Early in January Canadians gave themselves a collaborative pat on the back when we found out that we’re getting better at paying off our credit card debt. But, we might want to hold up just a second on that congratulatory pat. The Bank of Canada now says that we have another kind of debt to worry about – and that’s debt that associated with our homes, and our home equity.
While it’s true that we might be lowering our credit card debt, we can’t say the same for the debt we’re taking on in the form of home equity loans in Canada and home equity lines of credit in Canada. And while we might not be whipping out the plastic so often, we are still borrowing, and at too great a pace. And not only does this put us at risk for taking on too much debt, it also puts the economy and more specifically, consumer spending, at risk.
Using low interest borrowing tactics such as home equity loans and HELOCs is a great way to cut back on costs and have access to funds when you need them. But the problem now is that with home prices overvalued by about 10%, the housing market is due for a correction in values. When that correction happens, home values will drop and homeowners who have borrowed too much against their home equity might find that they will then have more debt than equity; a ratio that would make any lender or homeowner nightmares. And when that correction happens, homeowners will need to start saving their money to pay back that debt and get their equity back above the debt line. What does all of that mean? That consumer spending will drop, something that always puts the economy in danger.
The Bank of Canada says that when home values drop by 10%, consumer spending will follow by drop 1%. The report they released earlier this week states, “These facts are interrelated, since rising house prices can facilitate the accumulation of debt. Households therefore experience a significant shock if house prices were to reverse.” The BoC also points towards the fact that bankruptcies and and insolvencies have also tripled their numbers in the past three decades. These cases, the Bank says, were mostly renters (not homeowners) who’s debt came in the form of credit cards and personal loans rather than mortgages and second mortgages.
Still, while we should be proud of how far we’ve come, we also need to keep a careful eye on the spending we are doing – and continue to try and make sure that we don’t get in over our heads.
