Canada’s fatal attraction to debt

Why we can’t stop living on credit


Peter Mccabe/CP

“Canadians like to see themselves as the Scots of North America,” theatre critic Ronald Bryden wrote back in 1984, “canny, sober, frugal folk of superior education who by quietly terrible Calvinist virtue will inherit the 21st century.”

Sorry, which country was that again? Like looking at a younger picture of yourself and straining to see the resemblance, the Canada Bryden described is barely recognizable today. It’s probably true Canadians were never as frugal as we liked to think we were. But with household debt on the march to $2 trillion, a savings rate a fraction of what it was 30 years ago, and waves of warnings from international banks and Nobel-winning economists about our debt-fuelled housing market, any pretense to prudence has long since been banished. If a scriptwriter were to pen the tale of our transformation into giddy spendthrifts, the working title would surely be: How Canadians stopped worrying and learned to love the debt bomb.

You’ll have heard these warnings before, usually in a scolding tone. But what we are seeing is a fundamental shift in our attitudes toward living on credit, one that’s not really that illogical, given money is essentially free. An era of low rates has desensitized borrowers to the risks inherent in carrying too much debt. A whole generation of young Canadians has come of age in an era when no bungalow, renovated kitchen cabinets or TV is ever truly out of reach.

Last year, economist Paul Masson, in a report for the C.D. Howe Institute, took the Bank of Canada to task for keeping rates so low for so long, for the very reason that it’s inducing people to do risky things. Masson’s report included an example of why low rates are so seductive. Assume a couple earns $100,000 and want a five-year mortgage amortized over 25 years. Lenders typically insist young households devote no more than 32 per cent of their income to housing costs, like mortgage payments, property taxes and to keep the heat and lights on. If mortgage rates were 10 per cent—a figure that sounds shockingly high, but is roughly what the average five-year rate has been since the 1970s—they’d only be able to borrow $200,000. But with mortgage rates available for three per cent at one point last year, our fearless homebuyers could borrow $300,000. What’s another hundred grand?

A back of the napkin calculation shows the monthly payment on that mortgage at three per cent, $1,420, would be more like $2,700 if rates return to a historical average. And yet there are fewer and fewer forecasters and borrowers who expect that to happen. Call it the great capitulation. The surest way to look the fool over the past three years has been to predict interest rates were about to rise. (Guilty here.) All the while the Bank of Canada’s benchmark interest rate has remained pinned at one per cent, and during the worst of the financial crisis was just 0.25 per cent. Over the last decade the rate has spent much of the time at or below the two per cent mark.

We’re pretty much at the point now where it’s just accepted interest rates will stay low. And not just for the next year or two. Bill Gross, the bond king who manages the world’s largest fixed-income fund at PIMCO, and who famously, and wrongly, bet big in 2011 that U.S. interest rates were set to rise, now believes we’re in a semi-permanent era of low rates. “The U.S. (and global economy) may have to get used to financially repressive–and therefore low policy rates–for decades to come,” he wrote in a recent newsletter. Officials in Canada have certainly gone to great lengths to convince Canadians low interest rates will be here for at least two more years and pose little danger. Stephen Poloz, the governor of the Bank of Canada, regularly dismisses concerns the policy is inflating bubbles.

For now Canada’s towering household debt load has the appearance of being manageable, a point at which the banking and real estate industries hammer away. The household debt-service ratio, the share of income that goes to debt payments, is just 7.17 per cent, about its lowest level ever. But that’s only because of low rates. In 1990 the ratio was 11.5 per cent, at a time when total household debt was $360 billion. Since then debt levels have soared 370 per cent to $1.7 trillion. At the same time interest paid on household debt has gone up just 60 per cent.

But here’s the thing. Central banks have consistently proven themselves incapable of spotting bubbles. It happened in the U.S. It will happen here. And when the consensus among economists, and more importantly, borrowers, is for rates to stay low, it’s a safe bet they’ll be proven wrong. The story of Canada’s love affair with debt has all the makings of a cliffhanger, and those who’ve overextended themselves are standing at the precipice.

