The boom goes bust

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How different is the Canadian experience from the conditions that caused the US housing meltdown? Not enough.

By Garth Turner, Ottawa Citizen Special

Imagine listing your home for sale, but there are no buyers. You drop the price. Again. And again. The house across the street’s now for sale. And the one two doors down, plus a dozen others in a two-block radius. Nothing’s selling, and every time one home is reduced, all are affected. This property used to represent wealth. Now it’s a wealth trap. Most of what you have is here, and with each day passed, it diminishes.

Imagine your first home – a dream in granite and stainless. You bought it from the region’s largest builder, for 1.5 per cent down – enough to cover closing costs – and mortgaged the rest. Months later, the economy turns abruptly. Your spouse loses his job and the monthly payments – mortgage, taxes, utilities – are crushing. You decide to sell, but the realtor tells you the market’s also turned. Your mortgage is now slightly greater than the value of the home. After paying commission, you’ll have no house, no equity, and still owe the bank more than $20,000. How could this have happened?

Far-fetched? Hardly. For millions of middle-class Americans, this is a reality as housing values collapse in the first nation-wide housing meltdown since the Depression. In some markets, prices have crashed 30 per cent. In Phoenix, there are more than 20,000 new homes, vacant, unsold and unwanted. In suburban Detroit, million-dollar properties can’t fetch buyers at $300,000. Downtown, prices plunged in the first two months of 2008 by 54 per cent, to a median of $22,000.

In Florida and California, homeowners establish web sites to try and sell their homes. Three million American families now have mortgages larger than their home values. Comfortable upper middle-class families with six-figure homes find their wealth evaporated as their properties languish on the market. So many foreclosed homes are for sale, it’s estimated prices will not recover for years. In fact, a recent Credit Suisse report says prices must fall another 40 per cent in Miami and 26 per cent in Los Angeles before they become affordable.

The real estate disaster now in full flower to our south is a fascinating, gripping spectacle. It’s time we looked closely. Because, one way or another, it’s coming here.

Canadians, strangely, believe this country’s immune from the housing contagion sweeping America. The myth results from three powerful forces. Denial tops the list, no doubt the result of having more than 80 per cent of our net worth in one asset, the family home. Add to that the excellent communications job done by the real estate lobby — mortgage-lending bank economists and the CEOs of real estate marketing companies — who claim home values will rise forever. Finally, our belief the Americans screwed up by giving subprime mortgages to unworthy people so they could buy unaffordable homes.

But this is not so. In researching my book, Greater Fool, I was reminded again of why all booms end badly. The inflating real estate market to the south became unsustainable when average prices exceeded the ability of average families to buy homes. This inflation in turn was the result of policy decisions made after 9/11 which gave America (and Canada) the lowest interest rates in a generation. Debt was cheap, and volatile stock markets represented unacceptable risk. So, real estate became the asset of choice.

If you have any doubt, watch a few past episodes of Flip This House. It’s good real estate pornography.

Prices roared to new levels and to sustain the fire, mortgage lending practices went lax. No-money-down deals were common, and home loans with discounted rates were extended to buyers who now qualified, as the bar for home ownership fell. This all made sense while the market advanced, since growing home equity gave even dodgy buyers new money to use for refinancing loans as the introductory ones matured.

But as interest rates increased, the American economy softened and realization spread that real estate was overvalued, the bubble burst – and with a vengeance.

So, how different is the Canadian experience? Not enough.

In the period between 2000 and the market crash in 2006, U.S. home prices increased 74 per cent, while household income rose by just 15 per cent. In Canada, real estate prices jumped 70 per cent by the end of 2007, with family incomes ahead 14 per cent.

In other words, we’ve seen an almost identical pattern of real estate excess – familiar to anyone caught in a bidding war, or staring in disbelief at a new MLS listing. The average home in Toronto is now over $400,000, while in Vancouver it tops $700,000. Last year homes in Saskatoon raced ahead more than 50 per cent in value. A young couple in suburban Toronto with a $450,000 price limit ended up buying a $700,000 home after losing 16 competing bids.

