Bank of Canada Flirting with Disaster?

Elena Holodny of Business Insider reports, The Bank of Canada surprises with a rate hike:
The Bank of Canada unexpectedly hiked its key interest rate by 25 basis points to 1.00% on Wednesday, citing stronger than expected economic data.

The majority of economists surveyed by Bloomberg forecast that the central bank would hold at this meeting.

"Recent economic data have been stronger than expected, supporting the Bank's view that growth in Canada is becoming more broad-based and self-sustaining," the bank said in the accompanying statement.

The bank also said that although the global economy is seeing stronger than expected growth indicators there are "significant geopolitical risks and uncertainties around international trade and fiscal policies remain, leading to a weaker US dollar against many major currencies."

Wednesday marks the bank's second consecutive rate hike.  At its previous meeting in July, the BoC raised its key rate for the first time in seven years, also by 25 basis points.

Investors had been expecting the bank to hike one more time this year, said Craig Erlam, senior market analyst at OANDA, in emailed comments ahead of Wednesday's rate decision. However, most thought the rate hike would come later in the year, not at the September meeting.

Looking forward, the BoC suggested that there could be more rate hikes in the future.

"While we can’t rule out another rate hike before the end of this year, we should note that the economy is still overly dependent on the heavily indebted household sector to support economic growth," said David Madani, senior Canada economist at Capital Economics, in emailed comments. "That was possible when housing prices were rising rapidly and interest rates were at record lows. But both of those supports are clearly fading."

"With the housing market teetering even before rates began to rise, we expect the economy to lose momentum before the year is over, prompting the Bank to abort its rate hike cycle."

The Canadian dollar shot up after the announcement. It was stronger by 1.1% at 1.2238 at 10:05 a.m. ET after holding little changed ahead of the decision.
So, "surprise" Stephen Poloz does it again, moving forward with a rate hike, catching the market off guard.

Let me begin by stating I worked with Steve Poloz back in 1999 at BCA Research, have the utmost respect for him on a personal and professional level, but this is an uncharacteristicallly dumb move from the Bank of Canada and by this time next year, we might even be seeing QE in Canada.

The Canadian economy is doing well? Says who? I suggest those smart economists at the Bank of Canada get out of their offices in Ottawa and start going around to talk to restaurant owners, small businesses, and many other Canadians struggling to get by.

The biggest myth in Canada is everything is going well, unemployment is low, let's all breathe a sigh of relief.

The problem is if you scratch beneath the surface, you quickly realize this is nothing but a grossly over-indebted economy ready to implode, and I want to emphasize implode.

In fact, Better Dwelling posted a great comment recently, Canadians Are Borrowing Against Real Estate At The Fastest Pace Ever:
Canadian real estate prices have soared, and so did borrowing against that value. Our analysis of domestic bank filings from the Office of the Superintendent of Financial Institutions (OSFI) shows that loans secured against property has reached an all-time high. More surprising is the unprecedented rate of growth experienced this year (click on image).

Canadians Borrowed Against Over $313 Billion In Real Estate

Loans secured against residential real estate shattered a few records in June. Over $313.66 billion in real estate was used to secure loans, up 3.43% from the month before. The rise puts annual gains 11.16% higher than the same month last year, an increase of $31.51 billion. The monthly increase is the largest increase since March 2012. The annual gain is unprecedented according to an aggregate of domestic bank filings (click on image).

Over $266 Billion Was For Non-Business Related Reasons

Not all borrowing against residential property is all bad, sometimes it’s a calculated risk. For example, someone may need to secure a business loan, and use the loan for operating risks. It doesn’t mean the property is safe, but it’s a risk that could potentially boost the economy (click on image).

This is opposed to non-business loans, which is used as short-term financing. This type of financing is often used for things like renovations, and putting a fancy car in the driveway. Experts have observed that more homeowners are using these to prevent bankruptcy. Bottom line, it’s not typically healthy looking debt. So let’s remove loans obtained for business reasons, and take a peek at higher risk debt.

The majority of these loans are non-business related according to bank filings. The current total is over $266 billion as of June 2017, a 1.01% increase from the month before. This is a 4.9% increase from the same month last year, which works out to $12.49 billion more. Fun fact, that’s around $23,763 per minute. The number is astronomical.

Are Canadians Borrowing Time?

Debt experts have expressed concern with the rate homeowners are borrowing against their homes. Hoyes-Michalos, one of Ontario’s largest debt consultancies, recently said more Canadians have been borrowing against their home to avoid filing for bankruptcy. This is a temporary fix that will become much more complicated in the very near future. As interest rates rise to normal levels, the ability to keep making payments becomes harder. Hoyes-Michalos estimates a mild rise in rates could push bankruptcies above 2009 levels.

Increasing equity extraction remains a sleeper threat for Canadian real estate markets. Borrowing against homes increases the chance that a mild shock could impact real estate. This shock could be a correction, recession, or even just higher interest rates. Normal market mechanics have become a threat to the economy, which is pretty disturbing. Bottom line, try not to buy more home than you can afford.
Are Canadians borrowing time? Is this a rhetorical question? We Greek-Canadians who traveled to Greece years prior to the economic implosion of our ancestral home saw a very similar debt frenzy, easy mortgages no matter your income and low-interest loans for furniture and even for trips during Christmas and Easter holidays (it was insane).

