Why Canadians have record-high debt
Canadian's average household debt-to-income ratio hit a record high last June.
All it took was an illness in the family.
Like many middle-income couples, James Harwood and his wife had almost no savings when they bought their first house, in Cambridge, for $180,000.
The year was 2008. The housing market was booming. Interest rates were low. Mortgage money was cheap and lenders required little or no down payment.
After years of renting, they took the plunge.
“My wife really wanted to own her own place. And there’s the whole idea of building equity,”
Harwood said. “The actual cost of the mortgage, with taxes and stuff, was so within the margin of what we were paying for rent anyways, it didn’t make any sense not to try.”
But within months, Harwood’s wife fell ill and was off work. A part-time nurse, she had no sick leave or benefits. Even though Harwood’s job as a warehouse manager for a public utility was secure, they quickly fell behind in their payments.
Within a year and a half, they’d lost the house, which after legal fees and other expenses left them with $70 in their pockets.
They still owed $13,000, including a $7,000 loan with an interest rate so “atrocious,” Harwood was unable to make any headway on the principal.
Harwood’s story is typical of those seen by credit counseling services, which help consumers pay off their debts.
“It’s one of the most common things we see. When you have little or no savings — almost half of Canadians are living paycheque to paycheque — and you lose your job, or take a reduction in income, that can be devastating to any household budget,” said Jeffrey Schwartz, executive director of Consolidated Credit Counseling Services of Canada.
It’s also the kind of scenario that has had Bank of Canada governor Mark Carney sounding the alarm for more than a year, including fresh warnings this week, about rising household debt levels.
Canadians’ average household debt-to-income ratio, a key measure of their ability to carry their loans, hit a record high last June, according to Statistics Canada. The average Canadian household owes $1.63 for every $1 earned, a level last seen in the U.S. and U.K. just before their housing bubbles burst, economists warn.
Carney has called household debt the greatest domestic threat to Canada’s future economic growth.
Yet Canadians continue to pile it on.
Ironically, one of the key reasons household debt is high is the Bank of Canada’s policy of keeping interest rates low. They’ve been at or below 1 per cent for the past four years.
Intended to help kick-start Canada’s economy after the recession of 2008-09, these record-low rates have remained in place much longer than originally forecast, mainly because the rest of the global economy is still in turmoil.
A sluggish U.S. recovery, the debt crisis in the euro zone and more recently slower growth in China have all meant that an export-oriented economy like Canada has to keep its interest rates low or risk pricing itself out of the global market. If Canada raises rates above those offered by other countries, it will attract more foreign investors, who in turn will drive up the value of Canada’s dollar. That would depress Canada’s exports and dampen the country’s economic performance.
“There is no mystery here what is going on,” says Doug Porter, deputy chief economist at BMO Capital Markets. While Canada’s financial system escaped the worse of the credit crisis in the U.S., its economy remains vulnerable to events beyond its control. “With the rest of the world unwilling to raise rates, Canada can’t go it alone without sending the dollar skyward,” Porter said.
The problem is that these record-low rates have helped fuel a consumer borrowing binge.
Canadians owe a staggering $1.6 trillion, the latest data from Statistics Canada show. That amounts to more than $103,000 per household, according to a study for the Vanier Institute of the Family, an Ottawa-based think tank published in March 2012.
An estimated 1 million Canadians are spending more than 40 per cent of their income on debt repayment, Roger Sauvé, author of the Vanier-sponsored annual review of family finances, said in an interview. Excessive debt “is a problem for a whole bunch of people,” Sauvé said.
More than half of all household debt is in mortgages, while the rest is made up of other kinds of loans, including lines of credit, auto loans and credit card debt.
Of course, interest rates aren’t the only cause of the household debt problem. The saga begins long before the recent recession. Real incomes have stagnated since the 1970s.
More women entered the workforce in previous decades, helping boost household spending. That trend has leveled off.
