Courtesy:The Wall Street Journal
OTTAWA (Dow Jones)--Canadian Finance Minister Jim Flaherty moved Monday to tighten mortgage rules for the second time in a year after statistics showed Canadian households have piled on debt amid historically low interest rates.
Flaherty announced that he was moving the maximum amortization period to 30 years from 35 years and lowering the refinancing limit to 85% of a home's value from 90%. As well, he said the government was withdrawing insurance on home equity lines of credit.
The changes will come into force March 18.
The tougher rules come after Statistics Canada reported that the average Canadian household debt load is now at a record 148% of income and that Canadians have added to their debt at a pace even faster than their American counterparts. Indeed, the debt-to-income ratio of Canadian households is now higher than in the U.S.
Flaherty said the moves were made to ensure the "stability of the economy" and "that lending practices are sustainable." He said they were intended as a preventative measure.
"We're responding to a situation that could develop and we want to avoid that," he said in a press conference.
Flaherty said he would continue to monitor the housing market carefully and repeated his warning to Canadians that interest rates will "eventually" rise from their current low rates. He noted that households should beware of the "dangers of taking on more debt."
Economists said the tighter mortgage rules give the Bank of Canada room to hold off raising interest rates.
"With all the talk about the non-sustainable pace of household debt accumulation, there was speculation about whether or not the BoC would consider hiking interest rates for reasons not directly related to its inflation-targeting mandate," Pascal Gauthier, senior economist at Toronto-Dominion Bank, said in a report. "Such speculation can be put to rest for the time being, and we can go back to focusing on the inflation outlook."
The Bank is widely expected to hold its benchmark overnight rate steady at 1.00% for the third consecutive time Tuesday at its first policy decision of the year.
The government likely considered it important to act now instead of including the measures in the upcoming budget as had been speculated because of the risk of an election, said Michael Gregory, senior economist at BMO Capital Markets. The budget could spark an election if it isn't supported by at least one of the three opposition parties, as the government doesn't command a majority in the House of Commons.
"There is a risk that the budget could become a catalyst for a federal election (meaning the budget wouldn't pass), and these measure were obviously deemed too important not to be passed and put in place for when Canada's housing market wakens from its winter slumber," Gregory said in a report.
The budget is expected in February or March. Flaherty said it wasn't "imminent."
The changes to Canada's mortgage rules are the second in the past year, and third in the past three years, as the government has wrestled with the dilemma of maintaining low interest rates to keep the economy humming along, but then discouraging Canadians from taking advantage of those low rates by adding to their debt.
In 2008, the government lowered the maximum amortization period to 35 years from 40 and eliminated 100% financing, requiring home-buyers to put a minimum 5% down-payment. Last spring, it lowered the refinancing limit to 90% of a home's value from 95% and made it tougher for Canadians to qualify for high-leveraged mortgages.
"Canada's well-regulated housing sector has been an important strength that allowed us to avoid the mistakes of other countries and helped protect us from the worst of the recent global recession," Flaherty said. "The prudent measures announced today build on that advantage by encouraging hard-working Canadian families to save by investing in their homes and future."
Frank Techar, president of Bank of Montreal's (BMO) personal banking division, called the changes "prudent, measured, responsible and timely."
In recent months Flaherty, Bank of Canada Governor Mark Carney and even the Superintendent of Bankruptcy James Callon have issued warnings about the dangers of taking on unsustainable debt loads. Callon noted in a letter issued earlier this month that the number of consumer insolvencies filed in Canada in October 2010 was 22.5% higher than in 2007-08, before the economic crisis that led to the recent recession.
While mortgage debt does represent the majority of household leverage, lines of credit have become an increasing concern. Bank of Canada Deputy governor Agathe Cote said in a recent speech that over the past decade, the volume of home-equity lines of credit and loans has risen by 170% - twice the rate of mortgage debt - and now accounts for 12% of overall household debt.
According to credit agency TransUnion, Canadians carried an average household debt of C$25,163 excluding mortgage debt, in the third quarter of 2010, up 4.3% from a year ago.