Is the Canadian Government Creating a new Real Estate Bubble?
The housing market in Canada has gone through a full cycle since 2009.
During 2009, the prices were at an all-time low. Ever since the prices have increased at break-neck speed. The prices rose so much that real estate simply became unaffordable for most people.
However, in the past couple of years, the housing prices have started to crash in Canada.
As a result, the Canadian government has started taking several initiatives in order to bring home buyers back to the market.
These efforts are eerily similar to the ones that were taken by the United States government in order to prop up the housing prices.
This is the reason why many people believe that the policies being adopted by the Canadian government could be the beginning of another bubble.
In this article, we will have a closer look at the policies which are being followed by the Canadian government as well as the likely impact that they will have on the real estate market.
Policies Being Adopted By the Canadian Government
The millennials find themselves priced out of the housing market. This is because they have just joined the labour force.
A lot of them already have student loans as well. Hence, with their meagre wages, they simply cannot afford to buy real estate in Canada. This has slowed down the housing market as well as allied industries.
This is the reason that the developers, as well as financiers, have been continuously pressurizing the Canadian government to relax the lending norms.
At the present moment, Canadian banks assume a hypothetical rate which is 2% higher than the actual interest rate while calculating the affordability of a house. This ensures that only the people who will not go bankrupt if the interest rate increases at a later date are given loans. The developers and financiers wanted this to change.
However, the Canadian government has resisted the temptation to do so.
The problem is that Canada has created some other policies which are equally worse. For instance, Prime Minister Justin Trudeau has set aside $1.25 billion to help first time home buyers making purchases.
The Canadian government is planning to use public money raised by levying taxes to finance peoples homes. The Canadian government is planning to take about 10% equity stake in the homes of people. This will help them circumvent the minimum down payment requirements.
For instance, if the value of a home is $100, then the buyer will have to put down $10 as a down payment. Another $10 will be paid by the government while the rest will be financed by the bank. This is very similar to lowering the loan underwriting standards.
The only difference is that instead of allowing private parties such as banks to take risks, the Canadian government is directly taking positions in the housing market using taxpayer money.
Hence, if the housing market moves up, the Canadian government gains. If it doesnt, the Canadian government loses. It needs to be emphasized that this is not a loan but instead an equity stake by the Canadian government.
Fearing backlash for taking excessive risk, the Canadian government has capped the eligibility of this policy at $120,000. This means that only families with incomes less than $120000 can avail this offer.
Also, the cash disbursed will not be more than four times the annual salary of the family. This means that the disbursement is capped at $480,000 which is not a small amount by any means.
This is not the only loose policy which has been implemented by the Canadian government when it comes to the real estate market.
For instance, the government is allowing people to borrow increased sums of money from their retirement plans, if they want to invest in the real estate sector. Earlier the limit was $25,000 per person. It has now been raised to $35,000 per person. Hence, a couple can borrow up to $70,000 from their retirement and invest in the housing market!
Another scheme being promoted by the Canadian government is offering tax incentives to developers who are building rental units. This will cost the government $10 billion over the next decade.
How These Policies Will Affect The Market?
Some of the negative effects of the policy have been mentioned below.
The Canadian government seems to be repeating the exact same mistakes which were made by the American government. The government does not understand the fact that if the indebtedness is the problem, more debt cannot be the solution.
Canadas newest policies are aimed at providing more debt to people who cannot afford houses because they already have too much debt. This is not very different from the sub-prime mortgage program. At the end of the day, people who shouldnt be getting loans are getting loans thanks to government intervention
It is a well-known fact that markets do the best job when it comes to capital allocation.
In Canada, the government is trying to replace the market and make capital allocation decisions on its behalf. The problem is that because of this intervention capital will get erroneously allocated to housing. This means that other more productive industries where there is an actual consumer demand for goods will end up getting less capital. The reality is that every dollar spent on a housing program has been taken away from other industries.
The bottom line is that the Canadian government is behaving like the parents of many homebuyers. It is taking equity stakes in the houses of common people. This policy is unprecedented and threatens to magnify the bubble in the Canadian market.
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