Back in the spring, the feds were wishing that housing wasn’t so hot. They wished that mortgage growth wasn’t so robust. And now, CIBC chief economist Avery Shenfeld is telling us: “Ottawa has to be careful what it wishes for.”
Shenfeld issued that warning in this report released last week. He was, of course, referring to federal mortgage policies aimed at slowing residential real estate.
Some believe the extent of those policy changes (new high-ratio mortgage rules, new OSFI restrictions, new securitization and insurance limits, BASEL III, IFRS and so on) reflect a federal government playing with fire in the housing market. Others feel the measures are necessary to put out the fire, and prevent future ones.
Either way, stricter mortgage lending will take a bite out of economic growth. The country has just seen GDPfall for the first time since February (not a trend yet), in addition to posting a 15% drop in YOY home sales. There is certainly no reason to panic, but at the same time, no one knows where the housing slowdown, or its economic ramifications, will end.
Real estate activity has been the cement in Canada’s economic foundation. Seemingly singlehandedly, it helped the country recover from the global economic crisis well before most other nations.
But since 2008, the government has thrown the rule book at the real estate market. Its reductions to maximum amortization alone have increased monthly payments 26%, other things being equal.
That’s on top of new refinance restrictions, stricter qualification rates, a prohibition on high-ratio insured rental financing, stated income restrictions, covered bond restrictions, stricter documentation rules, HELOC LTV reductions, withdrawal of liquidity (rationed portfolio insurance), elimination of insurance on high-end properties, debt ratio limits, and much more.
Now, virtually every analyst in the country predicts a housing selloff of some degree.
So what happens next?
The answer hangs on how low the market goes. We will not see a U.S-style apocalypse (the reasons), but – if analysts are right – we’re definitely about to feel some pain.
The fact is, Canada’s economic fate is tightly intertwined with real estate. And below are 10 reasons why:
One in five GDP dollars result from housing-related spending. (Source: CMHC). A 5% annual drop in house prices would shave a half-point off GDP growth “through its wealth effect on consumer spending,” says CIBC.
Housing-related consumption and investment totals roughly $330 billion. (Source: CMHC)
A $1 rise in the price of their house increases a consumer’s expenditures by 5.7 cents, much more than an equivalent rise in one’s stock portfolios. (Source: Bank of Canada research) Climbing home prices have boosted total GDP by 1.2% over the previous five years. (Source: CAAMP)
The total value of owner-occupied housing in Canada was $3.48 trillion in 2011 (Source: CAAMP).
The average Canadian has 67% equity in their real estate assets. (Source: Scotia Economics). The average homeowner has equity of $214,000 (Source: CAAMP), with significant reliance on that equity for retirement. In total, homeowners have about $2 trillion of home equity. (Source: CAAMP)
Forty per cent of our net worth is in housing assets (Source: Bank of Canada). That’s “roughly equivalent to their investments in the stock market, insurance and pension plans combined,” says BoC head Mark Carney. If housing assets dive in value, consumer confidence plummets.
For the last 10 years, Canada has averaged 460,000 home resales a year. (Source: Scotia Economics) That’s on top of new housing starts of roughly 200,000 a year.
Housing and mortgage activities create significant employment in Canada. They account for more than 1.35 million direct and indirect jobs – about 8% of total Canadian employment. (Source: CAAMP)
The construction sector employs 890,000 people. It has created 425,000 net new jobs in the past decade (Source: Scotia Economics) and 18% of job creation from 2006 to 2011 (Source: CAAMP). A major housing selloff could eliminate 115,000 of those positions, says Capital Economics. In a labour market that generates only 19,000 jobs a month on average, that is material.
Renovation spending in 2010 (latest data we have) was $45 billion. Reno-spending will certainly be curtailed by new rules limiting equity take outs (ETOs). About $17.5 billion of those ETOs were devoted to spending and investment in 2011 (Source: CAAMP). Renovations have been the #1 reason people refi to pull out equity.
So much of Canadian’s wealth is linked to housing. A home is “the single biggest investment most Canadian households will ever make,” says Carney. Therefore, improving housing stability is a worthwhile goal given what’s riding on it. (More on that)
Ideally, Canada would have a more diversified economy that’s less dependent on housing. But we have what we have. Strong sustained manufacturing growth is not on the horizon, and resources like energy exports (6% of GDP) and forestry (1.9% of GDP) will not offset a significant housing slowdown.
One hopes that policymakers bent on retooling our housing system would have realized that. We want to believe they have this all figured out, and have calculated how to let the air out of the housing balloon slowly. But it really comes down to a “judgment call,” says Finance Minister Jim Flaherty. So the unknowns are immeasurable.
For now all we can do is watch home prices decelerate. If this leads us into the next downturn, we “will see greater than normal credit losses…” says Shenfeld. These losses will surely be exacerbated by the stacks of regulations that have been forced back-to-back onto an overvalued real estate market.
Given that risk, the BoC’s well-intentioned warnings (to pay down our debt or face higher rates) seem somewhat impotent. At this point, normalizing interest rates or adding significant new housing restrictions could be economic suicide. That makes both a low probability well into next year, possibly beyond.