TD says Canadian mortgages are a problem, not a crisis

A problem? Yes. A crisis? Probably not.

That’s the takeaway from new research released December 13 by TD economist Maria Solovieva entitled “Riding Out the Mortgage Tides is a ‘Mission Possible’ for Canadian Households”

Solovieva says the recent sharp rise in interest rates is elevating mortgage costs and, she says, is already having an impact on the economy in terms of removing discretionary spending from the economy as that money becomes earmarked for higher mortgage payments. TD estimates that real consumer spending would have at least 0.4% higher in 2023 if mortgage rates had not risen so fast and could ultimately be higher than that.

“This estimate represents a lower bound as it doesn’t account for variable rate mortgages where payments change with rates,” Solovieva argued. “The actual impact could be as high as one percentage point. Importantly, we anticipate this impact is likely to persist over time, albeit with fluctuations influenced by the volume of renewals and interest rates prevailing at the time. This is a key factor behind our anemic outlook for consumer spending over the medium term.”

But the economist says pre-existing stress tests, in place since 2018, mean there may be more strength in households than some think because all finnancials intuitions require borrowers to qualify at a rate than is two percentage points higher than their contracted mortgage rate.

Solovieva notes that Canadian have famously become heavy borrowers, with the highest highest debt-to-disposable income in the G7. This was masked, she says, by debt leverage that was lowered by the real estate boom. But now, the reality setting in is that there will be slower growth in the overall economy but likely not enough to trigger a crisis.

“In Canada, the combination of high debt levels and slower income growth will create an enduring drag on consumption and broader economic growth in turn,” she concluded. “This results in Canadian consumer growth lagging that of the U.S. for the next a few years. Still, without an unexpected economic downturn, the mortgage renewal cycle is unlikely to trigger an economic crisis. We expect that any slowdown in the job market will not be as severe as past economic downturns. This should place a floor under incomes to manage the increase in debt servicing costs. Indeed, the fact that roughly 70% of all mortgages initiated in the past five years have been subjected to income stress test gives some confidence in this. Another mitigating factor is the existence of almost $140 billion in excess deposits, which in contrast to their American counterparts, remain untouched. Almost all these resources are kept in less liquid term products, suggesting that Canadians may have put them aside anticipating higher costs. Channeling these savings to offset the upcoming income shock should soften the blow and support an orderly renewal cycle.”