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Canada’s fatal attraction to debt

  1. Forty years of French Catholics being in charge of our finances has wiped out our Scot Calvinist heritage.

    AEI March 2012:

    A century or so ago, German sociologist Max Weber observed that Protestant countries in northern Europe tended to outperform the Catholic and Orthodox countries in the south of the continent. Weber believed that the northerners had a stronger work ethic, were thriftier, and possessed more of what is today called “social capital.”

    • I guess Weber wasn’t around to see the most Protestant states in the US become the most poor and backward, while the more Catholic northeast prospers.
      But what’s your excuse?

    • Well,
      that’s already been established, long before Weber, many times over, since the industrial-rev. basically Northern hemishphere outproduces southern hemishere, but so what?, sounthern hemishere never NEEDED, as much as northerners, ie, not the same cold climatic patterns,…, plus, it really had NOTHING to do wheter you’re a “northern” Protesant, Catholic, Anglican, Calvinist, Muslim, Jewish, … whatever.

      Most Germans (Germanic’s) are of course Protestant and NOT RC’s, but so what ?
      And, they have been thus for hundreds of years -so what’s your point about ?
      …and btw, a century ago, Weber was writing for a still newly born Nationalistic Germany – get it?

      U’re gonna need more than that for u’re theoligical thesis, mein fraulein.

      Corrupt Capitalism = Corrupt Gov’ts + corrupt Unions + corrupt Employers.
      Therefore THAT is what causes DEBT, and NOT the “employee’s”.
      In fact, ALL Employers couldn’t give a rat’s petoobee, if you were Calvinist, or Martian. -in other words, can you kill yourself working for them, while they pay you the least amount of money to do it in ?. -that’s all that matters to them, always. To a point, they are right.
      But, all the while, they, and your Gov’ts, and your Unions,…, walk away with huge illegal profits, (this is the “corruption” part), and therefore -there are your DEBT’s !,
      And, they just add even that, to your already burdensome TAXpayer dollar base, all the while, blaming YOU (Canadian Taxpayers) foir this dilemma, which of course magically never seems to go away ? -LoL.

      In Canada, lately, we have called them the Harper-led CON’s Gov’t.

      • Christianity is the largest religion in Germany, with around 51.5 million adherents (62.8%) in 2008.[164] Relative to the whole population, 30.0% of Germans are Catholics, 29.9% are Protestants belonging to the Evangelical Church in Germany (EKD), and the remaining Christians belong to smaller denominations each with less than 0.5% of the German population.

        • you’re right of course (today), and after 2 World Wars,
          but I thought we’re talkking about hundred years ago, Weber time ?.
          -the rest I kinda adlibed ’till today…

      • In Hester’s defence, he may have somehow received a very old, outdated conservative memo to the effect that the swarthy hordes of lazy, potato-eating, wastrell Papists are working on orders from the Pope to undermine moral Protestant society, and somehow missed the update that Catholics are now ok!

  2. In 1980, I’m proud to say I bought my first house at exactly the worst time in the modern history of Canada to buy a house. With a 15% down payment, my mortgage was one year @ 23.5%. To be fair, there was no assumable and houses of that status were going at a very, very reasonable price. After the year was up, I renegotiated to 14.5% and thought it was as good a deal as I was going to get.
    It can happen again….

    • Difference between 1980 and now is government is broke. Between provincial and federal debt levels, I don’t expect interest rates to go up as fast as they should result will be big inflation and devalued money. People should expect interest rates to go up as well as get hammered by inflation.

      I really doubt we will see fair rates of interest to offset real inflation for at least 10 years. As fair interest rates would be something above real inflation + taxes for a stable sustainable economy.

  3. Actually, Ottawa/BoC is too bankrupt to raise rates to fair levels. So now is a good time to buy and here is why.

    If you pay today with debt for a home, the debt itself is depreciating as money itself is not holding value:

    While you end up working for less value money and your pensions have negative value returns after inflation, the value of debt is in depreciating money. As long as you can afford the cash flow, and this is a big IF, it is the best way to go.