And the gap between rich and poor has widened as credit has become easier to get. The only way to “keep up with the Joneses” has been to borrow, said Mario Seccareccia, an economics professor at the University of Ottawa. “It means you have an almost unsustainable system where a lot of people at the bottom end are living off their credit cards,” he said.
Another big part of the story has been rising real estate values. It’s also one of Carney’s big worries.
With so many more people qualifying for mortgages and able to borrow larger and larger sums, the housing market has soared, especially in cities like Toronto and Vancouver.
The housing boom had a secondary impact on borrowing, as homeowners borrowed against the rising value to make other purchases, from renovations to investments to vacations.
“Your income isn’t going up, but the value of your house is, so you use it like an ATM and borrow against it,” said Armine Yalnizyan, a senior economist with the Canadian Centre for Policy Alternatives.
But as house prices soar out of sight, with average prices reaching $501,058 in the Greater Toronto Area and $725,086 in Vancouver in August, there is talk of a housing bubble. And when a housing bubble bursts, it can have sweeping implications not just for homeowners but for the wider economy.
Some actions have been taken to stave off debt worries. Just before the housing bubble burst south of the border, several U.S.-style debt products had started creeping north, such as mortgages with little or no down payments that could be spread over 40 years instead of the usual 25, and credit cards that came with “teaser” low-interest introductory rates.
Ottawa has since clamped down on many of the worst excesses, creating a voluntary code of conduct for credit card issuers and raising the criteria to qualify for a mortgage loan.
So household debt is now climbing at a slower rate. But it is still rising. And Carney has been handcuffed in his attempts to temper domestic borrowing, not only by the global economic turmoil but by events at home.
With federal and provincial governments focused on reducing deficits and businesses reluctant to invest in new plants and equipment, consumer spending has been the main driver of domestic growth since the recession. If consumers stop spending, the economy will slow, and that would create its own set of worries for the central bank.
One of the reasons Carney keeps sounding the alarm on household debt is he doesn’t have any other way of addressing the problem at the moment, Porter says.
Carney’s also trying to prepare consumers for the fact that interest rates will eventually rise. It’s just a question of when.
The current “emergency” rate is just that — for emergencies — said David Madani, an economist with Capital Economics. “At some point interest rates are going to go back up because they are well below any reasonable estimate of what us economists believe to be a ‘neutral’ interest rate.”
Once the global economy recovers and Canada’s resumes firing on all cylinders, inflation will begin to creep up and the bank will need to raise its trend-setting rate to control inflation.
The bank’s benchmark rate influences the cost of borrowing for everything from cars to houses, and one major risk is that households that have gorged on debt may find themselves unable to carry their future payments.
Homeowners with locked-in rates won’t see the impact until their mortgage comes due. And if the rate hikes are gradual, say a quarter of a percentage point every few months, mortgage holders may not see a big increase in their payments.
But for some — estimates range from 5 per cent to 20 per cent of homeowners — even a small increase in mortgage rates could be a big problem, some economists say. If higher mortgage rates mean consumers have to tighten their belts and spend less on other things that hurts economic growth, Porter noted. A rate hike could also push more people out of the housing market, causing house prices to fall. There are already signs that Ottawa’s tougher mortgage rules could be have that effect.
Madani says he worries about the 10 per cent of buyers who put just 5 per cent down on their homes. If house prices fall more than 5 per cent, they could have trouble renewing their mortgages, as banks don’t like lending against assets that are worth less than the value of the loan, Madani explained.
As for the Harwoods, they’re gradually getting back on track
With the help of the credit counseling agency, Harwood said he was able to consolidate his loans and steadily chip away at his debt through more manageable monthly payments.
His wife is back at work and now has a full-time job with benefits. And he’s paid off two of the six credit card balances.
But the shadow of that experience still haunts him.
“The hardest part for me was disappointing my wife.”
Harwood said he reads about rising household debt levels and wonders how other people manage.
“I hear and see people maxing themselves out all the time and I wonder what it’s going to be like for these guys down the road.”
What we owe
Canadians' household debt load: $1.6 trillion.
