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Dodge criticizes CMHC incentives


ank of Canada Governor David Dodge has met with officials of Canada Mortgage and Housing (CMHC) to criticize the recent offering of incentives for interest-only mortgages. Before the meeting the Bank of Canada Governor had said the incentives could be inflationary and may work against the Canada Mortgage and Housing Corporation's stated aim of making housing more accessible to Canadians.

"We'll have to see, but if we look elsewhere in the world where there has been a major move to interest-only mortgages or other innovations of that sort, that has had an influence on housing prices," Dodge told reporters at a news conference called to discuss the central bank's quarterly economic outlook.

"We would want to sit down with Canada Mortgage to look at their analysis of the influence expected to have here," he said.

In late June CMHC announced it would be offering insurance on interest-only mortgages, waiving application fees for some loans, and insuring mortgages with amortizations of up to 35 years. It was the latest move in a series of announcements making it easier for potential home buyers to enter the market. Traditionally, the agency required 10 per cent down, and gave people up to 25 years to pay it off.

"These innovative financial solutions will allow more Canadians to buy homes, and to do so sooner," CMHC president Karen Kinsley said at the time. "By reducing costs and increasing flexibility, CMHC continues to help Canadians realize their dreams of homeownership." Such mortgages are more affordable, at least initially, because they allow buyers to pay only the interest on the mortgage for a five-year or 10-year period. They are risky in that the monthly costs of carrying the mortgage jump once the interest-only period ends and the homeowner must begin paying down the principle as well.

Economists have warned that the move to interest-only loans and long amortization periods have heightened the risk of Canada's mortgages outstanding -- although not nearly as much as in the United States, where the higher interest rates are threatening to deal a severe blow to indebted homeowners.

While private sector lenders in Canada have been developing alternative mortgages for some time and their popularity has been growing as the housing boom loses steam, CMHC's entry into the interest-only market makes such incentives mainstream – even though such practices are often considered high risk.

In the United States, former U.S. Federal Reserve Board chairman Alan Greenspan warned repeatedly that such "exotic mortgages" could fuel a housing bubble by enticing people who can't afford to carry a mortgage into buying a house and taking on too much debt, all while driving up housing prices.

While Mr. Dodge did not mention the United States by name, he did point out that in other countries, incentives for interest-only loans have come at a time of low interest rates and low inflation, and feed into the demand for housing.

"That has put a lot of upward pressure on house prices, and absent a very rapid expansion of supply, then the increases of demand simply will fuel price rather than actually get more people into housing," Dodge said. He noted that so far, supply has kept up with demand, except for Calgary and Edmonton, where demand has far exceeded supply.

July 17, 2006 in Arranging Mortgage Financing | Permalink


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