|Jesse Kline: Government is to blame for Canada’s housing bubble|
April 24, 2012
Canada’s housing market has been relatively stable over the past year, with the notable exception of Toronto, which has overtaken Vancouver as the country’s hottest real estate market. Prices in Canada’s largest city have risen 10.5% over the past year and there are now three times as many cranes dotting Hog Town’s skyline as there are in the Big Apple.
Many analysts are becoming increasingly concerned that some cities — notably Toronto, Vancouver and possibly Calgary — are in the midst of their own U.S.-style housing bubble. A document written by the country’s financial regulator and obtained earlier this year through an access to information request, expresses concern over the “emerging risk” of Canadian loans that “have some similarities to non-prime loans in the U.S. retail lending market.” Bank of Canada Governor Mark Carney continued to sound the alarm as well last week over the growing level of household debt, while maintaining the overnight lending rate at a near-record low level of 1%.
The question remains as to why prices in Toronto and Vancouver — where the economy is stagnant — are rising so fast, and not in cities like Edmonton and Saskatoon — where the economy, and population, is booming. Financial Post columnist Diane Francis caused quite a stir recently, by arguing that the Canada Mortgage and Housing Corporation’s (CMHC) policies have led to a “deluge of hot money from abroad that is creating an artificial and potentially dangerous real estate bubble.” Her solution: “A ban on foreign buying of residences.”
Ms. Francis is at least partially correct. The CMHC controls a majority of our mortgage insurance and securitization markets, and guarantees 100% of the principle and interest on insured residential mortgages. Meanwhile, the Bank of Canada has maintained interest rates at artificially low levels, which only serves to temporarily inflate the market, instead of allowing any correction that would take place under normal market conditions. These two policies make Canadian real estate a very attractive investment — for both foreign and domestic buyers.
But saying that foreigners are wholly responsible for creating a housing bubble is nothing more than fear-mongering, with people who don’t look or sound like us, being cast as the boogeyman. After all, what’s wrong with foreign investment? Foreigners bring money into the country, which creates jobs and drums-up business here at home. Developers make money, construction companies hire employees and buy capital equipment, the rental supply increases and local businesses profit the whole way through. It’s a win-win for everybody.
The Statue of Liberty calls for “your tired, your poor, your huddled masses.” If we were smart, we’d engrave the CN Tower with a call for “your innovations, your money and your wealthy investors.” We should want to be known as a country that welcomes investment.
What we don’t want is an artificially inflated housing market that will bring the whole economy crumbling down when the bubble bursts (see the United States, circa 2008). But if some parts of Canada are indeed in the midst of a housing bubble, the blame can be placed squarely on government policy.
By guaranteeing 100% of CMHC-insured mortgages and 90% of privately insured loans, the government removes the risk from banks and investors, making it much easier to get loans. And although the government has tightened lending standards recently and may do so again in the near future, a report from the Reason Foundation in the U.S. found that government guarantees always underprice risk, drive mortgage investment into unsafe markets and inflate housing prices by distorting the allocation of capital. Government simply cannot price risk accurately; while private lenders, if unencumbered by market-distorting policies, have every incentive to price risk appropriately.
In order to prevent a U.S.-style housing bubble, we should not hang a “closed” sign on our border and prevent inflows of capital; we should instead push to privatize the CMHC and allow private companies to assume the mortgage risk, instead of the taxpayer. We also need a monetary policy that allows interest rates to rise and fall with market forces, instead of at the whim of central planners.
Only by removing policies that artificially inflate the market in the short term, will we be able to create a real estate market that is sustainable in the long run.
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