Canada’s economy is hostage to the housing bubble

The debate over B.C.’s new tax on foreign buyers exposes how badly the Canadian economy needs ridiculously unsustainable house prices to keep rising

A sold home is pictured in Vancouver, B.C., Thursday, Feb. 11, 2016. Canada Mortgage and Housing Corporation says there is mounting evidence that house prices in a number of Canadian cities are out of whack with incomes and other economic fundamentals.The latest report from CMHC says there is evidence of overvaluation in nine of the 15 real estate markets included in the research. THE CANADIAN PRESS/Jonathan Hayward

A sold home is pictured in Vancouver, B.C., Thursday, Feb. 11, 2016. Canada Mortgage and Housing Corporation says there is mounting evidence that house prices in a number of Canadian cities are out of whack with incomes and other economic fundamentals.The latest report from CMHC says there is evidence of overvaluation in nine of the 15 real estate markets included in the research. THE CANADIAN PRESS/Jonathan Hayward

When one of the real estate industry’s largest lobby groups, Mortgage Professionals Canada, released a report last month analyzing the state of the country’s housing market, it found, to absolutely no one’s surprise, zero evidence of a bubble that would warrant political intervention. “Now that the energy sector is no longer a major economic driver, a healthy housing sector is even more essential,” the organization’s chief economist, Will Dunning, warned in a statement. “It would be tragic to unnecessarily impair this key economic force.”

If that sounds like a ransom note, it more or less was: do anything to jeopardize the housing boom, bub, and the economy gets it. Obvious self-interest aside, Dunning and others who have issued similar warnings are right, to a point. Canada’s economy is hostage to the housing market. Rising house prices and the accompanying wealth effect, courtesy of ballooning equity lines of credit, have kept the economy from faltering as business spending retrenches and exports disappoint—last year real estate was by far the largest contributor to GDP in seven of 10 provinces, including B.C. and Ontario.

Meanwhile the chart below shows Canada’s economy has never been more reliant on residential real estate and household spending. (It’s actually an update of a chart former Bank of Canada Governor Mark Carney used in 2012 to highlight the extent to which the economy had come to depend on households. As the forecast at the time showed, the Bank firmly believed this would slowly improve over the ensuing years. Instead, it exploded higher.)

Deep down every homeowner, speculator, realtor, Bay Street financier, mortgage broker, bricklayer, central banker, car dealer, politician, regulator and kitchen countertop installer in the country is worried by the prospect this game might end. As B.C. Finance Minister Mike de Jong said earlier this year, “You’ve got to be careful about having the state intervene to try and regulate pricing, or depress pricing. That will have consequences for a lot of families.”

Yet the din of calls for politicians and policy-makers to tackle affordability problems in red-hot markets like Vancouver and Toronto has grown deafening. Which brings us to the flurry of announcements coming out of B.C. First the province moved to end the self-regulation of the real estate industry after multiple reports of shenanigans. It then started tracking and releasing data about the scale of foreign buying in Metro Vancouver (about 10 per cent of the value of all deals, equal to $885 million over a five-week period). Now the provincial Liberals have introduced a 15 per cent tax on foreigners who buy property in Metro Vancouver. That’s a $300,000 tax bill on a $2 million home. It takes effect Aug. 2, and already Ontario is considering a similar tax, saying it’s concerned foreigners rebuffed by B.C. will shift their focus to Toronto.

Even though the real estate industry in B.C. has long argued foreign buyers are a small part of the market, it has come out strongly against the tax, arguing it “needlessly injects uncertainty into the market.” But will these new measures really bring affordability back to the Vancouver market? And by that we mean bring an end to double-digit price gains, bring about a steep correction in house prices to levels the city’s lowly middle-class incomes can afford, bring about an end to staggering household debt levels and ultimately, bring about the end of housing as the economy’s engine of growth?

I’m not convinced. The new tax is, relatively speaking, a politically safe and mild measure. It lets the government be seen to be doing something about high real estate prices at a time when polls overwhelmingly show voters want action on the issue. Conveniently, it also lets the province fill its coffers without the customary backlash that usually accompanies a tax grab. After all, if there’s one tax people can get behind, it’s a tax that targets filthy rich foreigners (the Liberals said the funds will go to new spending on “housing and rental programs”).

But the tax itself may also prove ineffective. Will a 15 per cent tax matter to an offshore speculator who is convinced the value of the house he or she buys will grow by double that rate in one year? If $2 million for a rundown bungalow seems reasonable, might not $2.3 million? Also, if indeed foreign buyers (read: mainland Chinese) are shunting their money out of China and away from the reach of an increasingly authoritarian government, might the tax simply be seen as an unfortunate but necessary fee given the alternative?

