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Does Canada have an unsustainable housing bubble and is it headed for a major 30% price correction like the US?

homepricesDoes Canada have an unsustainable housing bubble that might be about to burst? You would sure think so looking at the graph above, which compares monthly home prices in the US (measured by the Case-Shiller Composite-20 Index through November 2012) and home prices in Canada (measured by the Teranet National Bank House Price Index through December 2012) since 2000 (both indexes equal 100 in January 2000).  US home prices doubled between 2000 and 2006, when the housing bubble started to burst, leading to a 30% correction in home prices by 2008.  Home prices in Canada doubled between 2000 and 2010, and have increased by more than 10% over the last two years, and by 3% over the last year.

Megan McArdle offered some commentary several weeks ago on this issue:

So the mystery remains: why no bubble in Canada?  Why no banking crisis?  My best working theory was that their banking system was run by Canadians, who are a very sensible people.  Yes, I admit that this theory is a little hard to test, but I can offer some supporting evidence: they also sat out the Great Depression, and the Panic of 1907.

Over the last year or so, however, another possibility has been emerging: they didn’t avoid the crisis.  They’re just getting it on tape delay.

The Canadian media have started asking the same questions.  People are now openly arguing over whether there’s a bubble, though that argument hasn’t attracted much notice on this side of the border.  Last summer, the finance minister put new mortgage rules into place in an attempt to engineer a slowdown.  Sure enough, house prices are falling.

But many observers expect the setback to be temporary.  As long as interest rates are low, they say, Canadians will continue to load up on debt, and the things that get bought with debt.

How this shakes out will matter a lot.  It will tell us a lot about the causes of housing bubbles: are they rooted in poor bank regulation, or other fundamentals?  And also about how much bank regulation can do to stop them.  If the tighter rules do engineer a soft landing, that’s evidence that prudent bank regulators can prevent crises.  If, on the other hand, Canada gets its own housing crash, and banking woes, despite the finance minister’s best efforts, that will suggest that there are real limits to how much even the most prudent regulator can accomplish.


MP: So there’s a great experiment underway in Canada’s real estate market, and we’ll know in the next few years whether Canada’s housing bubble leads to a major price correction like in the US or whether a more moderate price correction will cool off Canada’s home price appreciation. As Megan points out, Canada’s sound and stable financial, mortgage, and banking systems were relatively unaffected by all of the major financial and banking crises over the last 100 years that devastated the US. While our historically fragile banking system lead to 9,000 bank failures during the Great Depression, about 3,000 bank failures during the S&L crisis, and 427 bank failures from 2008-2011 from the “Great Recession,” Canada experienced almost no bank failures during any of those financial and banking crises. Somehow Canada’s long history of surviving unscathed from America’s financial crises, despite the close integration of the two economies, makes me think that Canada once again will out-perform the US when it comes to the housing bubble and price correction. Look for a moderate home price correction in Canada over the next few years, but nothing close to the 30% home price crash in the US.

12 thoughts on “Does Canada have an unsustainable housing bubble and is it headed for a major 30% price correction like the US?

  1. The reasons for this Canadian out-performance are not quite as rosy as they seem. First of all, there is nothing resembling a free market in the Canadian banking system. The system is an oligopoly with just 5 giant banks colluding with each other to keep prices to consumers up. I always find it amusing to talk to American friends and colleagues when they complain about things are monthly fees and transaction costs since nothing in the US even compares to what we have to pay in Canada for everyday banking.

    However, could this oligopoly prevent a crisis? Quite possibly given that the banks have strong recurring revenue and much less incentive to compete against each other to the point of stretching too far. Are the benefits worth the cost? The jury is still out I think.

  2. canada had a very safe system for a long time.

    ltv of over 80% was almost unheard of and 75% more common and given that mortgage debt is full recourse in canada, people were very careful about going into such debt as you do not just lose the house, you lose everyhting.

    but this has changed.

    in 2007 the Canadian banks began to be allowed to hold mortgages with more that 80% ltv if there was mortage insurance. this has greatly upped risk and is 70%+ provided by state agencies. this also gets a borrower out from under the recourse issue as the debt is insured.

    this has upped system leverage and the risk taking appetite of borrowers.

    it would not be surprising to see such changes inflate a bubble.

    i would not describe this as a housing bubble on TV delay however. i’d call it a bubble in response to a change in policies as canada. it’s not that they just took longer to feel the effects. it’s that they actually changed the way they ran their mortgage market.

