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By Bryan Borzykowski – Toronto Star Moneyville
The state of our real estate market has been the focus of numerous economic reports and speeches over the last few months. Another voice was added to the debate this week.
On Wednesday, Dean Baker, one of the first economists to predict the U.S. housing crisis, said that Canada’s market is due for major U.S. style correction soon. If interest rates rise by 2%, he says, housing prices would fall by about 30%.
While some share his view — The Economist magazine recently said that our market is overvalued by 24% — Baker’s opinion is contrary to what many Canadians think.
Ian Lee, a professor at Carleton’s Sprott School of Business and former mortgage manager with BMO, says our market may stall, but it’s not going to burst. Here’s why:
American housing prices collapsed because of poor government policy, says Lee. U.S. mortgage lenders gave out mortgages to people for no money down and often didn’t check credit history.
That’s not what happens here. “It’s illegal to have a zero down payment in Canada,” Lee explains. According to the CMHC, monthly housing costs can’t exceed 32% of gross household income, while the entire monthly debt load shouldn’t be more than 40%
“This has ensured there is due diligence and the weakest customers are not authorized to buy a mortgage,” says Lee.
The CMHC also charges people insurance if they put down less than 20%. If there’s a default the lenders are covered.
Supply and demand
Once Americans began losing jobs and monthly mortgage rates rose, they started defaulting on their homes. That put more supply on the market than demand, driving prices to depths not seen in decades. Now, says Lee, Americans are just waiting to see if the housing market will fall further before they buy.
In Canada, there’s still plenty of demand. Lee says that 350,000 immigrants come to this country each year, so creating demand for housing. Lee says the Maritime provinces are losing more residents than gaining — but major cities, especially Toronto where most immigrants come, will only see its population rise.
“Toronto is probably the most immunized from a collapse,” says Lee.
We can afford our homes
Lee says housing prices are probably overvalued based on Canadians’ level of debt, but it’s not unmanageable. RBC echoes his comments. In a September report, the bank wrote that housing affordability, which, it says, is the best measure of underlying stress, “does not flag any major misalignment with respect to prices.”
In the first quarter of 2010, the bank’s “affordability measure” for a typical Canadian bungalow was 41.1% — much lower than the 54.2% we saw in the 1990.
The report continues to say that while home prices are high, mortgage payments “are still well below dangerous levels.”
People pay their mortgage first
When Lee was working at the Bank of Montreal, he saw time and time again that financially strapped Canadians would miss car and credit card payments before skipping out on the mortgage.
“I’ve see this face-to-face,” he says. “If someone doesn’t have the cash flow, they’ll default on another payment, but they won’t default on their mortgage.”
Despite the rise in housing prices over the year, the rate of mortgage arrears — missed payments — has been almost unchanged for two decades. According to the Canadian Bankers Association, in August less than half of 1% of residential homes were in arrears. That’s 17,294 home owners that have missed at least one payment out of more than 4 million mortgages. In Ontario that percentage is slightly lower at about one-third of 1%.
Interest rate impact
If interest rates rise, there will likely be some impact on the housing market. Lee says that in 1981, when he was working at BMO, American interest rates rose to double digits and there was no meltdown. Canada’s had corrections, but no major drop either when interest rates went up. The business professor says that when rates rise housing prices will likely flat line for a few years. At worst, prices will fall by 5%, but as long as there’s demand the market will stay strong.
The RBC report points out that if interest rates rise by about 2%, we’d still be able to afford our homes. The affordability measure would climb to 46%, which is still much lower than in 1990.
Bank of Montreal economists aren’t worried abut higher rates either. In a November report, Earl Sweet and Sal Guatieri, write that rates won’t spike, sending people into a panic. Instead, they’ll be gradually raised, allowing for incomes to rise too.
“The normalization of interest rates could take several years,” say the economists, “with Canadian interest rates rising a moderate 2 to 3 percentage points. By then, incomes should catch up to prices.”
Of course, it’s impossible to predict what will happen to our market, but according to much of the evidence, it’s unlikely we’ll be buying $1 million homes for a fraction of the cost.
Contact the Jeffrey Team for more information – 416-388-1960
Laurin & Natalie Jeffrey are Toronto Realtors with Century 21 Regal Realty.
They did not write these articles, they reproduce them here for people who
are interested in Toronto real estate. They do not work for any builders.