And the Canadian response to this affordability crisis? It’s called the 40-year mortgage, which lowers monthly payments by extending the amortization 15 years beyond the traditional quarter-century and, in the process, grossly inflates the total debt to be repaid. In other words, this loan (now accounting for over 40 per cent of all new borrowings) allows people to buy homes they would not otherwise afford.

Meanwhile, down payments have become almost optional. One of Ottawa’s largest new home builders routinely allows young couples to move in by paying just closing costs, and financing the other 98.5 per cent of the purchase price. With virtually no equity in the home and substantial carrying charges, any market downturn means they owe more than they actually own.

So, how exactly do American subprimes differ from Canadian 40-year mortgages? How are mortgage lenders here more prudent when they allow appraisals based on postal codes, rather than actual home inspections? Why should Canadian real estate values, as inflated now as were those to the south two years ago, hold when our families are no better off? As a global economic slowdown and an American recession take hold, what impenetrable barrier is wrapped around this country?

Meanwhile, what about the future? Won’t nine million house-rich and pension-challenged boomers be forced to dump billions in real estate over the coming decade? Won’t runaway energy costs and the uncertainty of climate change breed a popular taste for smaller, more efficient, more urban housing, rendering four-bedroom, three-car-garage suburban palaces unsaleable?

Most of all, won’t those who understand what’s clearly coming, and sell now, rejoice that they found a greater fool?

Garth Turner is the MP for Halton, Ontario. Greater Fool: The Troubled Future of Real Estate is his eighth book, published by Key Porter Books.

© The Ottawa Citizen 2008


#1 Brian on 03.28.08 at 4:48 am

Hi Garth,

Thanks for all your help – I bought your book and am unable to put in down. I’ve been riding out the real estate storm for the last 4 years but I’m not sure I can hold out much longer than 1.5 years or so as my family is growing.

We’ve paid off our student loans and consumer debt, make a good living (115K), and have managed to save $25,000 for a down-payment.

We’re in Winnipeg, which — despite values doubling in the span of 5 years — is still considered to be “an affordable market” by comparison to other major cities. I have a couple questions for you:

1. According the CMHC, real-estate values in Winnipeg is projected to increase by 5.5% in 2008 and 3% in 2009. Personally I think Wpg is less immune to a recession given its relatively low family income–but overall affordability is sitting at about 33% of gross income and housing supply is considerably lower than demand. If I wait until 2009 or 2010 to buy, am I foregoing these increases or is the bubble and price decreases inevitable? (I know you don’t have a crystal ball, but best guess would be great)

2. How much should inflation factor into one’s decision to buy real estate? In other words even if prices stay flat for 3-4- years, buying a $250,000 house today wouldn’t be the worst thing, considering that at 2% annual wage increases – my mortgage payments would require less and less of my monthly income. Do I have that right?

3. We qualify for a mortgage of $340,000 which would get us a spectacular house but I plan to keep my mortgage in the $200,000 – $240 range and relative housing costs around 20-25% of gross income. Given our situation, would you still recommend waiting?

4. While I agree with almost everything you’ve written, we’ve watched prices soar for years and are at the point where we don’t want to miss out on another 8-9% increase (if CMHC is right, which they probably aren’t) which works out to $25K. Show me the light Garth…

#2 AS on 03.28.08 at 9:23 am

Mr. Turner –

I wish to congratulate you on your excellent article that appeared in the Ottawa Citizen this morning (March 27th) as well as on your blog. Why anyone would avail themselves of a 40 year mortgage with all the potential perils of such a transaction appalls me – my youngest son who purchased a home here in Calgary after immigrating from Ottawa two years ago, certainly did not.

You may not wish to read the following two paragraphs, however the last paragraph which I did not author, you may find of interest –

Unfortunately and understandably, your referenced article does not provide a venue for you to enlighten your readers on not a potential, but an actual home owner crisis that occurred in Alberta in the late 1970’s and early 1980’s due to the National Energy Policy. Do not try to tell me a crisis did not occur – I was visiting Calgary in 1983 and saw with my own eyes the hundreds of for sale signs on lawns, advertisements in local newspapers from home owners and housing manufacturers having ‘fire sales’ who were trying to prevent bankruptcy. Home owners literally locked their doors, returned their keys to their mortgage holders, and walked away, many leaving household furnishings and in some cases their vehicles. Construction on uncompleted downtown business structures came to a halt and construction cranes sat idle. This was due to no fault of home owners, as may happen with 40 year mortgages – previously to the NEP they had good paying jobs which they had no reason to believe they would loose – that is until they were blind sided by the Liberal Federal Government of Trudea.

