Published in the Financial Post on June 21, 2012
By Finn Poschmann
Federal Finance Minister Jim Flaherty, with regulatory and moral support from the Office of the Superintendent of Financial Institutions and the Bank of Canada respectively, is attempting to pilot a soft economic landing. Canadians will never know if Thursday’s mortgage-market moves were required, or will have been successful, but, in either case, it is time to leave markets be.
In Canada, we like to think we’re cleverer than other countries that got into housing trouble. Following a decade of swift consumer credit growth, matched by a steady upward march in major market housing prices, the Department of Finance Canada has set in place its fourth round of tightening of mortgage lending rules. Key features: The maximum mortgage amortization term will fall from 30 to 25 years; the maximum loan-to-value ratio for refinancings will fall from 85% to 80% — meaning no mandatory mortgage insurance for refinancings — and, in a nod to appearances, mortgage insurance will not be available for homes with a purchase price above $1-million. These steps respond in part to some bankers’ recent pleas to be stopped before they lend again.
Alongside, OSFI produced Thursday a final set of mortgage-underwriting guidelines, which financial institutions are to have in place by the end of fiscal 2012-13. Their primary effect will be to restrain the growth of high loan-to-value-ratio home-equity lines of credit, creating a minor but digestible shock to the system.
The same morning, reports say, Bank of Canada governor Mark Carney ritually reminded reporters, and by extension Canadians, that higher interest rates “may become appropriate,” and added kind words about the Finance Department’s mortgage moves.
As individual policy steps or messages, I can’t say these are bad choices. Things that reduce the scope of mortgage insurance are generally good, owing to the moral hazard that taxpayer-backed insurance brings to the lending and borrowing business.
As to maximum loan ratios and terms, these are judgment calls: There are no magic numbers, and no hard and fast rules about how to set the rules. The changes will slow mortgage originations, but that does not make them bad things — housing price and consumer credit growth may be slowing already, and that may render moot the changes, but would not make them wrong.
The collective announcements, however, raise a different issue, owing to their apparent co-ordination.
To see why, consider first the Bank of Canada’s primary target: to consistently deliver a 2% consumer price inflation rate, and to pursue policies that support efficient financial intermediation. Next up is OSFI, whose primary role is to police the soundness of federally regulated financial institutions and ensure their prudent management and operation.
On the other hand, the Department of Finance is primarily concerned with prudent fiscal and tax policy (in theory) and in practice has legislative and regulatory responsibilities regarding financial institutions, and a range of other roles in market regulation. The minister’s job is to make sure the department does these things, and ideally looks good doing them.
Among these various roles, the clearest is the bank’s inflation-targeting program. Pursuit of that target, and hitting it, is something that monetary policy is uniquely capable of doing, and doing so requires practical independence, for the bank, within government.
Commonly, however, pursuit of one goal on the part of the bank, for example, will conflict with what prudential regulators might look for with respect to financial institution soundness, or what Finance might look for with respect to economic growth more broadly. Put another way, OSFI might be motivated to wind down a bank or an insurer at the same time that the bank is worried about system-wide financial liquidity and the finance minister is looking for good news to announce.
These are good conflicts to have because the separate agencies’ goals and their relative independence of each other enable them to serve as a check on one another’s behaviour.
All the while, borrowers, lenders and regulators are all influenced by similar information sets, with respect to the economic outlook and risks to it.
This is not to suggest that the individual housing finance steps are wrong — they may well be right, even if we never may be certain of it. It is reasonably certain that things that limit the scope of Canada Mortgage and Housing Corp.’s insurance-market operations will be good for the long-term functioning of financial markets, as lenders and borrowers will better manage the risks associated with their choices, and likely there will be more changes eventually to what CMHC does.
It is time, however, for a breather from mortgage-market fine-tuning. It is time for the government to loosen its grip on the stick and let ordinary market stabilizers — borrowers’ willingness to borrow and lenders’ willingness and abilities to lend, while the bank pursues its inflation target — do their work.
Finn Poschmann is vice-president, research, at the C.D. Howe Institute.