While the Canadian Mortgage and Housing Corporation helps regulate Canadian mortgage markets by insuring and securitizing high ratio mortgages, similar functions are carried out in the U.S. by a trio of government backed agencies – affectionately (or not so affectionately, perhaps) known as Ginnie Mae, Freddie Mac and Fannie Mae. Like the CMHC, this trifecta of mortgage players was set up, essentially, to make home ownership affordable to a growing population.
While, in Canada, the CMHC’s functions were carried out “largely through guarantees on insured mortgages as well as significant levels of government backed securitizations.”
Mr. Pollack notes that in the height of the housing boom, from 2003 to 2007, the U.S. experienced “a sudden surge in the unregulated securitization of new, exotic mortgage products such as “2/28 ARMs,” adjustable rate mortgages that reset after two years, with such features as “teaser rates” (a low introductory interest rate to attract borrowers) and “stated income” underwriting (where no documentation was required to show a borrower’s income or assets).”
Mr. Pollack, notes that these exotic, untried mortgage products – often written by unregulated, non-bank lenders who held little or no risk – “were purchased by private-securitization conduits [that were] typically sponsored by large financial institutions such as Merrill Lynch or Citigroup – and then packaged and sold as so called ‘private label’ mortgage-backed securities.” Through the U.S. housing bubble, use of these exotic mortgages grew from 10 per cent of the U.S. mortgage market to almost 40 per cent by 2006.
Inevitably, as initial “teaser rates” expired, interest rates rose sharply and homes became increasingly unaffordable, the bubble popped. Now, with a struggling economy, many U.S. mortgages “underwater” (i.e., with mortgagers greater than the market value of the home) and a glut of foreclosed properties on – or soon to be on – the market, housing markets have essentially “frozen” in some markets. Potential buyers are sitting on the sidelines, waiting for (or wary of) further falling home prices.
In Canada – where tight CMHC mortgage regulations and strict lending rules for major banks prevented the use of exotic mortgage instruments – the economic slowdown has seen housing sales fall from record levels in 2009 and 2010; however, there has been no corresponding jump in mortgage defaults and foreclosures, nor the fall in housing prices seen in most U.S. markets.
As Mr. Pollack concludes in his report: “The most important difference between the U.S. and Canadian mortgage markets [was] their relative exposure to unregulated lending channels and products – and it is this difference that best explains why Canada avoided the credit crisis that plagued the United States.”