This all assumes that the tax works as planned. B.C. has commenced a cat-and-mouse game with people with extremely deep pockets and access to very smart accountants and lawyers, a valid point the provincial NDP raised. Nor will the tax apply to buyers who come to B.C. by way of Quebec, which maintains an investor immigrant program that sees wealthy newcomers “invest” $800,000 in exchange for visas. De Jong, who earlier dismissed the suggestion that foreign buyers were driving house prices, has also dismissed this line of thinking as “conspiratorial,” though the numbers suggest it’s worth consideration: last year just under 5,000 foreigners and their family members entered Quebec through the program, and historically close to 90 per cent have made their way to B.C.

Ultimately B.C.’s new tax will likely fail to cool the overheated market for the same reason every other effort to date—tighter mortgage lending standards, larger down-payment requirements, jawboning bordering on pleading from the Bank of Canada—has failed. The world is awash in cheap debt, and whether we’re talking about wealthy foreigners or local residents desperate not to be shut out of the market, the siren call of fast-rising house prices is too powerful to ignore. Until that changes, Canada’s economy will continue to be captive to the bubble.


Canada’s economy is hostage to the housing bubble

  1. A rare honest article in the Canadian media about our “ponzi-conomy.”

    I was starting to think it was illegal to suggest that we are in a housing bubble, that Chinese money is behind it (no, that isn’t a racist comment), and that the rest of our economy is basically in the dumpster.

  2. For every 2 million dollar home on the market there is a hopeful Canadian 9ior foreigner) looking to make some money off the sale – either a killing or only a reasonable profit. To buy up or to get out. But the whole situation is predicated on greed, not need … or not on need that isn’t driven by the fallacious notion that not buying now might mean not being ‘able to buy’. Until the whole edifice comes crashing down as it did , massive once before , in the thirties. But who’ll get stung – somebody walking away from a mortgage in which they have nothing much to lose, or the banks and their investors , stuck with homes for which they’ll ‘gain’ pennies on the dollar and a million dud mortgages. Wise foreign ‘investors’ make down payments and rent. They can even walk away too – they have their citizenship papers.

  3. Does anyone really believe that just 10% of the houses bought in the lower mainland are foreign owners?

    The real estate industry is horribly corrupt and I’ll bet a month’s wages that a proper investigation into these sales would find 20% or more. If there isn’t enough time during the sale to perform a structural inspection, there certainly isn’t enough time for a background check.

    The 15% tax is a drop in the bucket. There are many better solutions that the NDP (or hell, the Conservatives) could suggest that would win them a landslide in the next election.

  4. 15% won’t make any difference. The Chinese are borrowing money hand over fist from crumbling Chinese banks then using relatives or ’employees’ to get it out of the country. A more sensible strategy is to do what
    FinCEN is doing, the Treasury Department’s Financial Crimes Enforcement Network announced that it would expand a program it had kicked off in January to identify and track secret homebuyers who hide behind shell companies. The expanded program will “temporarily require US title insurance companies to identify the natural persons behind shell companies used to pay ‘all cash’ for high-end residential real estate in six major metropolitan areas,” So name, shame and eventually lock up the criminals. And there are a lot of them out there in the real estate industry. Today, it is the Chinese laundering money in RE, tomorrow it could be ISIS or Mexican drug cartels.

  5. As long as Vancouver and Toronto continues to attract foreign investors to invest in the real estates and there are money to be made, the so called bubble is only to those hedgers wishing it to burst. If 10% transactions are from foreign buyers, what is the percentage are Mainland Chinese? The problem is not taxing extra 15% but rather the whole issue may becomes racist. One should be careful when pointing finger at a small group without proves saying “Money Laundering”!

  6. It’s beyond the article’s scope, but after the derivatives bubble crash in ’09, why is no one asking how much tertiary wealth is gained by gaming the system. How much money of domestic investors is tied up in funds whose value is real-estate driven?

    The triple A investment rating got gamed in ’09 by layering riskier mortgages carefully under rock-solid mortgages in such a way that no risk thresholds were crossed for the ratings agencies.

    So how many public pension funds, mutual funds, indices-tied banking retail products have projected their future value based on increasing home prices? What happens to those when the music stops?

    I suspect it would be very difficult to motivate a power structure, whose wealth is largely investment-based, to radically devalue their own portfolios just to make the playground more fair.

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