Bondage

market1

Think the feds won't let rates rise?
Read this.

OK, class, drop the iPhones, the oxys and the Hanna Montana banana guards and pay attention. This blog’s now in session.

Over the summer some of you have posted inane stuff. Maybe it was a cry for attention. Maybe hormones. Maybe just misguided. But it was lame. Especially when it comes to the oft-repeated argument that cheap interest rates will save the sorry and exposed butts of many recent homebuyers.

Like this from some cowboy: “Interesting posts from your readers about seeing higher mortgage interest rates ahead. One problem: The Bank of Canada wants people to borrow – if they increase rates, people are less likely to buy homes. Higher interest rates lead to decrease in values, but still make it harder to buy. Some have written that the Chinese could call in their loans creating catastrophy. This is unlikely to happen.”

Yeah, right. So let’s dig into this a little.

As you should know, a hike in mortgage rates to the historic average of the last 20 years, about 8.25%, would have a big impact on millions of people. For example, a cheapo Van house worth $600,000 bought with 10% down can be financed now with a VRM at 3% for $2,560 a month, requiring an income $92,000. But if it renews in, say, 2014 at 8%, payments jump to $4,200, needing an income of $151,200.

And, guess what? The average family income in Canada is still under $65,000 – stuck where it’s been for the past decade or so. And I haven’t even factored in the double land transfer tax to be financed in Toronto or the HST to be added onto real estate transactions in BC and Ontario. (Or 1.5 million people without jobs.)

In short, interest rates at normal levels would nuke affordability and return us to those forgotten times when people bought houses with large downpayments so they could have small mortgages. How quaint.

So, the argument goes, this is exactly why the BoC will never raise rates and end the party. I mean, really, why would that happen? People who bought with little or nothing down will have… little or nothing. Tens of thousands of couples (or multiples thereof) will realize they might not qualify to renew mortgages on homes they already own. Others will sink into negative equity, owing more than their homes are worth, as higher rates drop house prices from their current all-time highs.

Why would the government let that happen? Haven’t those dudes heard about granite, stainless and Debbie Travis?

The reality is, Canada’s central bank is as powerless as that of, say, Iceland, to prevent, moderate or withstand changes in the price of money. Part of this is because we have a floating currency, which we need to stabilize. Partly it’s due to our total dependence on trade in a globalized economy and the now de rigeur coordination of central bank policy among nations.

But mostly it’s about debt.

The latest forecast by Dale Orr Economic Insight realistically concludes the feds are about to add $160 billion to the national debt. That means after dipping into the $400 billion range, Canada’s mortgage will soar to $620 billion within seven years. This will happen because federal finances have fallen off a cliff, and the deficit this year alone will be between $47 billion and $50 billion. This is the worst ever. Beats the hell out of Mulroney by about ten bill.

So what?

.
So, where does that money come from? After all, $620 billion is half the entire economy. It doesn’t just fall out of an ATM at Sobey’s. And tax increases, it seems, are out of the question since they’d only shove the economy back into the deflationary funnel we’ve tried to escape.

So, where does the cash originate?

Every second Tuesday the Bank of Canada auctions off hundreds of millions of dollars in T-bills. Every four weeks, about 40 investment dealers on an approved list (dominated by the Big Six) go to auction to place bids on Government of Canada long-term bonds (any bond with a maturity of 10 years or longer). Those auctions are worth hundreds of millions. The money then flows into the central bank’s general revenue account, where it is made available to the federal government to spend on stuff we can’t pay for. Each new bond issue is added to the national debt.

The investment dealers buy those bonds which are then sold to institutional and retail investors who purchase them for yield – an income stream. And every bond issue must compete with debt being issue by Ford Credit Corporation, Research in Motion, Google or other corporate issuers. The bonds also have to compete with US Treasuries and Eurobonds – and lots of other governments which are trying to flog their debt in order to stave off fiscal disaster.

Of course, Canada also issues bonds in the US, known as Yankee Bonds, in Japan (Samurai bonds), on the Eurobond market and elsewhere. And right across the world, the need for capital is growing by leaps and bounds – as Canada joins a long list of countries who are utterly unable to corral their spending in a time of recession. JMK would be so proud.

