Fewer risks to Canadian financial systems, but housing still a concern: BoC

OTTAWA – The Bank of Canada is again flagging Canada’s overheated housing market and sky-high household debt as the biggest domestic threats to the economy, while at the same time judging overall risk to financial markets has lessened.

The continued emphasis on debt and housing, despite what the central bank’s governing council concedes is improving levels of risk, adds credence to the view that governor Stephen Poloz appears set to keep interest rates unchanged until 2015.

In its semi-annual review issued Tuesday, the bank said overall risks to Canada’s financial system have improved, mostly as a result of a sounder economic and national debt situation in Europe, which has been a key threat since the 2008-09 recession.

It was the first downgrade of its ranking of risk — from “high” to “elevated” — in two years, with “very high” being the central bank’s worst possible rating.

“First, and most importantly, the euro area has continued to stabilize. As a result, the likelihood of a euro-area financial crisis has diminished,” the bank said in giving its reasons for the better outlook.

“Second, long-term interest rates in most advanced economies have increased, helping to improve the financial position of institutional investors with long-duration liabilities, such as pension funds and life insurers,” the report said.

But the bank continued to devote a large section of the report to the continuing threat from housing, and near-record levels of household debt which has stubbornly remained about 160 per cent of disposable annual income, despite a slowdown in overall credit.

In particular, it notes that while the recent spurt in home sales and accompanying increase in prices are likely a temporary phenomenon, homes in Canada remain overvalued and households vulnerable to a crisis, or a sharp rise in interest rates.

The bank says it is particularly worried about the Toronto condominium market, which it assesses to have an oversupply of unsold units and elevated levels of unsold units under construction.

“If the upcoming supply of units is not absorbed by demand as units are completed over the next few years, there is a risk of a correction in prices and construction activity,” the bank warns.

While Poloz has said recently that the most likely scenario is that housing will slow in an orderly fashion to a “soft landing,” the report cautions that regulators must continue to carefully monitor developments.

Still, the report does take note of encouraging signs.

Consumer credit growth has slowed to the lowest pace in 20 years, and new loans have gone to borrowers with sounder credit scores. It says it expects household debt levels to stabilize at current levels and then start coming down.

On Thursday, new data suggested that condo starts in Toronto had slowed markedly in November.