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July 10, 2017 | The Unforgiven

A best-selling Canadian author of 14 books on economic trends, real estate, the financial crisis, personal finance strategies, taxation and politics. Nationally-known speaker and lecturer on macroeconomics, the housing market and investment techniques. He is a licensed Investment Advisor with a fee-based, no-commission Toronto-based practice serving clients across Canada.

Lately there’ve been a few moans like this deposited in the comments section:

Garth, given the scenario with many people forced to sell or foreclose, how likely is it that our current government will somehow forgive debt or make some sort of concessions for these over-strapped ‘buy at the toppers’? Kind of seems like something Justin would do.

Fair question. There’s a new meme, especially among moisters, that government’s the solution to any problem, even one you bestowed upon yourself. With the odds now 94% that the Bank of Canada will begin a lengthy rate-hiking trend on Wednesday, and housing markets already wobbly, what would politicians do if real estate really cratered?

Will Canada forgive your mortgage debt? Will some loans be ‘modified’ as they were during the American housing crisis? Will the central bank choke at the sight of underwater owners and roll rates back again? Will Justin come along to save les derrieres of a generation used to helicopter parents, entitlement and prizes for showing up? Abd with 70% of Canadians now real estate owners, can any government withstand the political storm of not protecting people against their own bad choices?

The best example in our lifetimes of an activist, liberal-centrist government trying to rescue citizens from debt was with Obama. Well over a million mortgages were modified, with the average monthly payment reduced by $535. Eventually Washington would spend more than $2 trillion directly trying to shore up the real estate market. It didn’t work. Prices fell 32% – 70% in some cities and regions – and took eight years to crawl back by 15%. It was a disaster. Even the biggest, wealthiest economy in the world could not keep the wolf from the door.

Meanwhile the Fed dropped interest rates all the way down to zero and only months ago – nine years later – mustered the courage to start slithering them back again. And remember –  this is a country where people can lock in a rate for 30 years, then refinance it lower every time the cost of money falls. That’s impossible in Canada.

What’s our situation?

Well, we owe a touch over $2 trillion in household debt, of which two-thirds is mortgages. Another $211 billion is outstanding in lines of credit secured by houses. In Vancouver and (especially) Toronto, a majority of people who bought properties for $1 million or more last year had debt loads equal to 450% of their incomes. In general, we owe more money than ever and proportionately greater than Americans did when real estate there blew up in 2005.

Our central bank interest rate is at 0.5% and mortgages are the cheapest on record. The low cost of money has not encouraged people to pay loans off, but to borrow more. As a result, real estate prices are at historic levels. And now, as the pendulum starts to swing back, some people think their foolish debts will be wiped away.

Currently the federal government carries a debt of $645.9 billion, which is increasing on its own by $77.8 million per day (weekends included). There’s also a deficit – which is the amount Ottawa spends above its tax revenues – of about $2 billion per month. Over the four years of the current Trudeau administration, roughly $100 billion in deficits will be added to the debt. As interest rates normalize, the debt service costs will rise, increasing the deficit – which expands the debt. Sisyphus.

Other governments are indebted, too. Ontario is among the worst (per capita) in the world. Poor Alberta just got its credit rating whacked. It won’t take the NDP long to impact BC. Overall, then, it’s tough to understand how people think elected bodies could take the sting out of $1.4 trillion in residential mortgages if rates jump and houses crumble.

So why don’t central banks just leave stuff the way it is? Why risk it?

Low rates were put in place to rescue the economy from potential deflation flowing from the 2008 disaster, then the 2015 oil price collapse. They were not designed so people could carry $1 million houses with 5% down. Places like Toronto and Vancouver were allowed to run hot in order to rescue the oil patch, manufacturing and the export sector. The unintended consequence was the mother of all debt loads as house-horny Canadians couldn’t resist being swept up in real estate speculation. Not restoring normal rates would eventually lead to the disorganized destruction of the middle class. Seriously.

How close have we come?

Too close. A poll released Monday by accounting firm MNP found 30% would be faced with financial troubles if house prices decline (which they will), and 27% are “in over their heads with current mortgage payments”, even before rates start to rise. That’s way more than enough families to precipitate a US-style splat (where 8% of owners hit the wall).

Says the company:

“The vast majority of Canadians (77 %) would have difficulty absorbing an additional $130 per month in interest payments on debt. Many are borrowing against their homes and using them to finance lifestyles they simply can’t afford. What’s worse is that many are not making regular payments against the principal, and the threat of an increase in interest rates might make it even harder to make ends meet. Collectively we need to start looking critically at our debt loads and factoring in interest rate changes to see if the debt amassed is even affordable. For many, it already isn’t.”

Nobody knows where this is going or how it ends. The most likely scenario is that the indebted are forced to bail and asset values drop. Less likely is that policymakers relent and rates are stayed. Impossible is that bad things are simply forgiven. That was your mom’s job. Look where it got us.

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July 10th, 2017

Posted In: The Greater Fool

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