Here’s how the economy could combust, according to the Bank of Canada

Click to play video: 'Bank of Canada video warns of dangers to Canada’s financial system' Bank of Canada video warns of dangers to Canada’s financial system
WATCH ABOVE: Bank of Canada video warns of dangers to Canada's financial system – Dec 22, 2016

The Bank of Canada recently explained in a video different ways the Canadian economy could fall apart. The two main culprits? High household debt and housing market imbalances.

READ MORE: Consumer spending fuels Canada’s economy — but also puts it at risk

“People can often cope with these vulnerabilities for an extended period,” Joshua Slive, a senior policy advisor with the Bank of Canada, said in the video.

“But an economic shock such as a severe recession could trigger a negative chain of events.”

Story continues below advertisement

Here’s what Slive says might happen in that “negative chain of events”.

First, a sharp hike in unemployment would leave many households in a “difficult position,” forcing Canadians to default on mortgages. Roughly 70 per cent of debt in Canada is mortgage debt.

READ MORE: Canadians owe $1.67 for every dollar of disposable income: Statistics Canada

A rash of foreclosures would be next. If Canadians default on their mortgages, lenders could try to recoup the cash by foreclosing and selling the properties, often at rock-bottom prices.

“At the same time, other households are likely to delay house purchases until the economy improves,” Slive said.

“In a housing market that is already vulnerable, this pressure could cause a large drop in house prices.”

READ MORE: Canada facing economic unknowns in 2017 in wake of President-elect Donald Trump

The glut of homes on the market would cause house prices to plummet, leaving many high indebted households with loans that eclipse their property’s value.

Then consumer spending would likely fall across the board, impacting businesses big and small, and as a result, the people employed by those business. This could lead to fewer hours and job cuts, putting even more pressure on the job market.

Story continues below advertisement

Then, because lenders are stressed, it would be harder for Canadians to secure a loan.

The central bank’s scenario is just one possible threat to Canada’s economy.

Last week the Bank of Canada warned that high consumer debt levels are leaving the economy at risk.

WATCH: Climbing debt loads opening up weak spot in Canada’s financial stability: Poloz

Click to play video: 'Bank of Canada warns of financial vulnerability in housing sector' Bank of Canada warns of financial vulnerability in housing sector
Bank of Canada warns of financial vulnerability in housing sector – Dec 15, 2016

Meanwhile, a “sudden increase” in interest rates could send house prices crashing and unemployment rates soaring, data released by the Canada Mortgage and Housing Corporation (CMHC) suggested last month.

Story continues below advertisement

Fortunately for Canadians, our financial institutions undergo rigorous stress tests, Slive said, and should be able to weather the storm. But things would get messy.

“Still, the impact on the broader economy and the financial system would be significant.”

Sponsored content