This was the year when interest rates finally rose for the first time since 2010. And despite that, it was also the year when Canadians smashed all previous debt records, with data showing that the average household now owes $1.72 for every dollar of disposable income.
Interest rates are widely expected to continue their gradual climb in 2018, but can Canadians keep digging themselves deeper and deeper into the red?
“The dam [containing Canada’s household debt] hasn’t cracked yet,” said Douglas Hoyes, a licensed insolvency trustee at Ontario-based Hoyes Michalos. But, he added, “2017 was the calm before the storm.”
This doesn’t mean the sky will fall on financially overstretched Canadians in 2018. Indeed, Hoyes thinks 2018 will likely play out more or less as this year did.
Still, there will be a lot of factors increasing the squeeze on borrowers over the next 12 months – and some of them could hit debt-burdened households harder than expected.
Economists expect the Bank of Canada (BoC) to continue its slow upward march on interest rates next year.
The Bank of Montreal currently forecasts three rate hikes, with the BoC’s trendsetting policy rate ending 2018 at 1.75 per cent, up from the current 1 per cent.
But NAFTA woes and BoC governor Stephen Poloz’s concern about youth unemployment and underemployment might mean the central bank will proceed even more cautiously, upping rates by only half of a percentage point next year, said Douglas Porter, chief economist at BMO Financial Group.
Even that, though, would mean interest rates will have climbed by a full percentage point since July of 2017.
Someone with a variable mortgage rate of 3 per cent in early 2017 might end up with a rate of 4 per cent by the end of 2018, which represents a 30 per cent increase, noted Hoyes.
“That’s a potential risk factor,” he said.
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Come Jan. 1, Canadians will also face tighter mortgage rules, with a stress test becoming mandatory even for homebuyers with down payments of 20 per cent or more.
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While those regulations are meant to ensure Canadians can cope with higher interest rates, their potential repercussions on home prices might trip up some current homeowners, worries Hoyes.
Especially in Toronto and Vancouver, many have become accustomed to seeing the equity share in their homes rise significantly every year just by virtue of rising home prices, freeing up room to borrow against the house.
The new rules, however, could put an end to that game for many, in two ways, noted Hoyes.
The first is the simple fact that the stress test will apply to refinancing, too. Financial institutions will now vet applicants against an interest rate the is the higher of either BoC’s five-year benchmark rate (currently 4.99 per cent) or their contractual rate plus two percentage points. That means borrowers who are stretched thin will be unable to add a new loan or have to borrow less than they otherwise would.
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The other way in which the rules might affect homeowners’ ability to add debt is by impacting home prices.
Even without a housing crash, real estate values that are barely rising or stagnating will curtail Canadians’ ability to use their home to finance spending or keep up with their existing debt, according to Hoyes.
And, indeed, the forecast is for smaller prices gains, or even tiny dips, next year.
The national home price is expected to slip by 1.4 per cent in 2018, to $503,100, the Canadian Real Estate Association said on Thursday. For comparison, the association estimates the average price of a home to rise this year to $510,400, up 4.2 per cent compared to 2016.
Others are more optimistic, expecting to see home prices continue to climb next year, albeit at a much slower pace.
BMO is among these, which sees prices “settling and firming up,” in the second half of the year after the market has had a chance to digest the new rules, according to Porter.
In Ottawa, where public-sector spending is fuelling hiring, and Montreal, which is starting to attract foreign buyers and is riding high on strong economic growth in Quebec, “momentum will likely carry on” for home prices, he noted.
Other areas, like Calgary and Edmonton, will likely see “no meaningful price gains.”
But Vancouver and Toronto are where “we think those rules will bite the most,” said Porter.
And while both cities may bounce back, that is also where it’s been easiest for spend-happy Canadians to tap into their homes as sources of extra cash.
Another thing that worries Hoyes is the potential impact of minimum wage increases that will take effect next year.
Ontario’s general minimum wage will climb from $11.60 per hour to $14 per hour on Jan. 1 and to $15 in 2019.
While that should help minimum-wage earners, Ontarians in particular, it could hurt some if employers react by curtailing hours or even implementing layoffs, said Hoyes. Low-income families often have to resort to debt to afford basic expenses, he added. A reduction in income would turn them into riskier borrowers subjected to steeper interest rates.
Porter believes that “those who will hold on to their jobs will benefit,” with reductions in hours unlikely to result in overall lower income.
But the impact of the wage increase will spread well beyond those currently earning minimum wage. Raising the pay floor will trigger a domino effect whereby “everyone [earning] up to $15 per hour will see wages go up,” said Porter.
The move could also impact prices, by prompting businesses to recoup higher labour costs by passing on the bill to consumers. Daycare fees, for example, are widely expected to go up, although the province has said it will absorb those costs in licensed childcare centres.
Alberta is also raising its minimum wage, with a third and final (for now) hike to $15 an hour coming into effect Oct. 1.
Despite the province’s higher unemployment, though, Porter expects the impact there to be more muted than in Ontario because wage levels are generally higher in Alberta.
Overall, Canadians will probably see decent income growth of 2.5 per cent per person next year, a bit higher than inflation and on par with this year’s performance, said Porter. Offsetting that, though, will be slower overall job growth, he added.
In sum, 2018 may well turn out to be another year of smooth sailing for indebted Canadians. But there sure is a lot of cross-winds in the forecast.
– With a file from the Canadian Press
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