Tuesday, June 16, 2009

The Greatest Threat to the Canadian Economy? The BOC says Household Debt.

The Bank of Canada released its bi-annual Financial System Review yesterday.

On the whole, the BOC says Canada's banks and credit markets are as strong as could be expected amid the deepest global recession since the Second World War.

The BOC has come to the conclusion that overall risks to the financial system are unchanged from its last report in December.

“Despite the severe impact of the global crisis, the Canadian financial system has continued to perform well compared with those of other countries.”

Hmm... somehow being front of the pack in a herd of turtles isn't all the comforting. And I wonder, how much of that performance is attributable to the hundreds of billions of dollars of liquidity that the Bank of Canada and other major central banks have injected into the global financial system?

Rock-bottom interest rates have lowered the cost of borrowing and slowed the the crashing housing market from it's perilous decline... at least for now.

But the Bank of Canada warns that a potentially catastrophic threat looms on the horizon: household debt. The risk posed by household balance sheets is significant. And it has grown.

The Bank of Canada reports that the level of debt to income reached a record in the fourth quarter as real net worth dropped 6.7% from the same period a year ago. While stressing that the possibility of a mass bankruptcy is remote, the ability of Canadians to repay their bank loans has replaced frozen credit markets as the main fear factor among policy makers, the report said.

“There has been a further deterioration in the financial position of the Canadian household sector as a result of the continued turmoil in financial markets, the deepening global recession, and worsening labour market conditions,” the report said.

Canadians' household debt is about 140% of disposable income, compared with about 150% in Britain and almost 190% in the United States.

The fact of the matter is that Canadians have been no different than Americans in using their homes as ATM machines and withdrawing equity to spend. That's why the Bank of Canada has been so desperate to halt the slide in real estate values. Should the economy worsen, global financial conditions could trigger a surge in interest rates. If that happens Canadian real estate values will come crashing down.

The end result? Negative equity and household debt combining to drown many Canadian families.

In the face of these conditions, Canadians are frantically trying to save more and spend less. Which is, of course, what politicians fear will devestate the economic recovery.

Unfortunately the only solution our government is working towards is trying to provide more credit for everyone.

Can you say Catch 22?


Email: village_whisperer@live.ca
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