Debt levels, house prices prompt alert

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Debt levels, house prices prompt alert

IMF predicts moderate growth for Canada, but says targeted measures may be needed

BY SANDRINE RASTELLO, REUTERS DECEMBER 23, 2011


Canadian authorities may need to take more measures to rein in the rising level of household debt, which along with high house prices poses a risk to the nation's economy, the International Monetary Fund staff said.

"Adverse macroeconomic shocks, such as a faltering global environment and declining commodity prices, could result in significant job losses, tighter lending standards, and declines in house prices, triggering a protracted period of weak private consumption as households reduce their debt," IMF staff wrote in the annual assessment of the country's economy.
Canadian household debt rose to a record 153 per cent of disposable income in the third quarter as borrowing increased, Statistics Canada reported last week.

The Bank of Canada said this month that high consumer debt is the main domestic risk to financial stability, and predicted the burden will keep reaching records as income growth lags behind borrowing.

House prices in some regions are "above levels consistent with economic fundamentals," IMF economists said, citing an average of 10-per-cent overvaluation. A 15-per-cent decline in house prices accompanied by a severe downturn in construction activity "could result in a GDP decline of some 2.5 per cent over a period of two years relative to the baseline," IMF staff economists
said in the report.

Finance Minister Jim Flaherty tightened mortgage lending rules earlier this year. The authorities are ready to consider additional measures if the slowdown in the growth of mortgage debt is temporary, according to the IMF report.

Potential measures the IMF suggested include larger down-payments requirements for new mortgages and a lower ratio of debt service to income.
Canadian officials are not ready to consider targeting specific provinces where prices have increased faster, according to the report.

The IMF also recommended a review of Canada Mortgage and Housing Corporation, the largest provider of mortgage insurance in Canada, even though stress tests showed that it can weather a severe economic downturn.

"Since CMHC is now one of the largest financial institutions in Canada and the key backstop to the housing market it would be useful to undertake a review aimed at ensuring that CMHC has a modern and effective governance structure and supervision, and assessing the scope for further strengthening its risk management," the IMF said.

The IMF expects growth in Canada to slow to 1.9 per cent next year from 2.2 per cent this year, before accelerating to 2.5 per cent in 2013.

The European debt crisis poses a risk to Canada, even though direct financial and trade links are small, according to the report.

The Canadian dollar is "on the strong side of fundamentals," the IMF staff estimated.
The IMF said it is appropriate for the central bank to keep interest rates "exceptionally low for some time." The Ottawa-based central bank this month left its target for overnight loans between commercial banks at one per cent, where it has been since September 2010.

"On the other hand, should the recovery be accompanied by further sustained increases in mortgage debt as a share of disposable income spurred by low interest rates, a tightening of macro-prudential policies by the government may be needed," it said.

Should the economy weaken, most directors on the IMF executive board, when meeting on the staff report, also added that "there is scope for further monetary easing."

© Copyright (c) The Ottawa Citizen

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