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Is U.S.-style housing crash a foreshadowing of Canada's future?
Mar 19, 2008
http://canadianpress.google.com/article/ALeqM5gi9qAVDFJqemEPEi_QJdrVz-74mg


OTTAWA — Is the U.S.-style housing meltdown in Canada's future?

With more and more Canadians taking on record levels of debt to enter the red hot housing market, some analysts are beginning to see some of the practices that led to the U.S. housing crash last year developing in Canada.

At the moment, there is no sign that the Canadian housing market - which has seen the price of homes rise between nine and 11 per cent annually for several years - going down the disastrous road of the U.S.

But as this week's Royal Bank report showing the cost of owning a home in Canada at the highest level since 1990 suggests, it wouldn't take much of a downturn in the economy for sky-high house prices in Canada to come tumbling down, and the wealth many Canadians had built into their homes vanish.

"Definitely the fundamentals are not great. There are a lot of families who are stretched," said Roger Sauve, a consultant who last month wrote a report on Canadians' finances for the Vanier Institute of the Family.

The study found that debt had risen to 131 per cent of household income, or $80,000 per household, from 91 per cent in 1990.

"Just like in the U.S., everybody is feeling good right now. They are taking on debt, but they are not worried because the prices of their homes are going up. But it would be easy to see house prices going down five or 10 per cent."

Liberal MP Garth Turner, a business journalist and author whose recent book "Greater Fool: The Troubled Future of Real Estate," is among the most pessimistic forecasters of Canada's housing market, saying a loss of consumer confidence, mixed with aging population, could see the edifice come crashing down.

"We've got this delusional situation where the American housing market is going through the worst crisis since the 1930s and we think we'll continue to buy houses from each other for more and more money," Turner said.

Turner believes that cities like Vancouver, where a typical two-storey fetches $650,000, could see a price drop of up to 20 per cent in the near future. For Toronto, where a similar home costs about $476,000, he says prices could flatten this year and perhaps drop 10 or 15 per cent in the next few years.

With 83 per cent of Canadian's net worth tied to real estate, even such modest reductions could spell disaster for many, he said.

"We have so many people buying real estate with basically no equity, that even if real-estate flatlines or go down a little bit, that's a pretty serious situation for them."

But Turner's pessemistic view isn't shared by all.

Canadian Mortgage and Housing Corp. senior economist Brent Weimer sees few parallels between the Canadian and U.S. situations, particularly the subprime fiasco that sent the housing market crashing last summer.

Although some Canadians are purchasing homes with little or now down payments, what Weimer calls the "near prime" market, he says there is no Canadian equivalent to "2-28" mortgages that have been so disastrous in the United States.

Those mortgages offer two years of teaser or no payments, followed by 28 years of accelerated payments. The 2-28 mortgages and other exotic arrangements have led to tens of thousands of defaults south of the border as payments began rising.

"We haven't seen any increase in defaults in Canada," Weimer said.

Canada Mortgage and Housing, a federal Crown corporation, is the country's largest insurer of home mortgages - providing comfort to the lenders if borrowers can't make their payments - so Weimer is well-placed to monitor default rates.

"We haven't seen any signs there is trouble, and we are forecasting that prices this year will rise about five per cent, which still represents growth." Home prices rose an average 11 per cent in 2007.

A CMHC study of homeowners released Wednesday supports the optimism with 88 per cent expressing confidence they can manage their debt.

But that is at a time when Canada's employment rate is at a 33-year-low, incomes are rising at about four per cent, and there are more Canadians with jobs on a percentage basis than at any time in our history. In other words, at the best of times, or darn close.

BMO deputy chief economist Douglas Porter also sees the fundamentals of housing in Canada getting out of whack, although he says the situation is not nearly as drastic as what the U.S. faced two years ago.

"Up until last year I thought the strength of the Canadian housing market was justified, but I do think the market got overheated last year," he said. But he added that as long as Canadians have jobs, housing prices will not suffer a U.S.-style correction.

And he said with the Bank of Canada continuing to cut interest rates, affordability should improve.

Still, Turner sees Canadians blindly buying into the latest commodity craze, much like Dutch tulip frenzy of the 1600s, the dot-com bubble of 2000 and the U.S. housing explosion following 9-11 when the U.S. Federal Reserve slashed interest rates to minuscule levels.

"The U.S. problems were caused when the price of real-estate got way out of hand and it got to a point where the average family could no longer afford the average home, so subprimes were a response to that," Turner said.

"Now we see in Canada, we have a similar situation. Real estate prices have gotten out of hand, particularly in some markets, and the reaction is that we now have 40 year amortizations to drop monthly payments, and one or two or five per cent down payments."

These bubbles all end the same way, he points out. They pop.