But here’s the rub: Money used to buy new bond issues cannot be created by government. It has to come from savings – capital already in existence, the result of individuals’ labour, corporate profits and economic activity. That means as the demand for money inexorably explodes over the next few years, the price of it will also rise. Global competition will see to that.

And suddenly the Ontario Teachers’ Pension Fund and the BC Municipal Pension Plan will be demanding higher returns for the debt they hold, which Nesbitt Burns, Wood Gundy and Dominion Securities will seek out on their behalf. As interest rates start to rise, bond prices will fall and yields will increase as existing bonds trade at a discount to their face value.

Higher yields in the bond market (which is 14 times larger than the TSE S&P) translate within days – sometimes hours – into higher mortgage rates for consumers, and this happens whether or not the Bank of Canada has moved its overnight loan rate. Then the central bank can use all the tricks it has to moderate rates, like drawdowns and Specials, but to little avail.

Up she goes.

Class is like so dismissed.

147 comments ↓

#1 rationalnational on 09.07.09 at 10:39 pm

Oh come on..

“But here’s the rub: Money used to buy new bond issues cannot be created by government. It has to come from savings – capital already in existence, the result of individuals’ labour, corporate profits and economic activity. That means as the demand for money inexorably explodes over the next few years, the price of it will also rise. Global competition will see to that.”

Now read this:
http://www.ft.com/cms/s/0/0b49ee56-9221-11de-b63b-00144feabdc0.html

It could be said that inflation, through whatever means, is more politically expedient than the alternative (deflation). You are correct Garth, this debt unwind would be disastrous. I would say that the BoC has no choice but to follow the US. Interest rates, and deflation are the enemy.

Both are defeated in the short run with quantitative easing.

Especially that little problem of 700 trillion – 1.5 quadrillion (depending who you listen to) of derivatives floating around, 70% of which are tied to interest rates, all of which would unwind rather poorly if rates returned to the “normal” levels you reference. This would be the real cataclysm.

So interest rates don’t move because demand for dept (bonds) is printed. Dept’s actually get smaller proportional to the value of your commodities if you want to think of it that way. Granted, this cannot go on in perpetuity – but the current, or planned “easing” actions have the potential to leave an ugly mark on all of us.

This is a great battle of deflation and inflation, co-existing under different definitions. Inflation is politically motivated and when it is no longer politically expedient to take such huge risks to inflate, then we get the deflation. Politically expedient in this case can come from external factors..such as this:
http://www.telegraph.co.uk/finance/economics/6146957/China-alarmed-by-US-money-printing.html

Final word, don’t forget where Mark Carney was “schooled”:
Before joining the public service, Carney had a thirteen-year career with Goldman Sachs in its London, Tokyo, New York and Toronto offices. His progressively senior positions included co-head of sovereign risk; executive director, emerging debt capital markets; and managing director, investment banking. He worked on South Africa’s post-apartheid venture into international bond markets, and was heavily involved in Goldman Sachs’s work with the 1998 Russian financial crisis.[5]

You do not quite understand QE. Governments cannot create money to buy issues which do not exist, lest the value of the currency would be destroyed. Some QE has been used to buy existing treasuries and corporates, but the results are dubious. Britain shows us that. This will not prevent a rise in rates. — Garth

#2 dd on 09.07.09 at 10:47 pm

You might as well clear up the monetization of debt issues since you are at it. Some bloggers think you can print money for nothing.

#3 Subversive on 09.07.09 at 10:49 pm

Thanks for this explanation. I need to read it again a couple times, but I think I sort of grasp it.

#4 Ian McDonald on 09.07.09 at 10:50 pm

What would happen if there was ‘double’ the physical currency in circulation. I mean, forget about monetary and fiscal controls by the Gov’t. Just double the physical currency in our hands and let us individually decide what to do with it. What do you think would be the result?

#5 Jim on 09.07.09 at 10:58 pm

Let us hope that this happens sooner rather than later! I want to see 8.25% as soon as possible!

