Canada's Housing Bubble

Nov 23, 2010 Kevin SaskatoonHousingBubble

The wealth effect is an economic term, referring to an increase in spending that accompanies an increase in perceived wealth.  When a Saskatoon home owner sees their house rising in value, they go shopping.  In the last few years, we have led the nation in % growth of retail sales.  This post is more theory and on assumptions, but should give us good idea on what the wealth effect has done for Saskatoon housing and economy.

Here is a report is from the Dallas Fed, which is a US based entity, but this does pertain to Canadian households.
http://www.dallasfed.org/research/eclett/2006/el0611.html#6
Consistent with a growing liquidity, or MEW effect, some new studies have found wealth effects are now greater than earlier research suggested. One estimates that a $100 rise in housing wealth leads to a $9 increase in spending. Another finds that increases in housing wealth generate three times the spending from stock-price gains. Together, higher home values and financial innovations have enabled homeowners to more easily tap housing wealth. Mortgage equity withdrawals have risen sharply recently relative to income.


100,000 homes that have on average increased from $150,000 to $290,000 in about 5 years for Saskatoon, which we know was not based on fundamentals but credit.  So if Saskatoon follows this study, we can calculate that Saskatoon homes have increased in value by 14 Billion over that time period. And if households followed the pattern of equity withdrawal in the relation to rising house prices, we would find that in the last 5 years extra withdrawal of equity has increased by a total of 1.26 Billion, that would have otherwise not have been taken out if house prices remained flat over that time period.  Remember that is extra equity withdrawal, not total equity withdrawal. This money that was taken out has been used for debt consolidation, new home construction and retail sales. For example, in 2002, retail sales totaled 3.1 billion.  In 2010, retail sales are forecast to be 5.5 billion for Saskatoon. 

If you think we are not like the Americans and we don't use homes as ATM's, you are wrong.  At the peak of their bubble in 2006, Americans withdrew 16% of their equity.  In the 12 months of this study, Canadians took out just over 12% of their equity.  This equated to a 8% rise in the average household income.  Home renovation tax credit and other spending on houses led us out of recession.  This works when house prices rise, but the US experience tells us that the game can only be played for so long and fall out can be disastrous.

http://www.caamp.org/meloncms/media/Fall%20Consumer%20Report%20WEB.pdf
“The survey data indicates that 18% of mortgage holders took out equity from their homes or increased the amount of the mortgage principal within the past twelve months. The average amount of equity take-out is estimated at $46,000.

As with all Canadian studies, we will just plug the average for Saskatoon.  This is for total equity extraction over the last year, as the former calculation was for the increase in equity extraction over the last 5 years.  Hopefully it makes sense.

Saskatoon has approximately 105,000 units of housing.  The home ownership rate is about 70%. So there are about 73,000 owner occupied units here. We will follow the Canadian average, ( I believe we have borrowed more, but we will stick to the Canadian average until we see different numbers for now).  The average amount taken out was $46,000 for the 18%.  Spread out between all home owners and the average amount take out of their home is $9,000.  Multiply that by the 73000 home owners and we see that Saskatoon home owners extracted just over 650 million dollars from their homes over the last 12 months.  This number would be bigger if we used all homes, but we will just follow the report.
That might seem like a big number and it is, but compare that to the nation, as throughout the nation Canadians borrowed 41 billion last year from their homes. 

How does this fit in with GDP for Saskatoon?  According to SREDA total GDP for Saskatoon CMA is forecast to be 10 billion in 2010.  So if Saskatoon followed the nations average, 3.6% of this cities GDP ( 1/3 of equity extraction was debt consolidation) is a result of equity extraction of their homes.  What happens when the ATM is closed?

This is what TD say in 2008 about household spending.
"Households have been spending almost like drunken sailors over the past couple of years."
In 2009 and 2010, households cranked up spending even more.  Who spends more than a drunken sailor?

Some Saskatoon home owners, I'm sure!