While the Canadian economy appears to be weathering the economic storm with surprising ease, Canadian consumers are beginning to show signs of distress. Just last week, Statistics Canada announced a net worth drop of $4,600 per household in the third quarter. Meanwhile, Canadians continue to borrow and buy on credit. Household debt per capita is up by $600 from the second quarter for a total of nearly $46,100 or 152.98%.
To put this into perspective, the American banks encountered trouble when the ratio of debt to disposable income hit 160%. Canadians are flirting with disaster if indebtedness levels continue to rise.
But is this really a true indicator that Canadians are spending more and making less?
Yes and no. Benjamin Tal, deputy chief economist at CIBC explains that this debt ratio is actually misleading. Since the debt ratio takes stock of a person’s debt (including long-term commitments, like a mortgage) in comparison to their income flow, it’s naturally going to by high. Tal insists that a more appropriate ratio is that of debt payments to income (for more information, review Tal’s interview in the Vancouver Sun).
Looking at Consumer Debt in Canada
But what if you take mortgage commitments out of the equation and focus entirely on consumer debt? While real estate assets have increased over the past quarter, this increase is practically offset by the decline in the value of equity holdings per household (mutual funds, for example) and pension savings. Of the $1 trillion Canadians hold in household debt, $448 billion is unsecured consumer credit debt. A quarterly analysis from TransUnion shows that on average, Canadian’s carry approximately $25,594 in non-mortgage debt. That’s more than $431 higher than rates from last year. A new report by Moody’s Investors Service Inc. warns that this increasing debt load will put the Canadian banking system at risk in the event of another economic downturn.
Putting Things into Perspective
Consumer debt represented between 9% and 15% of the total managed assets in Canada’s largest banks. Factor uninsured mortgages into the mix, and the range jumps from 14% to 24%. While the impact is different for each bank based on their asset mix, it’s safe to assume that no bank would be left unscathed if the economy were to take a turn for the worse.
A Promising Outlook
Luckily, the news isn’t all bad. Canadians are beginning to reign in their spending. The latest report shows a $9 drop from the previous quarter, marking this the third-consecutive quarter that debt loads have dropped or remained the same. While it would appear that global economic uncertainty and unemployment has caused Canadians debt loads to stabilize, there is still uncertainty surrounding the poor credit ratings of Canadian citizens. Low interest rates are causing Canadians to take on debt they may not be able to handle once rates increase. Data from the latest TransUnion report shows that, while Canadian credit card debt has fell 2.65% from a year ago, debt from lines of credit has risen by 4.5%.
Should Mortgage Rules Be Stricter in Order to Curb Spending?
Chef executive officer of Toronto-Dominion Bank, Ed Clark, believes that Ottawa should tighten the lending rules in order to curb household debt. A recent article in the Globe and Mail states that Mr. Clark believes reducing the maximum length of federally insured mortgages from 30 years to 25 would help slow rising levels of household debt. While this could help lower the ratio, it doesn’t address increased consumer spending and the rising rates of unsecured debt.
Consumer debt is expected to jump with holiday spending, leaving economists doubtful that the debt load will drop for a fourth-consecutive quarter. This factor, along with increased unemployment rates should weigh heavily on future findings.