Canada ‘potentially vulnerable’ because of...
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Feb 05, 2015  |  Vote 0    0

Canada ‘potentially vulnerable’ because of household debt: report

Household debt levels in Canada are higher than those that existed in the U.S. at the peak of the credit bubble, the report notes

OurWindsor.Ca

A renewed warning on Canadian household debt levels is coming from a research report written by an international management consulting firm.

The report, published by McKinsey & Company on Thursday, singled out Canada and six other countries with “potential vulnerabilities in household debt.”

In Canada’s case, household debt levels are higher than those that existed in the U.S. at the peak of the credit bubble, the report notes.

The data suggests a “potential risk, but not an imminent crisis,” the report said.

“There is no sign that there are a significant number of Canadian borrowers today having trouble repaying their debt. The risk comes when you look to the future,” said Susan Lund, partner at McKinsey Global Institute in Washington, D.C.

“If the economy were to slow and unemployment started to rise, when people lose jobs, that’s when a mortgage that you could afford with a job suddenly becomes unaffordable. The other potential risk is if and when interest rates start to rise, that could create a much larger burden on households repaying debt.”

The Netherlands, South Korea, Sweden, Australia, Malaysia, and Thailand are also at risk, the report said.

Mortgages are the primarily culprit in this burgeoning household debt burden, the report points out.

“Mortgages are the main form of household debt in all advanced economies, and rising housing prices contribute to more borrowing. And, when buyers can obtain larger mortgages, they bid up house prices even more,” the report said.

“The question now is whether high household debt in some countries will spark a crisis.”

Sal Guatieri, senior economist at BMO Capital Markets, said in an interview that he takes exception with the comparison between Canadian and U.S. debt levels.

When the data is adjusted to account for differences between the U.S. and Canada, “we see a Canadian debt ratio that is still meaningfully below the U.S. ratio,” Guatieri said.

Making those adjustments, Canada’s debt to household income ratio currently stands about 151 per cent, compared to 136 per cent in the U.S., Guatieri said.

“That simply means Americans are less indebted than Canadians now, largely because they walked away from so many mortgages over the last six years,” he said. “It doesn’t necessarily mean Canadians have hit the debt wall.”

The U.S. household debt level relative to income hit 165 per cent in late 2007.

Canadians are borrowing less than in previous years, and the quality of Canadian debt is superior to that of U.S. debt in the mid-2000s, Guatieri said.

At one point, about one-fifth of U.S. residential mortgages were labeled subprime, held by borrowers with poor credit ratings, and in some instances, little income and few assets. By contrast, the Bank of Canada estimates that subprime lending in Canada has never exceeded more than five per cent of the total mortgage market.

“Canada has much tougher, much more conservative lending standards than the U.S. ever did during its credit boom,” Guatieri said.

The report also shows that while Canadians piled on debt relative to income from 2007 to the spring of 2014, they’re still capable of managing their payments.

Canada’s debt servicing ratio – that’s defined as interest plus principal payments divided by household disposable income – is sitting at 8 per cent. That’s among the lowest of the world’s advanced economies.

McKinsey’s report, called Debt and (not much) deleveraging, examines debt levels across 47 countries, including 25 developing nations. Around the world, debt continues to pile up seven years after the global financial crisis and Great Recession.

Global debt in these years has grown by $57 trillion (U.S.) or 17 per cent of global GDP, the report said. “That poses new risks to financial stability and may undermine global economic growth.”

Japan, where debt is now 400 per cent of GDP, has piled on the most debt since the Great Recession, followed by Ireland, Singapore, Portugal and Belgium. Japan’s debt load rises to 517 per cent of GDP when financial sector debt is included, McKinsey said.

Overall, Canada ranks in the middle of the pack, sitting in the 21st spot, with total government, corporate, and household debt totaling 221 per cent of GDP. That’s up from 182 per cent of GDP prior to the economic meltdown that struck the world economy in 2008.

Since 2007, China’s total debt, including financial sector debt, has nearly quadrupled, rising to $28.2 trillion in the second quarter of 2014 from $7.4 trillion. It has risen to 282 per cent of GDP, from the previous 158 per cent.

“China’s overall debt ratio today appears manageable, although it is now higher in proportion to GDP than that of the United States, Germany, or Canada,” the report said.

“We find three particular areas of potential concern: the concentration of debt in real estate, the rapid growth and complexity of shadow banking in China, and the off-balance sheet borrowing by local governments.”

Toronto Star

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