But if you talk to most Canadians, they're completely and utterly clueless. They honestly think the economy is humming along and we are much better off than Americans.

Canada most certainly isn't Greece but we are are very similar in terms of troubling debt trends going on here and people who think they are entitled to live in a nice house, drive not one but two expensive cars, buy expensive furniture and take great trips twice a year.

It's surreal and nothing but a big, fat chimera. When it implodes, it will destroy many Canadian households for years.

Now, the key here is not what is going on in Canada, the key is what is going on in the rest of the world. The US economy is slowing at a time when the deflation hurricane is about to hit our most important trading partner.

My last comment on deflation headed straight for the US is probably one of the most important macro comments I've written and it has serious implications for the global economy and Canada in particular.

Importantly, when the global deflationary shock hits the US, Canada is literally toast. Finito, caputo, thank you for playing this game Mr. Trudeau, you will be ushered out of office so fast, your head will be spinning.

As Justin Trudeau and Bill Morneau get ready for an autumn tax showdown with small businesses, adding more needless angst to a very shaky economy,  they are missing a much bigger and much more important picture, namely, Canada is one global deflationary shock away from a great depression which might last a decade and maybe even longer.

We are so delusional in Canada, it's quite sickening. I understand, Bill Morneau and Justin Trudeau have political jobs and Stephen Poloz is the Governor of the Bank of Canada, not a financial blogger like me, so they all need to be careful and restrained when speaking publicly. Still, sometimes I feel like telling them all to get real, we have very serious economic issues on the horizon in Canada and we aren't anywhere near as prepared as we should be.

Let me end with this, another reason why I think the Bank of Canada made a mistake. The Canadian dollar (aka the loonie) was on a tear this morning following the surprise rate hike, but it's been on a tear over the last couple of months as the US dollar sinks further down.

When the loonie appreciates relative to the greenback (USD), it acts as a rate increase, tightening financial conditions. The US is by far our largest trading partner and I was shocked to see the Bank of Canada raising rates as the loonie appreciates and serious and tenuous NAFTA negotiations continue between Canada, the US and Mexico where the US will surely come out ahead.

Will the Bank of Canada continue raising rates? I strongly doubt it, especially now that Stanley Fischer, a well-known Fed hawk, has decided to resign next month, leaving the doves which are increasingly vocal, to heavily influence the Fed into not raising rates in this deflationary environment.

Again, I have the utmost respect for Stephen Poloz and the Bank of Canada, but in my opinion, this move wasn't well thought out, and will hopefully be a one-off rate hike. Having said this, maybe the Bank is trying to shore up Canada's big banks and insurers which will make more net interest income as rates rise but this is short-term thinking.

I maintain my short on the loonie, now more than ever, and think now is the time to add to your CAD short positions. Moreover, all you retail and institutional Canadian investors should be using the strength of the over-inflated Canadian dollar to load up on US long bonds (TLT) and maybe book your last winter trip to Florida before Hurricane Irma strikes that state (hopefully not).

For all you delusional Canucks who think I'm way too bearish and dead wrong on how deflation will cripple the Canadian economy for years, I hope you are right but I'm getting a really bad feeling in the pit of my stomach and I am increasingly worried about Canadians living on borrowed time.

Below, The Conference Board of Canada's Craig Alexander discusses the rate hike and why there may not be another increase this year. I agree with him, the Bank of Canada will likely stay on the sidelines for the rest of the year but completely disagree with him that it will raise rates three times next year (more like it will be contemplating QE depending on how bad things are in a year).

And Foreign Affairs Minister Chrystia Freeland says Canada, the US and Mexico remain committed to successfully renegotiating NAFTA, as the second round of talks on the trade deal wrapped. As I said, I'm shocked the Bank of Canada didn't at least wait till we know how these negotiations will impact the NAFTA trade accord.

There is no press conference for today's Bank of Canada rate decision but you can read the latest statement here and the Bank's latest Monetary Policy Report here.

Whatever you do, don't go doing something stupid like locking yourself up in a five-year fixed rate mortgage. Try to ride out this temporary bout of rate hike insanity and cut back on needless expenses wherever you can. The time to pay off your high-interest debts was yesterday!

Update: After rate hikes, Canadian housing braces for 'biggest rule change of all time'.:
On the horizon in terms of tighter credit regulations is a new rule from the Office of the Superintendent of Financial Institutions that would target home buyers with down payments of more than 20 per cent with a tough new stress test: they would have to qualify based on a rate 200 basis points above their contract.

It could be the biggest rule change of all-time,” said Rob McLister, the founder of The housing market has already been adjusting to changes in the insured market, instituted in 2016, which forced homeowners with less than a 20 per cent downpayment to qualify based on the Bank of Canada five-year qualifying rate as opposed to the one on their contract. That rate is now 4.84 per cent.
Leave it to policymakers to make a bad situation a lot worse! If my fears on global deflation coming to the US materialize, these new rules will be irrelevant, the market will destroy the houing market.