The ONW Salon: How To Cool The Red Hot Housing Bubble
All three levels of government met this week to try to figure out a way to cool down Toronto's exploding housing market. Ontario Finance Minister Charles Sousa is promising his government will act in the province's budget, set to be brought down next week. But what exactly should governments be doing? Richard Mahoney, John Capobianco and Tom Parkin weigh in with their thoughts.
"Home prices have risen ahead of economic fundamentals such as personal disposable income and population growth, resulting in overvaluation in many Canadian housing markets,” said the quarterly market assessment by the Canada Housing and Mortgage Corporation released in October 2016. There is "strong evidence of problematic conditions,” continued the CMHC report.
"Let's drop the pretence,” Douglas Porter, chief economist at BMO Capital Markets, wrote in a mid-February commentary. "The Toronto market – and the many cities surrounding it – is in a housing bubble."
"Home prices across the GTA and surrounding areas appear to be detaching from fundamentals and are simply unsustainable” – that was the blunt opinion in a TD Bank economic forecast on March 16.
The warning lights have been flashing for months. Yet only now have the Finance Ministers of Canada and Ontario and the Mayor of Toronto met and decided that more talk is the answer.
The last Toronto real estate market crash was over twenty years ago. In inflation adjusted terms, the average selling price of a GTA house fell 40% from the 1988 peak to the trough in 1996. Adjusted for inflation, prices didn’t recover to the pre-crash peak until 2010. Think about that.
Another crash of that magnitude would destroy literally billions of dollars in Canadian wealth. It would take down the residential renovation and construction industries and their chain of suppliers. That’ll end the mania.
And there can be no doubt market mania has taken over – greed and fear. This is why the argument from real estate sales people that more supply will solve the problem is utterly ridiculous. And it is embarrassing that Patrick Brown is mouthing this argument when surely he knows better.
The solution to the Dutch tulip mania in the 1600s wasn’t to add more tulips. The solution to the U.S. subprime crisis wasn’t to write more subprime mortgages. Tulips, Pokémon’s, beanie babies, houses – when assets are far above their value because of emotion, adding supply simply sustains the emotion. It keeps the party going – and the hangover will just be that much worse.
Amid the fear and greed we have politicians who have utterly failed to listen to the warnings and analyse and address the origins of the bubble. Now driving on pure emotion, it’s too late.
As a free market conservative, I always worry when governments decide that they need to fix a problem in the marketplace, especially a problem that has existed for some time and can have a devastating effect in the long-term. I get that there exists situations where the government needs to come in and level the playing field for those involved, but generally the market forces of supply and demand tend to correct inequalities, as has been the case in housing over the years in this city and other major cities.
Look, I understand we have a housing issue and I do commend certain politicians for acting to try and “fix” the problem. But why not have the foresight to see this before it becomes a front-page-above-the-fold news story?
I gather from the recent stories that the upcoming Ontario budget will have answers to the housing problem – as Finance Minister Sousa said the other day, “stay tuned”. So I guess those who are attempting to buy a house now can wait another week - one more week won’t hurt.
The housing issue is serious, as home property is likely the largest debt an individual may take on in his or her lifetime and is likely their largest asset as well, so managing that is critical for family finances and for provincial finances as well.
However, governments all want to step in to help the consumer. They are also suggesting rent controls on buildings with rental units built after 1991 (there already exists rent controls for buildings built before 1991). What message does that send to the development industry, which we need to build houses and buildings? It is easy to pick on developers, I have noticed over the years, but they are a critical player in our economy and a much-needed player in our economy.
That is just one idea being floated around. There are others, which I am sure the Finance Minister will unveil in his budget next week. But this deserves a smart, well thought out approach, since our demographics have changed and continue to change, with our aging population deciding to sell their houses to move into more accommodating condos or rental units.
Tom provides a decent diagnostic of the housing bubble, but partisan excess seems to take him, and many New Democrats, to the land of no solutions. He is right to say we are in a bubble. By the way, Toronto and Vancouver have been in “the bubble” for quite some time. He is wrong to say that governments have done nothing, and that it is too late, and, for that matter, and like his party, he is light on solutions that will help and not hurt.
This is a complex problem, affecting the pocketbooks of millions of Canadians and almost every move government makes can make matters worse. So there is a delicate balance of price, supply and demand. A lurch in one direction or the other can have little to no impact, or worsen the situation. As Tom suggests, drastic market corrections can have a devastating impact on the finances of Canadians.
First of all, let’s deal with the levers available to the federal government. Those policy levers have to do with the availability and cost of credit for things like mortgages.
Most Canadians do not realize exactly how much the federal government already does in terms of intervention in the market place. For starters, we have something called mortgage insurance for first time homebuyers - provided by the CMHC and by private sector players such as Genworth - which allow first time homebuyers to buy government backed insurance to insure their mortgages. It also allows banks and mortgage companies to lend money to Canadians with as little as a 5 per cent down payment on their home. The CMHC also provides a securitization program, making mortgage lending easier by again using a government guarantee. In other words, the government backs these loans, making credit more available.
The good news is that, because of this, we have one of the highest rates of home ownership in the world. The bad news is that, if more people can buy a home that means there is more demand, and therefore the cost of homes goes up. The federal government has moved twice since being elected in late 2015 to tighten these rules, out of concern that Canadians might be getting overextended, and that Vancouver and the Greater Toronto area were in a price bubble.