    You can get appreciating currency investments abroad that yield 5-6% plus currency gains, why pay off a 3% mortgage? Government has this attitude, lie and deceive about real inflation, lie and deceive the people that the cheap fraud easy debt is really being paid as a inflation tax on everyone.

    Its also why I expect homes and stock prices to go up in cost/dollars. As government can’t electronically counterfeit a home. As lower value money means you need more money to buy stuff.

    Myth: GDP growth drives jobs.
    Truth: People with less value money spend more to get less goods and services, and that means less jobs are needed.

    Why does governemtn do this fraud is simple, statism greed. Our governemtn srefuse to become efficient, refuse to be effective and refuse to lower taxes and it bloat on taxpayers wallets….so it needs negative value debt and money print fraud to keep going.

    Governemtn is more important than we the people, the economic slaves get less value money.

  4. My gawd….I haven’t heard a Calvinist lecture like this since the 50s when household debt became allowable, and people were finally able to own something before they died!

    Maybe it’s the Prosperity Gospel that’s at fault, hmmm?

    • Sounds like you need to hear it more often. If you don’t think personal debt-levels are a problem, then you’re out to lunch. You’re singing the same tune Alan Greenspan was singing in 2007. He wrote in his biography that he felt the high housing prices and high debt levels in the US were “more beneficial than harmful”. Poor Alan released his biography in 2007. Had he waited a year, that book would have read much differently.

  5. So … we can make all the finance boomers happy when we can put
    RRSP contributions on the credit card ? Perfect.

    • RRSP is a bad investment, do TFSA. As TFSA investments come without inflation taxes. its cheaper to prepay taxes tody than after 500% of inflation at full RRSP rates.

      I am in the RRSP tax trap, I have no way of getting my money out at the same or lower rates than I deferred on the way in. Thus I am in a RRSP tax trap.

      Only good use of a RRSP I know of is if you plan to go a few years without income and travel, then use the RRSP to average down taxes, a short term play. As a retirement egg, you are better off in a TFSA then a cash investment account where you can get gains deductions and not 100% inflation taxed.

      Plus, TFSA and cash accounts are more flexible without the tax rape if you decide to retire outside of Canada. Pulling $200k out of a RRSP for a retirement property can trigger up to $90k in taxes. Lack of flexability alone should scare people away form RRSPs and into TFSA.

  6. without the spending, lots more business would have close shop. Consumers create jobs, not business.

  7. the KEY word is “FATAL”…
    and economically-speaking (and socially) IT WILL BE FATAL.
    Before he left our shores, forme BoC governor “CARNEY” liked to warn Canadians about taking on too much debt — but he never did anything but warn us — no lowering of interest rates at all.
    Jim Flaherty was (and is) the same — all talk except that at least he made mortgages a little tougher to get.
    Did the housing market take a hint?
    NOT for LONG.
    We will be in REAL trouble soon. When AFFORDABILITY drops as low as it is today, it is only a matter of TIME.
    And who really thought we would miss the housing crash of 2008?
    We were just slow to leave that party — we had a few more drinks than our American friends and we will pay for it.
    The hangover will be bad — it is too bad we did not learn from the experience of others.

    • Speaking of Government Debt, and Canada is in deep water on this one. it is another good reason not to have Trudeau Junior as our Prime Minister, given the damage that his Father did to our Financial Situation! You do of course remember Pierre Trudeau, don’t you?

  8. Frugality is a virtue!
    I guess the hoards of comments below forget that its Canadians who are in debt 160%+.
    Please no more passing the buck on Weber–the north east or south east US etc.
    Utter nonsense and typically Canadian to pass the buck and blame everyone else except themselves for the consumerism and debt load they have acquired.
    Please people look in the mirror at yourselves, your fellow Canadians and so many of your governments. Reality check is in order.

  9. Just following our governments lead ….