  3. Living in the Seattle area, I go to Vancouver somewhat regularly and have witnessed what’s going on there for some 20 years.

    First of all, the housing boom in Canada has been largely confined to Vancouver and Toronto. And what makes it hard to predict is that a large portion of the boom has been driven by wealthy Chinese who buy a condo in Vancouver or Toronto as a home-away-from-home to stay there when they make their somewhat frequent trips there, and/or as an investment. There are many stories about trash collectors in Vancouver’s West End who, despite the large number of high-rise condos there, regularly pick up little trash from these neighborhoods because most of the condos are empty most of the time.

    This has had little to do with interest rates or monetary policy in Canada, since most of it is Chinese money.

    It’s tempting to call this a bubble, but it has been going on for so long, one would think it would have popped long ago. Can vacation houses be a bubble (which is what they essentially are)? If so, then why has the housing market in Vail and Aspen, for example, not crashed?

    This is a very tough one to call.

    • vacation homes did crash.

      prices in vail dropped 25-30%.

      prices here in park city dropped by around 30%. (which made buying here in q4 2010 very affordable and has been very profitable thus far)

      tahoe got demolished.

      i’m not sure i really get you point there. vacation homes in the US were in a bubble and corrected hard.

      • That was because of the nationwide housing crash. I was thinking more in terms of a vacation housing market that crashes independently of anything else, on its own merits (or lack thereof).

        In other words, if Vancouver’s housing boom has become, in essence, a vacation housing market for wealthy Chinese, is that sustainable in and of itself? Does it even matter what happens to the rest of the Canadian economy? After all, if demand for these houses comes from outside Canada, why should the state of the rest of the Canadian economy matter? The only thing which might, for sure, bring it down would be a slowdown in China. That may or may not be happening, but if it doesn’t happen, and the supply of wealthy Chinese looking for vacation houses does not dwindle any time in the foreseeable future, it seems to me the boom might go on for as long as that sub-class of Chinese continues to grow, even if modestly.

        But I don’t really know, it’s an unusual situation. You don’t typically get “vacation houses” built in major cities, especially on such a large scale. It’s sort-of uncharted territory.

        • unknown-

          it certainly can be. there is no reason that a vacation market cannot consistently keep high prices. many have.

          look at miami. it’s back at highs in southbeach. that has a lot to do with foreign buying.

          there are tons of foreign buyers in san francisco and new york as well.

          probably half my old building in SF was owned by asians as an investment/vacation property.

          Honolulu is the same as are many resort towns.

          i’m not sure this trend is nearly as anomalous or uncharted as you may be assuming.

  4. A major difference in situation in Canada now and the US in 2007 is that then the US was dependent on a few small economies like Australia and Canada to pull their economy back into growth. Clearly, the effects of slow solid growth in these small economies were inadequate to the task.

    The severity of the downturn in Canada is heavily dependent on whether or not the US slides back into recession. Even moderate US growth in the US economy will probably be enough to stabilize the Canadian economy and housing market.

  5. This chart and this article are misleading.
    you cant look at this kind of data in levels,
    you must check the change over time
    when you examine what happend to canada house price over time, you see that the prices are as stable as rock!
    yearly prices are changing between 2%-3%, which is just what the have to manage just to keep the real value of the house. no bubble, not even close. sorry.

    • guy:

      um, no. your numbers are wrong.

      if you go from 100 to 220 in 13 years, that is NOT 2-3% gains.

      that is a 6.25% compounded rate of price increase.

      try the math yourself. 1.0625^13 = 2.20

      at 3% you’d get 47% price gains in 13 years, not the 120% that is on the chart.

      this seems to pretty much scupper the rest of your argument.

  6. The chart at top shows prices in Canada began to crash when it became clear there was a housing-led recession in the US. Missing from this article (and from McArdle’s) is the Canadian government’s reaction.

    While the US was busy bailing out or not individual banks, the Canada simply bought the subprime mortgages directly. For some time, the Canadian government became the world’s largest holder of subprime mortgages. It’s no surprise that their bubble never popped.

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