Many of your blog readers showed surprise that I referred to the NEP in my email of earlier in the week. Perhaps you should make them aware of the following which were a direct result of the NEP. By August of 1982 only 147 of 465 oil rigs that had been previously active in Western Canada were still drilling. By 1983, over 90% of the Alberta drilling rigs were idle or had moved to the U.S.; 15,000 oil workers were out of work as were thousands of other manufacturing staff that depended on the oil patch for their jobs; bankruptcies escalated; oil revenues decreased and the Alberta provincial debt increased significantly (which Albertan’s later had to pay for). Many well respected financial analysts later determined that the NEP cost the Western provinces a minimum of $100 million, about half that to Alberta, which equated to 20,000.00 for every man, women and child in the province at that time. This, Ontarian’s should understand is why Albertan’s today are still angered by the NEP and Eastern Liberal politicians in general, and why Alberta bumper stickers of the NEP era read “Let the Eastern Bastards Freeze in the Dark”, and today read “Let the Eastern Bastards Pay Through the Nose”.

The following I did not author but rather found while surfing the internet – you may find it of interest (Mr. Gibbons is I believe now the President and CEO of the CanadaWest Foundation) –

Roger Gibbons, a University of Calgary political scientist, came up with an interesting deduction in the 1980’s – “Gibbons found that western alienation was a learned behaviour. Although most newcomers learned it less thoroughly than those who had been immersed in the culture for longer periods, learn it they did. Even if most most newcomers did not have the shared family personal histories of living in an exploited agrarian hinterland, once the NEP took hold they had direct personal experience of Ottawa’s long imperial reach. Faced with a threat to their urban, consumer lifestyles, it wasn’t long before transplanted easterners developed a regional loyalty that went far deeper than donning cowboy garb and shouting ‘yahoo’ at the Calgary Stampede. In fact, many proved the old adage there are none more zealous as the converted. What Gibbons observed was indeed a decline of one type of regionalism, based on common agrarian interests and supported by the shared values and experience of rural society. But he was also witnessing the birth of a New West. A new regional identity centered in Alberta and founded on the political culture of western alienation”.

For your consideration –

Respectfully –

Art Sharp

#3 SMWhite on 03.28.08 at 1:22 pm

The NEP has nothing to do with whats happening in real estate right now and wasn’t the main cause of Alberta’s problems in the early to mid 80’s, the fact the price of a barrel of oil ALL OVER PLANET EARTH dropped from $37.42 in 1980 ($95.50 2007 inflation adjusted) to a low of $14.44 in 1986 ($27.66 2007 inflation adjusted) is what killed the industry in Alberta. Texas went through the some downturn.

EVERYONE was dealing with inflation in the late 70s to mid 80s and guess what, its happening again…

For instance Texas lost 200,000 jobs in the between 1982 and 1983. By 1985 they had lost another 200,000 jobs. The Texas real estate industry has only finally rebounded since this last real estate bubble. My in-laws (or out-laws) have recently purchased a new four bedroom home just outside of Austin for merely 130K, prices are back to levels in the early to mid 80s. All locales in North America that were part of the energy boom suffered.

Canada is a net-exporting nation and with our fattest trading partner barely willing to admit that they are coming into a juicy recession, let alone already stuck in the middle of one, the pain is only going to get worse for everyone. Its comical to listen to G.W Bush, Cheney and Bernake use every euphemism know to mankind to explain the specific economic problems they are facing, except the “R” word. They know that they don’t have to officially say the word “recession” until they have two quarters of negative data.

