Canada's Housing Bubble

Jul 25, 2011 Ian Lee Postmedia News

After a half-decade of minority governments where many challenging and controversial issues were kicked down the road, the Government of Canada finally can tackle overdue problems.

One important policy field that must be re-examined in light of the 2008 financial crisis, and the U.S. housing bubble and its collapse, is the role played by Canada Mortgage and Housing Corporation in the rapidly appreciating housing market that some analysts argue is producing a similar Canadian housing bubble.

Indeed, the role of CMHC has been addressed by the CD Howe Institute, Fraser Institute and the Macdonald-Laurier Institute, each of which provided some compelling recommendations including privatization.

CMHC is the Godzilla of Canadian residential housing financing, established in 1946 by the Mackenize King Liberal government to provide inexpensive, low-rate mortgages with low down payments to returning veterans of the Second World War.

In 1954, the National Housing Act was amended to remove CMHC as a direct lender. Instead, it was mandated to provide default mortgage insurance to banks and other lenders for "highratio mortgages," advanced to consumers with less than the required down payment. Over the years, the rules pertaining to down payment requirement, mortgage amortization, and income standards were modified.

CMHC mortgage insurance provides mortgage guarantees to banks and other mortgage lenders of approximately $500 billion or one-third of Canadian GDP, representing approximately 70 per cent of the mortgage insurance market.

Astonishingly, notwithstanding these enormous contingent liabilities and notwithstanding Canada's long prudent and internationally recognized record of vigorous regulation of financial institutions, CMHC is not regulated by any outside authority such as the Office of the Superintendent of Financial Institutions (OSFI), as are all other federally incorporated financial institutions in Canada.

As CMHC is a Crown corporation owned completely by the Canadian government, its insurance guarantees are backed by the Government of Canada. That means Canadian taxpayers are liable for $500 billion to banks and mortgage lending institutions, should Canada experience a housing meltdown similar to the U.S. in 2008.

The U.S. housing meltdown cost homeowners more than $6 trillion in losses and drove 20 per cent of homes into foreclosure. According to Gretchen Morgenson and Joshua Rosner in their book Reckless Endangerment, the housing crisis was driven by politicians who encouraged more and more lending to ever lower income people who could not afford mortgages.

Another important reason to modernize CMHC concerns its unfair and anticompetitive control of 70 per cent of the mortgage insurance market which violates the spirit of Canadian federal competition policy. CMHC has a dominant position as its guarantees are backed 100 per cent by the Government of Canada while the private mortgage insurers are backed by a 90-per-cent guarantee.

The most important reason to modernize CMHC is to provide choice and competition to Canadians.

Canada should establish a subsidiary of CMHC for the sole purpose of issuing mortgage insurance. This subsidiary should be given a guarantee for 90 per cent of guarantees or liabilities, ensuring a level playing field with private insurance firms.

As well, the Government of Canada must amend the CMHC Act to bring CMHC under the jurisdiction of OSFI, to ensure transparency, prudential financial regulation and a level playing field with private insurance firms.

Taken together, these changes will transform CMHC into a more transparent and efficient organization, operating on a level playing field with private competitors, which will significantly reduce risk to the Canadian taxpayer, bring CMHC as a regulatory outlier under the Canadian financial regulatory umbrella, and offer more choice and lower prices to consumers.

Ian Lee is a professor in the Sprott School of Business at Carleton University and the former MBA director (2007-2010).