If the federal government had moved to further restrict access to borrowing and cost, fewer Canadians would have had access to buying their first home, and the 30 million Canadians who live in cities other than the GTHA and Vancouver, where there is no housing "bubble", where properties are not "overvalued", would have their access to housing restricted, and unfairly so. So it is not one market that the feds have to worry about, and it is complex.
That said, the Ontario government has indicated it will move within the week with some additional measures that will help. It looks like rent control will be extended and, following the experiment last year in BC, a tax on foreign buyers will be implemented. This can all help.
The problem in the market isn’t the over-extension of homeowners. That’s a symptom.
Low interest rates kick-started house asset inflation. A $1000 weekly payment on a mortgage amortized over 20 years at 7.5% lends you $500,000. But a $1000 weekly payment over 20 years at $2.5% gives you $750,000. And indeed, a one-year term in winter 2009 was 7.35%. It was under 3% by summer 2015. There’s your first $250,000 of asset inflation to get a hot market going.
But there’s a long distance between the end of a hot market and the start of a mania. Something happened in between. What carried us that distance? Have our real estate and mortgage systems, which hide beneficial ownership, been used for money laundering or to evade other of the nation’s capital controls? Is there a dangerous subprime marketplace in which money is being lent to unqualified lenders? Are wealthy investors buying homes, renovating, flipping and paying no tax on capital gains because they falsely claim the house as a primary residence?
These questions all ask if there are cracks in the system – cracks that allowed a hot market to get stoked to the simmering point at which point full mania boiled over. When the hot market started these possible cracks weren’t investigated. When the warning lights started flashing, they weren’t investigated. And now here we are.
Our political class let a campfire turn into a forest fire – and now anything that looks like it might carry some water will be called into action. New capital gains rules, vacant home taxes, foreign buyers’ taxes.
No one – publicly, anyway – has the analysis and data to show what kind of fuel is firing this. So how can we know how to extinguish it?
Government intervening in the marketplace is not unusual, as I have mentioned. However when it comes to Ontario, my point is that it is not smart to intervene for the sake of quick fixes because an election is looming and they feel like they should act. This is similar to the Premier deciding that she now needed to fix electricity prices when it was her government that caused the problem.
The policies that Richard cites have been in place for years, such as the CMHC, which many governments, including the previous Conservative government, have tinkered with to adjust for the times. An example of this occurred under former Minister of Finance Jim Flaherty, who saw what was happening in the U.S. with Americans becoming overexposed on their mortgages and decided to cap mortgage and re-mortgaging for homeowners to ensure their debt load was manageable vis-a-vis the value of their property.
The policies that have been in place for years are generally there to protect consumers from themselves in many cases, especially when it comes to something as emotional as buying your first house. Debts incurred at this level can have negative lasting impact on family finances if not managed properly, and this is where governments of the past have been able to assist. My concern remains that quick fixes to problems we might not fully understand, as Tom states, can cause the fire to get worse, not extinguish it.
Tom is right to say that overextension is a symptom. It is also a problem in its own right. My point was to respond to his erroneous assertion that nothing has been done and to point out how complex this market is. He is right to say we don’t know enough - when BC tried the foreign buyers tax, they did not know if it would work, in part because they did not know how many foreign buyers they had who were sitting on properties in Vancouver.
The same is true in Ontario - the new measures the province is considering, including a foreign buyers tax, will tap down demand, but by how much, no one knows.
Tom also points out that interest rates are a big part of it. But is he suggesting, and is the NDP suggesting, that the federal government direct the Bank of Canada to raise rates? That would have a huge impact on everyone’s cost of living. And a reminder to Tom and to all of us that most of Canada is not in a housing bubble - real estate prices in most markets are flat to experiencing low growth. So increasing rates will make life more expensive for everyone, and might cause devaluation in all the other markets in the country. We can’t raise rates in Toronto but keep them cheap in St. Catharines.
The Ontario government’s expected moves on rent control will help keep the cost of rental housing down. We have finally seen an increase in the building of new rental units - that will help. Tom may say supply is not the solution but for families who need to live and work in the GTHA, they need help now. The “bubble” has made it difficult to afford to live here. But we need people to be able to afford to live here and work here, so some protection now is important. Further measures that the Wynne government is considering on supply will also help, and, I gather, will be announced soon.
Finally, we need to remind ourselves that the GTHA looks like it will be a growing metropolis for years to come. That is a good thing, but all of the world’s great cities face the challenge of affordable housing. We do better than most. It is a complex puzzle and the policy levers are more art than science. But that is not an argument to stand pat. It is an argument to try new measures and learn from experience with all three levels of government doing their part.
Richard Mahoney is a lawyer with deep experience in politics and governance. He is a former senior advisor to the Rt. Hon Paul Martin, a former Campaign Chair and President of the Ontario Liberal Party. John Capobianco is a Senior Partner and National Public Affairs Lead at FleishmanHillard. He has been a Conservative strategist with over 30 years of political activism at all three levels, including as a former federal Conservative candidate. Tom Parkin is a veteran NDP strategist and a frequent commentator on national issues.