Average household debt: $103,000
Source: Statistics Canada, Vanier Institute of the Family
Like many middle-income couples, James Harwood and his wife had almost no savings when they bought their first house, in Cambridge, for $180,000.
The year was 2008. The housing market was booming. Interest rates were low. Mortgage money was cheap and lenders required little or no down payment.
After years of renting, they took the plunge.
“My wife really wanted to own her own place. And there’s the whole idea of building equity,”
Harwood said. “The actual cost of the mortgage, with taxes and stuff, was so within the margin of what we were paying for rent anyways, it didn’t make any sense not to try.”
But within months, Harwood’s wife fell ill and was off work. A part-time nurse, she had no sick leave or benefits. Even though Harwood’s job as a warehouse manager for a public utility was secure, they quickly fell behind in their payments.
Within a year and a half, they’d lost the house, which after legal fees and other expenses left them with $70 in their pockets.
They still owed $13,000, including a $7,000 loan with an interest rate so “atrocious,” Harwood was unable to make any headway on the principal.
Harwood’s story is typical of those seen by credit counseling services, which help consumers pay off their debts.
“It’s one of the most common things we see. When you have little or no savings — almost half of Canadians are living paycheque to paycheque — and you lose your job, or take a reduction in income, that can be devastating to any household budget,” said Jeffrey Schwartz, executive director of Consolidated Credit Counseling Services of Canada.
It’s also the kind of scenario that has had Bank of Canada governor Mark Carney sounding the alarm for more than a year, including fresh warnings this week, about rising household debt levels.
Canadians’ average household debt-to-income ratio, a key measure of their ability to carry their loans, hit a record high last June, according to Statistics Canada. The average Canadian household owes $1.63 for every $1 earned, a level last seen in the U.S. and U.K. just before their housing bubbles burst, economists warn.
Carney has called household debt the greatest domestic threat to Canada’s future economic growth.
Yet Canadians continue to pile it on.
Ironically, one of the key reasons household debt is high is the Bank of Canada’s policy of keeping interest rates low. They’ve been at or below 1 per cent for the past four years.
Intended to help kick-start Canada’s economy after the recession of 2008-09, these record-low rates have remained in place much longer than originally forecast, mainly because the rest of the global economy is still in turmoil.
A sluggish U.S. recovery, the debt crisis in the euro zone and more recently slower growth in China have all meant that an export-oriented economy like Canada has to keep its interest rates low or risk pricing itself out of the global market. If Canada raises rates above those offered by other countries, it will attract more foreign investors, who in turn will drive up the value of Canada’s dollar. That would depress Canada’s exports and dampen the country’s economic performance.
“There is no mystery here what is going on,” says Doug Porter, deputy chief economist at BMO Capital Markets. While Canada’s financial system escaped the worse of the credit crisis in the U.S., its economy remains vulnerable to events beyond its control. “With the rest of the world unwilling to raise rates, Canada can’t go it alone without sending the dollar skyward,” Porter said.
The problem is that these record-low rates have helped fuel a consumer borrowing binge.
Canadians owe a staggering $1.6 trillion, the latest data from Statistics Canada show. That amounts to more than $103,000 per household, according to a study for the Vanier Institute of the Family, an Ottawa-based think tank published in March 2012.
An estimated 1 million Canadians are spending more than 40 per cent of their income on debt repayment, Roger Sauvé, author of the Vanier-sponsored annual review of family finances, said in an interview. Excessive debt “is a problem for a whole bunch of people,” Sauvé said.
More than half of all household debt is in mortgages, while the rest is made up of other kinds of loans, including lines of credit, auto loans and credit card debt.
Of course, interest rates aren’t the only cause of the household debt problem. The saga begins long before the recent recession. Real incomes have stagnated since the 1970s.
More women entered the workforce in previous decades, helping boost household spending. That trend has leveled off.
And the gap between rich and poor has widened as credit has become easier to get. The only way to “keep up with the Joneses” has been to borrow, said Mario Seccareccia, an economics professor at the University of Ottawa. “It means you have an almost unsustainable system where a lot of people at the bottom end are living off their credit cards,” he said.
