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The Bank of Canada has acknowledged that the country’s housing market may be overvalued by as much as 30 percent as a long-awaited soft landing remains elusive.
The bank based the estimate on a new model it has developed, details of which are contained in its twice-yearly assessment of threats to the Canadian financial system released Wednesday.
The bank said Canadian house prices have been overvalued by at least 10 percent since 2007, and may now have overshot by anywhere from 10 to 30 percent.
The range is significantly higher than estimates by the International Monetary Fund (10 percent) and Canada Mortgage and Housing Corp., which judges there is a “moderate degree of overvaluation.”
Bank Governor Stephen Poloz acknowledged Wednesday that “some financial vulnerabilities appear to be edging higher.”
These include a growing appetite in Canada for subprime mortgages and risky auto loans, triggered by sustained low interest rates.
But Poloz pointed out that the risk of adverse shocks to Canada’s financial system, including a spike in global interest rates or a re-emergence of the euro crisis, are lower now than six months ago, leaving the “overall stability risk roughly the same as in June.”
The bank is still expecting a soft landing in housing, and that may already be happening in Eastern Canada. But it said prices are still rising in cities, such as Toronto, Calgary and Vancouver.
In Toronto, for example, the bank warned of the risk of an “impending overbuild” in the condominium market.
Rapidly escalating prices are also hitting the commercial real estate market, which the bank called dramatic. Average per square foot values are up 39 percent since 2009, led by downtown Calgary, where prices are up 50 percent.
Among the worsening “vulnerabilities,” the bank’s Financial System Review pointed to a growing subprime mortgage market.
“A more worrisome aspect of this trend is that a sizeable proportion of new uninsured mortgages are being issued to riskier borrowers,” the bank said.
About 35 per cent of new, uninsured mortgages by smaller federally regulated banks since the end of 2012 could be considered non-prime, according to the report.
The bank said various less-unregulated institutions are also getting into the subprime market, which was famously blamed for helping to trigger the financial crisis in the U.S. in 2008.
The share of mortgages in Canada that are considered subprime remains in single digits.
The bank also expressed concern about the auto loan market, where it said borrowers with low credit scores now account for roughly a quarter of all new loans.
“Riskier loan characteristics, such as longer loan terms and higher loan-to-value rations, have become more common,” the report said.
The growth in auto loans has doubled to more $120-billion since 2006, “substantially outpacing” all other forms of household borrowing. Auto lending has grown by an average of 9 percent since 2011, versus 4 per cent a year for overall household credit.
The report said growth has been driven by strong auto sales, increased lending by major banks as well as new entrants, such as credit union, insurance companies, foreign financial institutions and “unregulated entities.”
Low interest are also causing “increased risk taking in financial markets,” according to the central bank. One manifestation of the trend is that investors are shifting to corporate bonds from government bonds.
The report said the main risks to Canada’s financial system are the same as in June – the possibility of housing crash, an interest rate spike, financial stress in Europe and a banking crisis in China.