Analysis | Is a real estate bubble bursting?
Many people have embarked, during the pandemic, on the acquisition of a larger, more expansive property, more suited to their expectations, but also at prices that have put them in debt for a long time.
While the Bank of Canada worries about the effect of a recession on a growing number of highly indebted households, governments are implementing programs to stimulate property purchases. The creation of the CELIAPP and the enhancement of the tax credit for the purchase of a first home will eventually fuel demand. However, the real estate sector is sending worrying signals.
The market has been extremely strong and it's really on the supply side that we have to work, Quebec Finance Minister Eric Girard told Economy areaThursday evening. Housing starts are up 50% compared to the average of the last 10 years. We have programs for social housing, for affordable housing, rent supplements.
Despite this, the Legault government has decided to harmonize its tax rules with those of the federal government in the implementation of CELIAPP, the Tax-Free Savings Account for the purchase of a first home, a tool created by the federal government in its budget presented last April.
This program allows first-time buyers to inject $8,000 per year into a tax-free account up to a lifetime cap of $40,000. Contributions are tax deductible and withdrawals, including capital gain, are not taxable.
When you stimulate a sector of demand, it is certain that you have an impact on all of demand, recognizes Minister Girard. But, for him, by targeting the first buyers, this stimulation of demand is still limited. We focus only on the first dwellings. And it's a program that is appropriate now that the market is tempering a bit.
Eric Girard, Quebec Minister of Finance
This support for demand comes as the Bank of Canada issues a warning about the over-indebtedness of several households. We know that many people have embarked, during the pandemic, on the acquisition of a larger, more spacious property, more suited to their expectations, but also at prices that have also put them in debt for a long time. These highly indebted households may soon be facing hundreds of dollars more in mortgage payments.
A growing number of households have taken out large mortgages to buy homes, adding to the already large share of highly indebted households, the Bank of Canada wrote in its financial system review released Thursday.
“Because of higher interest rates, some households, especially the most indebted ones, will see their financial room for maneuver shrink significantly at the time of the renewal of their mortgage”
— From the Bank of Canada Financial System Review
And high inflation will erode household purchasing power if wages do not keep up. Finally, homeowners – especially the most indebted among them – may not be able to tap into their equity in the event of a price correction, it says.
Generally speaking, the rise in property values, the rise in stock markets and the growth in liquid assets have meant that the general financial situation of households in Canada has improved since last year.
< p class="e-p">But, according to the Bank of Canada, a growing share of households have put themselves in dire financial straits to buy property amid high house prices. And the number of highly indebted households is reaching record highs.
Thus, the share of households whose debt represents more than 350% of their income has increased from 6.5% in 1999 to 18.7% in 2021. This share is only increasing, year after year.
People who bought properties in 2020 or 2021 and will have to renew their mortgage term in 2025 or 2026 could see their monthly mortgage payment increase by 30% to 45%. That's hundreds of dollars more to pay every month, thousands more dollars annually.
Along with these additional interest costs, many households must contend with other types of debt. And these same households have to live with galloping inflation, particularly on fuel and food.
These factors suggest that some households will need to reduce spending to service their debt as interest rates rise. In this context, highly indebted households are particularly vulnerable to a loss of income, especially if it is combined with a fall in house prices, warns the Bank of Canada.
Tiff Macklem, Governor of the Bank of Canada
Moreover, the real estate market is entering a correction, according to Desjardins. The financial institution's economists say that the sector has just reached an inflection point, that a correction is beginning, but it is not a collapse.
< p class="e-p">The average price of an existing property in Canada has increased by 50% since the end of 2019. It rose from $530,000 to $790,000 at the peak of February 2022.
< p class="e-p">After a surge in prices and sales in late 2021 and early 2022, prices began to decline in March and April, as did sales which have fallen 18% since February. And it will continue, according to Desjardins, due to the rise in interest rates, which is affecting demand.
Thus, from the peak of February 2022 to the At the end of 2023, the average price of properties is expected to fall by 15% across Canada and by 12% in Quebec. The decline is expected to reach 18% in Ontario and 20% in New Brunswick.
The price surge was greater in Ontario than in Quebec. The debt ratio is lower and the level of savings is higher in Quebec. The situation is less critical than in Ontario in terms of affordability, according to Desjardins.
What is striking in the latest data that has been released is the rise in the number of highly indebted households, households whose debt represents more than 350% and even 450% of their income. This share is growing and should sound the alarm in Canada.
Part of the exceptional price increase since the start of the pandemic could be due to the formation of extrapolative expectations, says the Bank of Canada. This phenomenon occurs when people come to expect prices to rise in the future simply because they have risen in the past. It is then possible to see home buyers flocking to the market for fear of missing out on a bargain or in the hope of realizing a significant capital appreciation. […] Extrapolative expectations, especially among investors, could amplify and accelerate price declines in the event of a correction.
Do we still need to stimulate demand, even for first-time buyers, as over-indebtedness raises concerns, interest rates begin to rise, a recession is possible and property declines are on the horizon?
And let's go further: we can ask ourselves, once again, how far we should increase rates in a context where it is more supply and international factors that influence inflation upwards .
This is where the balance to be found for public decision-makers between monetary tightening and home ownership measures. The ultimate goal is to avoid a slippage that would lead to the bursting of the real estate bubble in which far too many households in the country are plunged.