Another big part of the story has been rising real estate values. It’s also one of Carney’s big worries.
With so many more people qualifying for mortgages and able to borrow larger and larger sums, the housing market has soared, especially in cities like Toronto and Vancouver.
The housing boom had a secondary impact on borrowing, as homeowners borrowed against the rising value to make other purchases, from renovations to investments to vacations.
“Your income isn’t going up, but the value of your house is, so you use it like an ATM and borrow against it,” said Armine Yalnizyan, a senior economist with the Canadian Centre for Policy Alternatives.
But as house prices soar out of sight, with average prices reaching $501,058 in the Greater Toronto Area and $725,086 in Vancouver in August, there is talk of a housing bubble. And when a housing bubble bursts, it can have sweeping implications not just for homeowners but for the wider economy.
Some actions have been taken to stave off debt worries. Just before the housing bubble burst south of the border, several U.S.-style debt products had started creeping north, such as mortgages with little or no down payments that could be spread over 40 years instead of the usual 25, and credit cards that came with “teaser” low-interest introductory rates.
Ottawa has since clamped down on many of the worst excesses, creating a voluntary code of conduct for credit card issuers and raising the criteria to qualify for a mortgage loan.
So household debt is now climbing at a slower rate. But it is still rising. And Carney has been handcuffed in his attempts to temper domestic borrowing, not only by the global economic turmoil but by events at home.
With federal and provincial governments focused on reducing deficits and businesses reluctant to invest in new plants and equipment, consumer spending has been the main driver of domestic growth since the recession. If consumers stop spending, the economy will slow, and that would create its own set of worries for the central bank.
One of the reasons Carney keeps sounding the alarm on household debt is he doesn’t have any other way of addressing the problem at the moment, Porter says.
Carney’s also trying to prepare consumers for the fact that interest rates will eventually rise. It’s just a question of when.
The current “emergency” rate is just that — for emergencies — said David Madani, an economist with Capital Economics. “At some point interest rates are going to go back up because they are well below any reasonable estimate of what us economists believe to be a ‘neutral’ interest rate.”
Once the global economy recovers and Canada’s resumes firing on all cylinders, inflation will begin to creep up and the bank will need to raise its trend-setting rate to control inflation.
The bank’s benchmark rate influences the cost of borrowing for everything from cars to houses, and one major risk is that households that have gorged on debt may find themselves unable to carry their future payments.
Homeowners with locked-in rates won’t see the impact until their mortgage comes due. And if the rate hikes are gradual, say a quarter of a percentage point every few months, mortgage holders may not see a big increase in their payments.
But for some — estimates range from 5 per cent to 20 per cent of homeowners — even a small increase in mortgage rates could be a big problem, some economists say. If higher mortgage rates mean consumers have to tighten their belts and spend less on other things that hurts economic growth, Porter noted. A rate hike could also push more people out of the housing market, causing house prices to fall. There are already signs that Ottawa’s tougher mortgage rules could be have that effect.
Madani says he worries about the 10 per cent of buyers who put just 5 per cent down on their homes. If house prices fall more than 5 per cent, they could have trouble renewing their mortgages, as banks don’t like lending against assets that are worth less than the value of the loan, Madani explained.
As for the Harwoods, they’re gradually getting back on track
With the help of the credit counseling agency, Harwood said he was able to consolidate his loans and steadily chip away at his debt through more manageable monthly payments.
His wife is back at work and now has a full-time job with benefits. And he’s paid off two of the six credit card balances.
But the shadow of that experience still haunts him.
“The hardest part for me was disappointing my wife.”
Harwood said he reads about rising household debt levels and wonders how other people manage.
“I hear and see people maxing themselves out all the time and I wonder what it’s going to be like for these guys down the road.”
What we owe
Canadians' household debt load: $1.6 trillion.
Average household debt: $103,000
Source: Statistics Canada, Vanier Institute of the Family
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