The under-the-radar changes that may soon deflate (or pop) the housing bubble

Could this be the Harper Conservatives’ real plan for the housing market?


Ben Rabidoux is is an analyst at M Hanson Advisors, a market research firm, where he focuses on Canadian mortgage and credit trends and their implications for the broader economy. He blogs regularly about the housing market at The Economic Analyst.

The next decade for real estate in Canada will be fundamentally different than the last. Our aging population, a mismatch between where our prices are and where they should be based on our economic performance, and rising interest rates are all reasons for this. However, the greatest difference will be in the availability of credit going forward, and those who try to explain real estate prices in Canada without acknowledging the role of easy, accessible credit over the past ten years or so have completely missed the boat.

Despite three rounds of mortgage rule changes since 2008 that largely corrected previous mistakes, we’ve seen a decade of extraordinarily loose lending in Canada. But the era of cheap credit may soon end–and possibly quite abruptly. News has come from Canada Mortgage and Housing Corporation  and the Office of the Superintendent of Financial Institutions Canada, Canada’s chief financial regulator, that major changes are on the way, and it’s hard to understate how significant they may prove to be.

Here’s what those changes look like, in a nutshell:

1)  CMHC will drastically draw down on mortgage insurance.

CMHC insures nearly 50 per cent of the whopping $1.1 trillion in residential mortgage credit currently outstanding in Canada. The growth in CMHC insurance has been shocking (more on that here)–just look at these charts:

The issue here is that CMHC has a parliamentary-approved mortgage insurance cap of $600 billion and is rapidly approaching that cap. Admittedly, Finance Minister Jim Flaherty has lifted that limit several times before–in 2007 its was $350 billion… meaning that taxpayers’ exposure to the housing market has risen by 70 per cent in just four years. With mounting scrutiny over the sizzling hot housing market and the risks it poses for our public coffers, though, it’s unlikely that Ottawa will step in to raise the cap again this time.

It’s also unlikely that the “private” mortgage insurer, Genworth Canada, will pick up the slack. They too are subject to a parliamentary cap of $250 billion, since the government has to step in to insure 90 per cent of the value of their mortgages too, if they ever become insolvent. So there is a very large contingent liability baked into Genworth’s insurance as well. It seems doubtful that the government would ask CMHC to operate within their cap while letting contingent liabilities build up in the private mortgage insurance market.

A few weeks ago, CMHC indicated in their 2012-2016 Corporate Plan how they plan to proceed given how close they are to their parliamentary cap. The bottom line is that for the next four years their insurance business will need to expand by less than $10 billion a year. Compare this to an average annual increase of close to $50 billion annually between 2007 and 2011. (Granted, a significant portion of this growth in recent years has been in the form of after-market bulk portfolio insurance purchased by the big banks to insure mortgages that do not by law require it, but the end result is the same.) Given that CMHC now accounts for half the mortgage market, it’s fair to say that a rationing of their credit is a very big deal. This is a hard stop if ever I’ve seen one. To appreciate how significant this is, note how the projected growth in mortgage insurance compares to prior years (numbers on the left indicate millions of dollars):

2) OSFI targets HELOCs and conventional mortgages.

OSFI recently recommended reining in home equity lines of credit, known in the industry as HELOCs. The suggested fixes include capping loans at 65 per cent of the home value, introducing new and more conservative means of estimating how much a residence is worth, and amortizing the loans (meaning that borrowers would have to repay the principal within a certain time frame, as in a mortgage, whereas now they can simply keep paying interest on their HELOCs). If adopted, these changes would be massive. And they would put considerable pressure on consumer spending, which, as the chart below shows, has grown to account for over 63 per cent of the Canadian economy:

OSFI also proposed tightening some of the rules around conventional mortgages (i.e. where the buyer puts down more than 20 per cent of the home value). Here’s a sample of what the recommendations include:

  • Requiring banks to ensure borrowers haven’t borrowed their down payments. Right now, the verification typically consists of three months of bank statements, meaning it is currently possible to borrow a down payment, leave it in a bank account for three months, then claim it as saved capital–which is ridiculous to say the least.
  • Tightening up on certain forms of lending for conventional mortgages, particularly stated income mortgages.
  • A more conservative way to calculate the debt-to-income ratio that lenders usually use to evaluate borrowers’ eligibility for mortgages.
  • More conservative property appraisals.