So guess what, the party starts this summer…

America is the largest component of the global economy and anyone that thinks that Canada can sustain this kind of growth while the country that takes in 85% of our exports goes through what will be their worst recession since the 1930s let alone the 1970s is ignorant, plain and simple. It will have a huge impact on our economy as manufacturing, forestry and mining sectors are starting to show chinks in their armor.

I also find is so ironic that a Prime Minister from western Canada, who publicly called Atlantic Canadians lazy before joinng a “national party” has the raisins to renege on the promises he made to those “lazy” sea folk to help them be self sufficient. Harper has since changed his tune a tad since, because he needs those seats in the house.

So pardon me if I use the cheap tissue instead of the Kleenex brand while I wipe the tears away from my eyes for Alberta and its sorted past. Nobody in Ontario or Quebec bitched and whined about having to support Alberta from 1905 till the 1970s.

Sitting on an oil patch doesn’t make you immune from economic fundamentals. If economies don’t grow, they don’t need energy, plain and simple.

“Those who cannot remember the past are condemned to repeat it.” – George Santayana

#4 Keith in Calgary on 03.28.08 at 5:20 pm

In Calgary in 1972 a house was $12,000…….

In 1976 my parents purchased a new home in Calgary for $55,000……..

In 1981 it was worth $150,000…….

That is called a bubble……..if people hadn’t speculated with homes, bought beyond their means, or lived reasonably frugally back in 1982, there would not have been a real estate bloodbath. But alas…..this was not the case. Home builders went BK…..people walked away from upside downhomes and it was a mess. I was a bank manager for the now defunct National Trust Company in downtown Calgary during this time. I watched our second mortgage portfolio in Calgary go from $75MM to $30MM in 18 months as I dealt with all the RE losses.

Absolutely nothing is different today out here…….except the “trigger” that will start the job losses and the defalults………last time it was the NEP……today it will be the global warming hoax.

#5 Another Albertan on 03.31.08 at 1:30 am

I am a born and bred Albertan. It amazes me that Albertans still blame Trudeau for the NEP but never blame Mulroney for taking upward of two years to eliminate the policy. So, yes, it may have been Pierre that helped take Alberta down, but Brian didn’t exactly help the province back up.

And as a engineer involved in multiple aspects of the energy sector, I can tell you first-hand that things have tightened up since December. I consider my exposure to “the numbers” a leading indicator. When I see another crane go up in downtown Calgary for an office or a condo, I shudder…

#6 charliegosurf on 10.26.08 at 5:59 pm

Not a big fan of the Vancouver Sun, they are such real-estate oriented, actually most of their paper is ads tryin to lure you in the game…

Not much talks around about Intrawest ulc, the parent company, master of the U, Fortress, is pulling the strings on a new loan for all these debts,1.7b, no term disclose. it’s business as usual, they said, No kiddind, lol.

they are one of the biggest responsable of escalating cost in the real-estate in this country, if one can be blame. watch them attentively, they love to pull a bunny of their hat when ever needed…

i guess magic as it’s reward for the boys club, like the ex-Whistler mayor got his promotion to Hawaii, for service well redeemed, the criminal premier, is still living large, even if he got caugth partying too much on the big island.

Heck even that new mayor, of marmot town…, is american. theres even a surrey dude tryin to get the position now, what a gong show. Well there is already a firesale there.
If yu love fire, go for it but beware, they will tax you to hell,just so the muni can send your garbage to the states, on that $ky to $ea of fecies highway…

that beautifull PACIFIC ocean in victoria and vancouver cant clean UP coz their so cheap. all profit to the bank and the equity, well it’s

#7 charliegosurf on 10.29.08 at 2:44 pm

Kids of earth, enjoy the Karma legacy of all the great fool adult$ of this world, they dont give a crap, as long as they can recoup their loss from this Global Depression.

They need lots of $ for those fancy modern funerals. burn baby burn, but not in the rented coffin, that would be too much $, lol, lol, lol,They also only like to count upward mostly… and their upward matters so much. More than anything…

Coz they have ambitions….of wealth, of green grass, Bigger anything! always man, and the more you yap about it the better it feels!!! keep on rollin, till that big giant rock rolls yu, karma yu know, it lives around yur hood.