Stance: Slowdown, not slump

Stance: Slowdown, not slump Every time there’s news about a dip in Canadian housing activity it fuels frenzied speculation about an impending U.S.-style crash. While home prices in Canada are headed for a correction in the coming year or two, it would be an overstatement to liken it to the U.S. market of 2006. Canada today is very different from a pre-recession America, especially as far as borrower profiles go. Cautious optimism The extremely low mortgage delinquency rate in Canada can be considered a measure of our stability. But our southern neighbour has taught us that this sea of tranquility can turn cataclysmic overnight. In just a short 18-month period in 2007-08, the mortgage arrears rate in the U.S. surged by more than 300%. The same holds true for the claim that the debt-to-asset ratio in Canada has been relatively stable. The U.S. basked in the same stability in the years leading to the recession, but that did little to prevent the crash. Many housing experts may also argue that unlike the U.S., Canada (with the exception of Alberta) provides a more foolproof buffer by being a recourse country—lenders can go after borrowers’ other assets to pay down a mortgage. Housing market performance But research shows there’s no significant difference in housing market performance between recourse and non-recourse states. Besides, only 12 U.S. states are non-recourse states (see “Housing market performance,” right). Also, mortgage interest payments south of the border are tax-deductible, thereby igniting a ravenous appetite for ownership. But research suggests mortgage interest deductibility (MID) played only a minor role in elevating U.S. homeownership. Just over one-fifth of American taxpayers claim MID, and only 15% of them earn less than $50,000 per year. And for those 15%, the average tax savings are less than $175 per year. Advantage Canada Not all of Canada’s perceived advantages rest on shaky ground. Yes, the debt-to-income ratio in Canada just broke the American record set in 2006, but this ratio compares the stock of debt to the flow of income, and the latter also includes income of households with no debt whatsoever. A bunch of countries with higher debt-to-income ratios have not experienced anything resembling the recent U.S. debacle. While we can’t ignore the level of that ratio, the speed at which it grows is more important. Here the picture is better. Comparing the three years heading into the U.S. crash to the past three years in Canada reveals the debt-to-income ratio in Canada has been rising at half the speed seen in the pre-crash U.S. market. And on average, over the past decade, housing starts in Canada exceeded household formation by only 10%—with most of the excess relegated to cities such as Toronto and Vancouver. In the U.S., the gap during the decade leading to the crash was almost 80%. Subprime saga Even more paramount than the quantity of debt is its quality. In the U.S., the proportion of debt in the risky category rose by 10 percentage points and accounted for 22% of the market just before the recession. That’s not the case in Canada.