Banks pressure Ottawa to rein in consumer debt; Peter Mansbridge interviews Ed Clark

Banks calling for prudence

Last week BMO and TD bosses vocalized support for tougher mortgage rules in the form of lower amortization and/or higher down payment requirements.  Now it appears that the Conservative government is in some pre-budget consultation meetings with these same banks regarding the need to rein in consumer debt levels which, in case you missed it, was reported earlier today at a new high of 148.1% of personal disposable income.

Ottawa, banks discuss measures to rein in Canadians’ personal debt

“Ottawa is talking to the banks about putting new measures to curb the rise in consumer debt into the next federal budget….Several bankers have told him that they would support further federal moves to cool the mortgage market, including cutting the maximum term of mortgages or increasing the minimum down payment.”

“Fairfax Financial CEO Prem Watsa is among the influential voices pointing to the impact of soaring debt on the broader economy. Not only are Canadians overleveraged, primarily with mortgage debt, low interest rates have prompted speculative buying that is artificially inflating housing prices, he said.”

“The risk is that if consumers act relatively quickly to reduce their debt load, that could cause fresh headaches in some parts of the economy, illustrating the conundrum that policy makers face as they balance the economic benefits of consumer spending with the risks.”

This is exactly why the government has been so hesitant to curb debt levels.  As we’ve discussed at length on this blog, credit bubbles are fantastic for an economy in the short term.  When secular shifts take place in consumer perception of debt, if that shift is one towards an embracing of credit and consumerism, it is down right great for economic growth.  Aggregate demand is pulled forward, unemployment drops, consumer sentiment is jovial, easy credit flows into certain asset classes (often real estate), rising assets create additional consumer spending via the wealth effect….rinse, repeat.  Good times!

Alas it is nothing but a mirage as that debt must eventually be repaid, meaning a gap in aggregate demand, reduced demand for credit, falling consumer spending, rising unemployment, etc.  Mean reversals from points of significant historical deviation are often quite nasty.

Meanwhile, the finance minister was quick to confirm that a tightening of mortgage rules has not been ruled out, despite the obvious economic pain it would cause:

“Canadian Finance Minister Jim Flaherty warned on Monday the government could tighten mortgage rules further if needed after a report showed the country’s household debt levels have soared.

“As I’ve said before, if necessary, we will tighten the mortgage rules again. We keep an eye on the level of credit.”

We’ll see about that.  I’d be a bit surprised to see anything drastic without a majority government in place.

 

Peter Mansbridge interviews Ed Clark

Speaking of those bank CEOs in the news, TD CEO Ed Clark was interviewed by Peter Mansbridge on ‘Mansbridge one-on-one’ this past weekend.  The last 7 minutes are fantastic.  Clark manages to touch on most of the big themes on this blog in a 7 minute sound bite.  The full video is here.

I quickly transcribed a few of Clark’s key quotes.  They may not be perfectly verbatim, but they do capture the point.

On the Chinese economy:

“I’m worried about this world economy where you have China running an export strategy that is not sustainable”

On the US economy:

“The US housing situation looks incurable….the fiscal situation is not sustainable”

On Europe:

“Europe is in a fiscal emergency that we don’t see a resolution to.  It is a deeply troubling economic environment”

On the demographic challenges facing Canada:

“I think the challenge for the next 20 years….if you look at the past 40 or 50 years, you have an extraordinary situation where you’ve had baby boomers entering the workforce and women joining the labour market…..the population of workers to those not working soared.

As a result, per-capita income was artificially raised and per-capita revenue for government was artificially raised.

Politics was defined as saying, “what more can we give to the population with all this money coming in?”  We’re now going into a period where the exact opposite is happening.  Government revenue will grow more slowly while demand increases.

When you look at this world, the question is, “Who’s promise is going to be disappointed?  Who’s going to bear the fact that we can’t deliver what we thought we could deliver?”

Other countries are finding this out as austerity is beginning to bite.  Promises made at a time when demographics were far different and the credit bubble in the Western world was just starting will become increasingly difficult to honour given the current economy and demographics.  More philosophically, should they be honoured?  While the ethics involved in negating a promise certainly don’t make me comfortable, neither does the idea of asking future generations to make massive sacrifices to their own standard of living to sustain promises that up until the last half century would have been looked at as ridiculous.

Yes, the next few decades will look nothing like the last.  For that matter, the next few years should be a wild ride too.

-Ben

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5 Responses to Banks pressure Ottawa to rein in consumer debt; Peter Mansbridge interviews Ed Clark

  1. Jen says:

    Nicely written, Ben.

    Closely related to the much needed tightening of mortgage qualifying rules: this is a publication from a company called Corporate Economics, commissioned through the City of Calgary. I realize that you’re probably not in Calgary (neither am I), but there’s some very interesting information contained in the report regarding the impact of changes in CMHC’s qualifying rules on the mortgage market. If the thesis is correct, there’s no reason to believe its effects were confined to Calgary- no doubt they could be generalized to a national level. Some highlights of the report include:

    “Our analysis of CMHC rule changes on Calgary prices
    indicates that for every year that insured mortgage terms
    were extended beyond 25 years Calgary house prices
    rose by between $6,000 and $10,000. Between 40% and
    70% of residential price changes in Calgary between
    2004 and 2009 can be attributed to CMHC amortization
    rule changes.”

    http://bit.ly/gqWuOw

    Mike Fotiou was kind enough to post this report on his blog (Calgary Real Estate Review). The post (in the comments section) and the resultant discussion is here: http://bit.ly/giJxYU

    I know you’ve posted on similar issues in the past and I’d love to get your feedback on the potential implications of this, if correct.

    I thoroughly enjoy your fantastic blog! It’s a daily read.

  2. John in Ottawa says:

    It doesn’t make much sense to close the barn door after the horse is gone.

    The government, minority or majority, cannot kick the legs out from under the lower end of the housing market. Housing markets collapse from below.

    The banks are being a bit disingenuous in their call for tighter mortgage rules. Over the past three years credit card debt on bank balance sheets has grown by 15% and line of credit debt has grown by 20%. In the past six quarters credit card debt has flat lined while line of credit debt has grown by 10%. This suggests that credit cards are maxed out and being serviced with the line of credit. There is also no way for us to know how many households are currently servicing some portion of their mortgage with their line of credit. The banks know.

    In the past six months, household debt is growing at half the rate of the past several years. Delinquencies are substantially above pre-crisis levels. The level of debt growth is unsustainable and is no longer being sustained. This is what Carney and the banks are telling us, after the horse has left the barn.

    So, the banks are finding themselves in a bit of a box. Tighten up on lines of credit and credit card delinquencies take off. Continue with loose line of credit terms and uninsured liability takes off. Banks have about $500B of (mainly insured) mortgage loans on their books, but they have over $350B uninsured consumer loan exposure. That’s a significant portion of their net $2T assets and is where the real risk lies.

    What can the government do or what can we expect the government will do? I suggest the government will further tighten the rules for second (third and so forth) homes. This will take the froth from speculation off the top of the housing market. For the most part, amateur speculators (middle income consumers buying for the rental market) are in the best position to unwind their holdings in a reasonably ordered fashion over the next two or three years, the so-called soft landing. Wholesale tightening of rules for first homes at this point in the credit cycle will simply force the lower end of the housing market into default (over the next two or three years from failure to qualify for re-amortization) which will precipitate a market collapse from below.

    Americans are guaranteed “life, liberty, and the pursuit of happiness.” We see where that got them. We are guaranteed “peace, order, and good government.” Let’s hope we get some.

  3. Pingback: No debt problem here! | Financial Insights

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