More measures on cooling down the housing market may be coming

It’s been only less than a day, since the OSFI has introduced the first effort to restrain the housing activity boom, and it’s already been considered as not enough.

On Thursday, Canada’s banking regulator signaled its plans to tighten qualification rules for uninsured mortgages, as it worries that low interest rates will lead to excessive debts for new home buyers. The change will reduce the size of mortgages households can get by almost 4%.

As home buyers are trying hard to enter the mad market, many expect more steps from Prime Minister Justin Trudeau, as he makes efforts to keep housing bubble from forming and collapsing under his control. In order to do it, the government needs to cool down the boiling part of Canada’s economy, without causing a significant prices correction that may harm the country’s recovery from pandemic.

Pushed up by extremely low interest rates and high demand for larger properties, the cost of Canadian residential housing was up by 17% over the previous 12 months. Finance Minister Chrystia Freeland says she’ll be watching the OSFI’s change closely “to inform about possible measures the government could take” on real estate.

“It’s important to do something to cool the market, as it’s getting hot too fast, and it may leave people out to dry,” – Rob McLister, the mortgage editor, noted. “There are many things that could go wrong when real estate prices are growing sharply.”

The recent announcement by the Office of the Superintendent of Financial Institutions (OSFI) started a consultative period before the stress test rate rises from today’s 4.79% to new 5.25% on June 1. Some of the bank economists who have been calling for cooling down the market now believe more measures are necessary.

“The tone and the psychology of the market will hardly change too much,” – says Robert Kavcic of Bank of Montreal, saying the buying power in case of a $1 million (US$800,000) mortgage may go down by only C$45,000. “We don’t think it will significantly cool the real estate market,” – economists from National Bank of Canada noted.

As the new remote work trend lets high earners in large cities to look further for their dream houses, the bidding wars and affordability issues already seen in Toronto, Vancouver and Montreal are spreading onto communities across Canada. The recent report by CREA shows that 12 major markets (almost one quarter of the total) have seen prices increase of more than 30%.

As a result, many worry that home prices may start falling as sharply as they’ve been growing, thus, destabilizing the national economy, or leaving those who don’t have a property with no hope of ever entering the market. With the central bank promising to keep the rates unchanged for a long period of time, Trudeau’s government don’t have many tools to cool down the market.

The most probable next step may be applying the OSFI’s stricter stress test for insured mortgages as well.

“I won’t be surprised if Freeland applies something similar to the insured product,” – noted Derek Holt, an economist at the Bank of Nova Scotia. “I can’t get the logic behind a stricter stress tests on lower ratio mortgages when the strains are more possible in case of the high ratio products.”

Other measures offered by economists include a tax aimed at speculative activity like the one implemented in New Zealand, and a capital gains tax for primary residences sales.

While the Trudeau government hasn’t commented on these options, it said in November that it plans to take measures on non-resident home buyers. Similar taxes were introduced in Vancouver and Toronto, along with the first round of stricter mortgage stress tests nationally in 2018. They helped to restrain the growing prices in those cities for some time. However, according to Bank of Montreal, the tightening of the stress test then was about four times as sharp as the one recently proposed.

The chief banking regulator, Jeremy Rudin, says his agency will be monitoring lenders to make sure they follow strict income verification protocols and aren’t extending amortization periods or raising debt servicing limits for their borrowers.

In case of many of Canada’s big banks, such measures miss the real problem, which is a lack of supply.

“We need more supply, the consumer preferences are changing,” – says David McKay, RBC’s CEO. “Certain actions will be necessary to cool the market in the short term, but they are moderate and we don’t need to overreact. We can edit some of our policies, try to slow down the market demand while supply catches up.”