These are guidelines and are open to public discussion until May (expect fierce opposition, particularly among mortgage brokers), but, ultimately, the decision to implement these measures is entirely in OSFI’s hands.

3)  “Increased oversight of CMHC” coming.

The media have been quick to say that the federal budget did nothing about the housing market, because it contained no new measures targeting amortization lengths or down payment requirements. But the government seems to have opted for a more subtle strategy. Instead, Flaherty has indicated that Ottawa will propose increased oversight of CMHC. Recently, the International Monetary Fund suggested CMHC fall under the jurisdiction of OSFI. I suspect this may well be what the government has in mind. (CMHC currently falls under the jurisdiction of the minister responsible for Human Resources and Skills Development Canada–WHY EXACTLY??)

Putting CMHC into OSFI hands may well represent a greater tightening of credit than Flaherty could have done by shortening amortization lengths or increasing down payments. OSFI regulators, in fact, have gone public on several occasions to express concerns about underwriting standards in Canada. Expect significant changes to happen, though likely behind the scenes.

As an aside, this would represent a pretty cowardly move on the part of Flaherty and the Harper Conservatives who very clearly recognize the risks baked into the housing market, want it to cool, but also want the blame to fall on someone else should the “soft landing” turn into a bust. This may well be political cowardice at its finest.


The under-the-radar changes that may soon deflate (or pop) the housing bubble

  1. Political cowardice is the Harper brand man!

    So the bubble looks like it took off under Martin [ and may have continued in any case] but really flourished under jumbo Flaherty. If this all goes south[ pun intended] it’s all Harper/Flaherty’s baby – for once – no blaming the libs this time. But, you say they are already laying the groundwork for passing the buck. This has to be the most gutless bunch of bullies we have ever sent to Ottawa, and that is saying something. If it works they will of course claim ALL the credit.
    Well at least they seem to be aware of the danger. Now that they’ve helped to hook us all on the crack of cheap credit and allowed us to become Trump wannabes and big time speculators, all the while recklessly exposing the nation to the real risks and dangers inherent in laissez faire rampant bubble speculation; good luck with getting us off the stuff and pass the pipe..

  2. The best part is how much that cap was raised /after/ the US implosion.

  3. That last paragraph sums up this government nicely. They are eager to take credit for things they had little to do with and even more eager to lay blame elsewhere when things go bad.

    • How is this different from any politicians, anywhere, of any affiliation?

  4. What happenned in 2006?

    • Zero down, 40 year mortgages insured by the government.  (mortgage-rent) used for debt service limits allowing virtually infinite leverage.  

  5. “Recently, the International Monetary Fund suggested CMHC fall under the jurisdiction of OSFI. I suspect this may well be what the government has in mind. (CMHC currently falls under the jurisdiction of the minister responsible for Human Resources and Skills Development Canada–WHY EXACTLY??)”
    This leaps off the page.  How are Canadian taxpayers exposed to these tremendous financial liabilities by an institution which is regulated by ToysRUs and not OSFI.  This smacks of corruption and is a great reason to abolish CMHC immediately (no more guarantees on any new issuance). Good stuff overall, Ben. 

    • The board of CMHC is also chockablock with real estate industry types, and not serious finance types.

  6. WHOS stupid idea was this The goverment get tax every way we turn Now they are making that we can,t afford a downpayment till our kids are half grown Why don,t you ask us what we want its our money Ya Think!

  7. How can anyone blame the government? It’s not the gov’t that issues mortgages, it’s the financial institutions that do everything they can to make “the numbers” work for a mortgage application. The banks really do not care whether or not you can afford the mortgage because their worst case scenario is that you default, they auction the property off and if the sale does not meet the loan amount chmc will kick in the rest. Banks need to start calculating tdsr and gdsr on after tax income versus gross (someone on paper makes 70K a year but actually takes home 45 after tax. The difference is 5833 per month vs 3750. That’s a difference of 2083 PER MONTH. Of course that will skew any type of debt ratio! Potential buyers have to truly evaluate their situation before taking on the biggest debt they’ll ever have. Banks won’t change their practices because they want to make money. Also, why in the heck would anyone want to pay the prices that are currently listed? 300 to 400 K for a townhouse or condo? Really? Just collectively wait and drive down the market. If another year of rent means you can save (who knows) maybe a 100K or more..that’s a risk worth taking.
    My last beef is with what the chmc actually does with the money they collect? I’ve read that mortgage default in Canada is pretty low. If that is the case, they are collecting large sums of money and by the sounds of it doesn’t have to pay out much from an “insurance” perspective. So where does the money go?
    Ultimately things do indeed need to change and thenchange needs to start with the banks. I apologize to those of you who are bustingyour butts to buy a home and subsequently depend on the current method banks calculate income but you need to ask yourself. Is a house worth eating kd for years? Is it beneficial for you to put every dime you work for into your payments and other household expenses but make up any shortfall with credit? Banks need to stop acting like financial advisors / planners and actually start DOING financial planning and advising

