Finance Committee on Oct. 30th, 2018

[Pierre Poilievre, Conservative, Carleton, ON]

That's the CPI.

[Stephen S. Poloz]

The CPI is the one, but of course, often we have these big fluctuations that we need to explain and then say that we're going to see through that fluctuation. It would be like the tail wagging the dog to respond to each fluctuation.

[Pierre Poilievre, Conservative, Carleton, ON]

What effect does the moderation or even decline in housing prices have on the reported CPI numbers?

[Stephen S. Poloz]

It's very modest. In the CPI, the residential costs have rent and all sorts of blended stuff in there, and it's a very slow process.

[Pierre Poilievre, Conservative, Carleton, ON]

Right.

Is there any relationship between government bond yields and mortgage lending rates?

[Stephen S. Poloz]

There is, absolutely. In particular, the five-year maturity of government bond yield is used as a reference, of course, for the banks to fund themselves for five-year money, and that, therefore, is a cost to them. How much they need to, in effect, pay for a GIC for five years in order to get the money in the door so they can lend it out for five years is closely related to that competition by the government bond yield.

As a consequence, when bond yields rise globally, even if interest rates are being held constant here, there is a tendency for our bond yields to also rise partway. When it happens, 50% or 60% of the rise of U.S. rates gets passed through to here. You can have mortgage rates rising at the five-year maturity even though Canadian interest rates and principal are being left unchanged.

[Pierre Poilievre, Conservative, Carleton, ON]

How much do a country's own bond yields affect the mortgage rate?

[Stephen S. Poloz]

They both affect it. If U.S. rates were unchanged and we raised our interest rate—as we did last week—and if part of that feeds through to longer-term interest rates, that will be immediately fed back into the cost of funding for the banks, as I've just described. That channel works, but the other channel also happens to work, so it's a blend.

[Pierre Poilievre, Conservative, Carleton, ON]

But if, for example, the government bond yields in a given country, country A, went up but they did not go up in countries B, C, D and E, would mortgage lending rates typically still go up in country A?

[Stephen S. Poloz]

Yes, but the experiment you're describing is a little bit artificial because it's a global bond market. If it did happen the way you described it, it would normally be because inflation in country A went up and therefore all of its bond yields went up, and that would for sure pass right through to mortgages. But if it's just a risk premium or just a more general move in rates, it would be rare for Canada's rates to go up all by themselves in the way you described, for those reasons.

[Pierre Poilievre, Conservative, Carleton, ON]

That's the price of credit. Now, turning to demand for credit, as governments issue more bonds, they're obviously vacuuming up more of the credit that's available. Can that competition for credit increase consumer rates?

[Stephen S. Poloz]

It could, and certainly I could create a model in which to do an experiment like that. When we talk about government crowding out private spending, it usually has that mechanism.

[Pierre Poilievre, Conservative, Carleton, ON]

Right.

[Stephen S. Poloz]

But in a market such as the one I've described, mostly the farther out those yields go, the more they are driven by global bond markets. That's a massive market compared to our own domestic market, so it's really a harder tack to isolate.

[Pierre Poilievre, Conservative, Carleton, ON]

Shifting back to household debt, what changes do you expect in the debt service ratio over the next one, two, three, four and five years?

[Stephen S. Poloz]

That's the debt service ratio for households.

We did some nice charts on this, not in this MPR but in the previous one, back in July. We did an experiment on the various segments of the household sector, depending on how much debt they were carrying relative to their income, in each category. We sliced up the data very finely. We simulated a 100-basis point and a 200-basis point renewal cycle through that structure.

There's a lot of complexity to it. If you got your mortgage back in 2014, chances are you're renewing in 2019, or it's 2015 and 2020—about half of the people would pick a five-year in that case. We simulated it in that way. Debt service ratios, or actually mortgage payments as a share of gross income, went up by one or two or three percentage points. In the worst case, they went up by as much as approximately five percentage points. In a very highly indebted household sector, the biggest effect we could find was five.

[Pierre Poilievre, Conservative, Carleton, ON]

How does that translate into dollars for the average family?

[Stephen S. Poloz]

I don't have an answer in terms of dollars. I'm sorry. I think of it in percentages. Say the average on that is two to three percentage points, and that would be out of gross income, as Carolyn has mentioned, it's a significant effect.

[Pierre Poilievre, Conservative, Carleton, ON]

That's out of gross income.

[Stephen S. Poloz]

That's out of gross income. It's a significant effect, but in the background over those five years, wages have been growing 2% or 2.5% per year. That's one thing. Not everybody's wage has gone up, I understand that, but they have been rising on average, so that helps the transition.

At the point of renewal, the financial institution normally would present a bit of optionality around the renewal, perhaps lengthening term by a year or two to keep payments from going up as much, those kinds of things. That's often what we observe in those renewal cycles, some flexibility.

[The Chair, Liberal, Wayne Easter]

Thank you all.

We'll go to Mr. McLeod, then Mr. Julian and then Mr. Fragiskatos.

Mr. McLeod.

[Michael McLeod, Liberal, Northwest Territories, NT]

Thank you, Mr. Chair.

I hope Pierre didn't use up all my time.

[The Chair, Liberal, Wayne Easter]

He went over by a minute and a half. That's pretty good for him.

[Voices]

Oh, oh!

[Michael McLeod, Liberal, Northwest Territories, NT]

I want to thank both of the presenters here today. I also want to say thank you for coming to the north and giving the message of a brighter economy. I think it was well received by the people in the audience. I was certainly happy to see that it countered the Conference Board of Canada's opinion.

I think in the north, calculations or issues that are factored into the economy are a little different. I always claim that we have to deal with the transportation infrastructure issue before we can lower costs to make it more attractive. We also have to deal with outstanding land claims and self-government negotiations, which would bring greater certainty and bring indigenous governments as full partners to the table.

I know it's not part of your policy report, but I think if it was exclusively on the north, they would certainly be factors. Maybe you want to say something on it. I did see a couple of concerns that were raised in your report that stood out. The two that you raised were labour shortages and transportation bottlenecks. These are both issues that we recognize very clearly in the Northwest Territories.

In Yellowknife, which is our capital, the employment rate is nearly 80%, which is 19% higher than any other community outside of the city. We have made quite a bit of progress in addressing the northern infrastructure gap, but it's still pretty significant. I want to know, if you could tell me, of the two, what do you believe is more of a hindrance to Canada's economic growth potential?