“At the end of March, Canadians owed CAD $1.69 for each dollar of disposable income, nearly twice the level of 30 years ago, driven by a combination of low interest rates, minimal economic stress and increasing house prices.”
That was Jason Mercer, Moody’s Investors Services assistant vice-president, speaking a year ago in what has become the annual spring ritual of assessing Canadian’s debt load and vulnerabilities within all that borrowing (consumers) and all that lending (banks and other mortgage lenders).
Here we are 12 months later and the country’s debt profile continues to alarm. There’s the debt-to-income ratio of $1.71, yet another record. (Surprise!) There’s the increase in the proportion of uninsured, that is, riskier mortgages, including home equity lines of credit, to 60 per cent from 50 per cent five years ago. There’s the compounding risk of negative equity auto loans, though the specific disclosure by banks on this is so thin that Moody’s has to extrapolate from the financial firms’ disclosures on nonresidential secured borrowing. There’s the increase in debt servicing costs due to interest rate hikes.
And here’s what’s looming, as the Bank of Canada has already forewarned: nearly half of outstanding mortgages are due for renewal within a year.
In a report released Tuesday, Moody’s assessed what it deems these “multiple pressure points” in the system, drawing a straight line to the risks threatening the asset quality of the country’s big banks.
So what concerns Jason Mercer the most?
“What really worries me the most is the interest rate increase that’s coming on Canadian mortgages,” says Mercer in a quick interview. “The Bank of Canada has raised interest rates almost one per cent in the past year. (It left the benchmark rate unchanged last week.) So what concerns me is that we’ve had this really long period when consumers have benefitted from low interest rates, low monthly payments, and now we’re seeing rising interest rates and those payments are going to increase.”
“Given that consumers are as vulnerable as they’ve been, record vulnerability in fact, there’s a big question mark as to what’s going to happen then with other forms of debt,” Mercer continues. So auto loans. Credit card debt. “They’re going to prioritize their mortgage over those.”
The report doesn’t address the likely slowdown in consumer spending as a result but, well, consumer spending will inevitably slow as a result.
I hear you. It seems we have been writing about consumers gorging on debt for eons. Actually, we have been writing about this for eons. “Canadians have dug themselves a trillion-dollar hole,” we wrote in our “Borrowing Issue” eight years ago. As if a trillion dollars were scary. On Monday, Equifax Canada reported that in the fourth quarter of last year, consumer debt, excluding mortgages, surpassed $1.8 trillion.
In the interim, home equity lines of credit have become a standard borrowing tool. The perception became fixed that historically low interest rates equate to money being all but free. Houses really have been used as piggy banks. For too many Canadians, the notion of deferring unaffordable rewards was overtaken by a keen desire for a bathroom upgrade. Auto loans are a newer concern, with borrowers rolling old car debt into new car long-amortization debt (68 months!), thereby increasing the amount the loan balance exceeds the car’s value. Moody’s has raised a red flag over this compounding of negative equity.
It’s a mess.
I once interviewed a behavioural economist on this point: why do we behave this way and how can we not see how badly this will end for many of us?
He turned the conversation to credit cards. “We’re not well equipped to say if I give this piece of plastic to this person and scribble my name, 10 years from now I might owe $67,000. It’s sort of a battle between this highly evolved acquisitive nature and the ability to imagine owing a lot of money years from now. The acquisitive part of the brain wins.”
So we’re not cognitively up to the task.
We have been living beyond our means, many consumers now balancing a toxic combination of multiple lines of credit and credit card balances. Averages are all but useless in this discussion.
Yes, there are offsetting factors. Low unemployment is one. And Moody’s isn’t suggesting the lid is going to blow. Still, be worried. Buy a ledger. Keep track. Set goals. Defer expenses.
Spring is an excellent time to get one’s financial house in order. The Moody’s report is the latest nudge to sharpen our pencils.
Reach Jennifer Wells at email@example.com