Tuesday, November 23, 2010

Canada's Housing Bubble

Have you ever read the book The Stand by Stephen King? It's about a biological weapon called Captain Trips that wipes out 99% of humanity. The symptoms of the superflu are interesting: at first the patient gets sick, then just as it looks like he or she is recovering, the patient gets sick again and dies. The reason I bring this up?

I think Canada may have the economic equivalent to Captain Trips.

In 2008/2009 we experienced a recession. Despite the media hype, Canada fared a lot better than our U.S. neighbour. While simultaneously fear-mongering “the worst recession since the depression” the mainstream media also championed Canada as having escaped the worse because “we had a strong banking sector” and our “federal budget was running surpluses.” Since a lot of Canadians get their news from mainstream sources, a lot of us generally believe this.

Here's the problem: a federal surplus doesn't eradicate the total debt ($463.7 billion in 2008). Debts on a personal and household level don't help either. Add the Bank of Canada's historically low interest rates and our banking sector, more leveraged and less capitalized than our American counterparts the situation is – to quote Trailer Park Supervisor Jim Lahey – a shit-storm waiting to happen, Randy.

If you thought Canadian banks were fine consider the federal government buying at least $70 billion worth of bad mortgages in 2008 and putting up an additional $200 billion as an emergency fund the banks can dip into. Passing the risks onto taxpayers has made it easier for the Big Five to continue offering cheap lines of credit, fueling consumer-spending and new mortgages. It's hard to say when things will go bad but when the global scene deteriorates I can't imagine it'll be a good year for Canadians.

For starters it's becoming increasingly apparent that Canada's 'hot housing market' is just simply over-valued property. The Bank of Canada's low interest rate policy, along with the CMHC (think Fannie and Freddie) have distorted the real estate market since 1946. The government currently insures nearly 100% of CMHC mortgages, compiling $500 billion into securitized pools that are sold on the market and rear their ugly heads in mutual funds and other investments. Most, if not nearly all, of these Government insured debt-instruments are from soon-to-be outstanding mortgages. Yet, this was supposed to be Flaherty's solution to prevent a US-style housing crisis in Canada. This man is terribly unqualified to be Finance Minister. Government interference in 2008 assured us that 2009 wouldn't be that bad. But by putting a band-aid on the situation Flaherty has only guaranteed the bust to be that much worse.

It's now almost 2011, Spring will mark the four year anniversary of when one could once get a mortgage for 0% down. It's time to get ready for another recession, Canada. It's hard to say how messed up the market actually is, but when the bubble does burst expect it to affect the entire economy. If all this is hard to picture, these graphs should give some indication to where Canada stands:

(courtesy of canadabubble.com)

Clearly, our housing bubble hasn't burst yet.

The recession Canada went through during the last quarter of 08 and the first couple of 09 was not the made-in-Canada recession that's yet to come. It was merely the outcome of a drop in US demand for our exports. Since across the border trade defines our economy the drop in exports 'leaked' into other sectors. Most Canadian employed in the service sector saw their hours cut. Manufacturing and mining sectors took the heaviest toll, as always, but Canadian financials grew. Government grew as well -- as they do every time there's a recession.

What's become of Canada in the two years since? Well by June 2009 the recession really was over in this country and the real estate bubble continued on much as it had before. 100 billion in deficit-spending has done much to compile even more misallocations in the economy, with opposition parties calling for even more stimulus. The Bank of Canada's one percent raise in the over-night rate hasn't done much to counter these malinvestments; it's hard to say when the Bank will burst the bubble but it'll be interesting when it happens. Will it be under the guise of “general monetary policy” or will it originate from a situation in the United States?

A double whammy for Canada, as we could suffer our debt crisis and an export-driven recession at the same time. As our economic situation deteriorates governments will most likely continue to intervene in the economy, prolonging the depression with additional stimulus and eventually – wage and price controls. The Big Five banks will probably "deleverage" onto central bank balance sheets with Canadians none the wiser. Despite banks leaving taxpayers to foot the bill, most of us will probably still falsely believe that our banks are well-regulated.

The good news? Silver's still pretty cheap, and gold's still got a way to go. Precious metals are a safe way to hedge your bets against a weakening dollar since gold and silver are money, after all. But as for any pain-free way out for Canadians, I'm afraid we're going to suffer the Global Depression just like everyone else. Hopefully a newly founded mistrust of authority will help us learn from this experience:

Never trust the banks!

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