the major contributors to the credit expansion. Believe it or not, there are those in the private sector (~80% of workers), who don’t have the extra funds to take advantage of these generous tax breaks.
    My point was GoC should address the cause of people using credit for basic necessities in this country, not those usings HELOCs and the like for granite kitchens and new cars.

  42. Don’t kid yourself about who’s in charge, the OFSI is but a pest for the big banks.
    “With regards to your other points re. credit growth…well…credit / inflation are chicken / egg aren’t they?”
    – Not when CPI and GDP growth are running around 2% and the rest of these points are high single or double digit growth rates…something(s) else is definitely contributing.

  43. The question of what to address is elementary. Address risky borrowers and leave the rest of us alone. End of discussion.

  44. Dave, you’ve already read on this blog many examples of the big banks changing their mortgage business in advance of the OSFI regs. The banks are obedient players.
    The CPI “basket” excludes many things that have popped in price. It’s a poor measure.
    I know today’s UofT tuition wouldn’t be $12k without the benefit of lots of credit.
    My last yr in the big school cost me < $2000.

  45. I still don’t get why increased government regulation is given the “nanny-state” label, while government protection for home-buyers with little equity is not.

  46. A point to be kept in mind is that a $10,000 Visa card provides more profit to the bank than a $300,000 mortgage over the life of the mortgage. In other words a 3.33% portion of a persona debt will produce more profit to the bank. Figures never lie … but liars often figure … or at the very least misdirect. That is why in my opinion the banks are pushing the mortgage debt subject while most of us know that isn’t the problem … it is credit card debt. To adjust those rules will have a detrimental effect on a banks profit picture so don’t expect Ottawa to make a move any time soon.

  47. Credit card debt may be a problem, but its expansion doesn’t tie up others in a web of indebtedness the way mortgage debt does.

  48. I agree that credit card debt is different than mortgage debt. It’s far more insidious and ruins many more families.

  49. This is getting depressing. So the government further restricts low cost credit in the hope that it will force borrowers to reduce their secured borrowing and build up illiquid equity in their homes. Those that can afford to do this will presumably simply forego the planned renovation, investment or new car purchase. Those that can’t will turn to outrageously priced credit cards. While the bank’s credit card divisions should be breaking out the champagne (at least until defaults soar), its really hard to see how our economy benefits from this. Unless this policy is simply about keeping the markets happy with a simple to understand Bloomberg headline. Its just too bad that the real world is too complex to fit into a tweet.

  50. Those that can’t [afford to build up illiquid equity in their homes] will turn to outrageously priced credit cards.
    Maybe they can’t afford the house, and should sell?
    its really hard to see how our economy benefits from this
    Corporate finance 101. For a given company, there’s an optimal level of debt which will maximize shareholder return with low risk. Companies take on debt to boost return on equity. Similarly, any given household has an optimal level of debt, with the caveat that, since people amortize and companies don’t, optimal debt for people changes according to stage in life.
    So the issue is: Are family balance sheets, in aggregate, overleveraged, underleveraged or optimal? Canadian regulators believe overleveraged, thus reducing leverage will help reduce the risk profiles of borrowers and lenders alike. This DOESN’T necessarily mean it will ‘help’ the economy. If consumers are spending more than warranted, the economy may suffer from a pullback, but it will reduce balance sheet risk.

  51. Insidious, yes, but not nearly as contagious.
    If my neighbour takes on crushing CC debt to buy consumer items, it doesn’t affect anyone else’s ability to buy the same consumer items at the same price.
    But if he takes on crushing mortgage debt to buy a house, it absolutely does affect everyone else’s ability to buy the same kind of house, by pushing prices up.

  52. So many great thoughts and the process is simply implied by the thought that the lending institution is not properly following thier lending guidelines and or the borrower is way in over thier head with HELOC’s. More at issue is that the BoC and OFSI can simply return the whole risk to the private business (lending institution) by refusing the securitization of the risk for conventional business if they really want to limit those products. The lenders will of course have less capital to lend and thus all lines will be limited and the money market will tighten. The risk however is even further reduced and again as all of you have indicated. It is against one of the lowest risk products offered. It’s the issue of the banks securitizing thier conventional loans to free up more capital for lending and profit that is really at question here.

  53. the BoC and OFSI can simply return the whole risk to the private business (lending institution) by refusing the securitization of the risk for conventional business if they really want to limit those products
    But the bank’s demand and term deposits are backed by the CDIC, so the government has an interest in ensuring the loan portfolio is sound regardless of whether it’s guaranteed by CMHC. Honestly, we tried “oh well, just let the bank fail if it makes bad loans” back in the 1800s and before, and it didn’t work too well.

  54. Are you saying home prices are the only prices propelled by supply and demand?
    Let’s be real. What’s worse? More bankruptcies due to stifling high-interest debt or paying a bit more for a house and raising everyone else’s net worth while you’re at it.
    I’d argue the former.
    As for crushing mortgage debt, how many people are we talking about here? According to CAAMP, the average mortgage is about $150k, the average down payment is 30% and the average TDS is 33%. Where is your data?

  55. To “Ralph Cramdown”
    Conventional prime lending will never ever lead to a major Canadian bank’s insolvency. Ever! They are much too diversified.
    In fact, I defy you to name one top-200 bank anywhere in the world that ever went bankrupt because of mass defaults with prime low-ratio mortgages or HELOCs. And I’m not talking about the subprime mortgages they called “conventional prime” in the U.S. I’m talking about loans where the mortgagors actually have jobs, greater than 20% equity and solid credit.
    On another note, I’ve watched your remarks the past week or so and have two observations.
    #1 – You comment way too much. I doubt anyone here wants to hear your opinions that often.
    #2 – In my view, your incessant attempts to portray Canadian lending as risky are patently uninformed.
    You’d probably have more luck preaching on a site that doesn’t have industry readers. Maybe then you’d find more people who don’t see right through your endless harangues.

  56. Are you saying home prices are the only prices propelled by supply and demand?
    Instead of putting words in my mouth, why don’t you provide some examples of items for which credit-card borrowing affects consumer pricing.
    According to CAAMP, the average mortgage is about $150k, the average down payment is 30% and the average TDS is 33%. Where is your data?
    According to CMHC, average down-payment for first-time buyers in Canada is 7%. In Toronto, the house price to disposable income ratio currently sits at a little under 16x, significantly higher than any other time in the last 25 years (well above the average of 10x that held from 1991-2002).
    A down-payment of 7% on an average Toronto townhouse leaves the buyer with a mortgage of $393k, which is more than five times the average household income in the GTA.

  57. Q you put these words in your own mouth by claiming that credit doesn’t raise prices on consumer goods.
    Here. Let me save you the inconvenience of scrolling back to your own statement:
    “If my neighbour takes on crushing CC debt to buy consumer items, it doesn’t affect anyone else’s ability to buy the same consumer items at the same price.” -Joe Q.
    Think logically for a second. If everyone had to pay cash for big screen TVs they’d sell a hell of a lot less of them. That goes for any product bought on credit. I’m worried for you that you can’t grasp this concept.
    As for your intelligent sounding ratios and down payment numbers, sorry to break it to you but they don’t guide home values. The numbers that drive home prices are affordability and employment. Everything else is just conversation.

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