Higher Mortgage Hurdles Beat up on Working Class

Commentary, Economy, Fergus Hodgson

There is no mystery in why Canada has seen a record-setting housing spike in the past year: negative real interest rates and monetary debasement from federal deficits. Rather than considering fiscal austerity and getting inflation under control, Ottawa has opted to ration home buying and exclude those on the margins. Officials have raised, from June, the stress test on prospective borrowers.

Although the 39 per cent year-over-year jump in average house prices might seem absurd, as reported on June 21, Canadians have behaved rationally with their finances. They have seen mortgages going out the door at artificially low rates—a Keynesian ploy to stimulate the economy. The wholesale rate from the Bank of Canada remains at 0.25 per cent with no change on the horizon.

They have also seen rising inflation, which reached 3.6 per cent in May and will no doubt go higher. The Bank of Canada has lost control: the loonie is losing value faster than the central bank’s mandate permits. Caught in a bind, the Governor of the Bank of Canada is set to wiggle his way out of this by requesting an adjustment to the mandate.

One need not be a genius to understand that retail borrowing at 1 or 2 per cent while money is losing value is better than free money. Without any indication of either higher interest rates or inflation under control, there has predictably been a flight from cash to real assets. People do not want to get fleeced by inflation, and real estate is a hedge.

One way to paper over shortages and spiking prices, a notorious favorite of socialist regimes, is rationing. If fewer people are allowed to buy an item or permitted quantities are limited, the sticker price will go down. Poof! problem solved—except it is not.

Rather than be explicit, the federal government has dreamed up a convoluted, disguised way to ration housing. It says that only certain people are allowed to participate in the market. To do so, they have to meet a centrally imposed stress test that requires income sufficiency for a 5.25 per cent interest rate or at least 2 per cent above the quoted retail rate.

Aside from rationing, this ploy makes little sense. Banks are significantly more qualified than government officials to know who is and who is not credit worthy, and the 5.25 per cent rate is far beyond the roughly 2 per cent that prevails. However, debating over a level that should not ideally exist is silly. Any stress-test rate set by government officials will be arbitrary, politicized, inflexible and contrary to the natural market-clearing rate.

Worse, jacking up the stress test is flagrantly regressive. There are compelling benefits to buying homes, but those without major assets and high incomes find themselves unable to participate. In other words, the benefits associated with real estate as an asset—inflated by federal policy—are now more segregated. In particular, the working class relying on fixed incomes find themselves ostracized.

A lack of affordability has been building in Canadian housing since the turn of the century, most notably in Toronto and Vancouver and their satellite cities. While the litany of barriers to supply have remained unresolved, the queues have grown longer with people in need. Even in late 2019, prior to COVID-19’s arrival, more than a quarter of a million Canadians were on waiting lists for public housing assistance. Two-thirds had been waiting for at least two years to be served.

Struggling to find a place to call home, Canadians have been easy prey for subsidies and condescending public housing. In 2017, the federal government introduced the grandiose National Housing Strategy, but it has little to show for the $13 billion spent of a planned $70 billion.

These piecemeal initiatives now span federal, provincial and municipal governments. They make legislators and governments feel and look good. However, while established homeowners see their asset values balloon, handouts and promises for non-owners constitute scraps for paupers while doing nothing to address the root causes laid bare by COVID-19.

Two simple actions can meaningfully address the long-term supply problem: (1) open up land blocked off by greenbelts and zoning and (2) eliminate or hasten licensing and permits delaying construction. These would swiftly meet the inflated demand and negate the need for destructive rationing.

On the demand side, though, there is no easy answer aside from tightening the purse strings. That means fiscal austerity at the federal level and a less expansionary monetary policy. The prescription is simple, but applying it will require political self-awareness and wherewithal.

Fergus Hodgson is the director of Econ Americas and a Frontier Centre research associate.