    • The government guarantees mortgages, which is as good as issuing them.

    • Worst case ATI on $70k is $50,337 and around $55k in AB, BC, ON.

      • Try again. $70K @ 22% Fed + 10% AB = $47.6K.

        • Yeah, but the 22% only applies to amounts above the 41k threshold. If you calculate it using the CRA forms, Federal tax on 70k is 12492, or 17.8%, and that’s before calculating any of the non-refundable tax credits.

          That leaves 57508, and if Alberta has a flat tax starting from 0 earnings that would add another 7K in tax, so you’re still left with at least 50K

        • You confused marginal tax rates for average tax rates.

    • People don’t pay 300 to 400 K for a townhouse or condo because they want to, but because they have to. Everybody needs a place to live. If they didn’t have to, we wouldn’t see these kinds of prices. It’s the “demand” in “supply and demand”.

      • No, you don’t HAVE to purchase a condo for $300 to $400K. You can rent. I did for a long time until I could afford it. It’s precisely this mentality that has helped create the bubble in the first place.

        • Rent is often MORE than a mortgage payment.

          • LOL. Not true but keep telling yourself that.

          • Mortgage may be lower than rent, but unless downpayment is really high, mortgage+utilities+insurance+taxes+maintenance are definitely higher then rent. (If downpayment is high, then for fair comparison one should include a cost of investment opportunity)

    • Hello? Welcome to Canada, the banks are the government.

    • also, debt servicing ratios DO take into account after tax income / tax rates – that’s why you’re limited to 35% GDS and 42% TDS or 44%TDS if you have good credit. The other 58% is to account for taxes and other expenses.

  8. It Seems to me that when they say something is going to “pop” it doesn’t, just like the stock market it will keep going up until disbelief. 
    And then one day…much later…when nobody’s looking, it will happen…maybe.

  9. The Harper Cons have bungled the housing file right from the start. 

    Harper began importing American banking deregulation in 2006  with reckless 40-year no-money-down mortgages. To prevent a housing meltdown in 2008, he authorized a secretive $75B bailout (added to the debt) and a $200B low interest line of credit to banks. The CHMC (federal mortgage insurance agency) was also ordered to purchase $125B worth of junk mortgages. (For all the hard work bankers did in receiving the federal money, they rewarded themselves with $8B in bonuses.)

    Global Research: Canada’s 75 Billion Dollar Bank Bailout

    Banking, smoke and mirrors
    Hidden bank bailout and $8 billion bank executive bonuses

    Globe and Mail: Special investigation: How high-risk mortgages crept north

  10. Regarding why the CMHC is currently under the jurisdiction of HRSDC, I believe it has to do with the fact that the origins of CMHC was for the purpose of enabling housing for war Vets and getting them back on track at home. But the move makes total sense now, seeing as how much CMHC has transitioned and it the lifeline of our housing market.

  11. egotripped (one day ago)
    Get your head out of the sand.
    The government meaning you and I are guaranteeing all mortgage products since 2008 in order to pump up the economy and save the election for the cons.
    If you are a banker. Why do you care who you lend money to if you cant lose.
    As long as the customer has a pulse lend to him!
    This is why we have a housing bubble. IT IS ALL BECAUSE OF EASY CREDIT!

  12. why were any institutions even allowed to insure conventional mortgages anyways? This is what got us into this mess. A Financial Institution makes a decision to lend because they want to make money, but they don’t want any risk to making that decision? Wouldn’t it be nice if we could all eat our cake and have it too?!!! The insurers were stupid to allow this.

  13. Love how this is blamed on the conservatives – like the liberals would have done any different.