#6 Clide Rockwell on 09.07.09 at 10:58 pm

…for those that have taken a Macro Economics 101 course, its called “crowding out.” When will we start teaching basic financial literacy and responsibility to our society???

#7 Increasing that 1% on 09.07.09 at 11:00 pm

Like wow, how do you learn all this stuff?..l guess I should have taken like economics or somethanng ?
Thanks for the class, like, really.

#8 My_view on 09.07.09 at 11:03 pm

“As you should know, a hike in mortgage rates to the historic average of the last 20 years, about 8.25%,”

Is that the prime or 5 yr fixed rate?

#9 Best place on meth (aka NJ's Analyst) on 09.07.09 at 11:03 pm

“The Bond Market for Dummies”

Thanks Garth.

#10 Blobby on 09.07.09 at 11:03 pm

Question – Interest rates are going up, that I understand.

But if rates go up, and it causes lots of people to foreclose – wouldn’t that therefor devalue the dollar, causing deflation again, causing interest rates to come down, causing mad rush of people buying property again – and repeat?!?

Wouldnt that cause it to stabalise longterm in the middle ground between where we are now and the 20 year average?

I admit i’ve not thought this through properly – but that was teh question which was in my head as i read this?

#11 Diane B on 09.07.09 at 11:10 pm

Garth, you can explain to people that fixed mortgage rates are linked to bond rates until you are blue in the face, but most people will still think they go up and down with the overnight rate.

Believe me – I’ve tried to explain this to people for several years. I think it’s the ubiquity of variable rate mortgages – those DO vary with prime, and are thus linked to the overnight rate.

But I’m betting as mortgage rates rise – which they have to – less and less people will think variable rates are a great deal.

#12 North Van Dude on 09.07.09 at 11:20 pm

Garth,

Thanks for the lesson I asked for to teach all those comment posters that the BoC has no power to control interest rates.

#13 Calgary_rip_off on 09.07.09 at 11:27 pm

Hi Garth:

Im the “cowboy” that you quoted above-although I dont qualify for that title-i voted for Obama and am far left wing-but thanks :)P. Thanks for illustrating about interest rates-I get it.

Your post is interesting given that people in calgary are buying houses still like they’re taco’s on sale at taco bell. I get houses listed from the realtor my wife picked with things like “pending” or “status changed”.

Some of your readers showed exactly how the Bank of Canada wants certain rates but has little power-this is very good news certainly for renters, but for people who bought some of the shacks that are $300k here in calgary and worth half that at best, if what you are saying will happen, unless they have big incomes, they’re done.

Thanks very much for this post.

Im looking forward to the election-Harper shows no class by how he spoke to you-I read it on your other site-no respect to his elder-you-and that along with his non action Canada wide means he must be voted out. Preferably as soon as possible. And bring on the 12% interest rates for mortgage. That is great news. It will bring Calgary and Vancouver to its news, if it happens.

#14 hal smith on 09.07.09 at 11:29 pm

I’m not trying to be a smart ass and this may be a stupid question but: What’s to stop the government from printing money and buying their own bonds to keep interest rates low? Other countries have done it and they want the loonie to be in the 80 to 85 cent range anyways don’t they? Just wondering……

Destruction of the currency. — Garth

#15 Bogdan on 09.07.09 at 11:31 pm

Classic SNAFU… it happened all over the eastern Europe, Germany, Scandinavians, Japan, Botswana, will soon happen to US… but no, “not in Canada”… lmao

People in debt = Slaves. Doesn’t matter you already payed half of your mortgage, you are still a slave, as they can change the interest rates when they need to… and ohhhh my, they will need to do it big time. The slaves are going to be in the first row seats.

I think I have 5K in my pocket, should I rush and buy a 600K house with the advantage of the low interests rates? WTF, of course not.

Garth, I would freeze the blog for now and unfreeze it in 3-4 years, with “I told you so” :-). You spend lot of time with blind prophets, they will never get it (it’s not your fault they didn’t) and the system will “work” them out.

#16 Eduardo on 09.07.09 at 11:35 pm

“Money used to buy new bond issues cannot be created by government. It has to come from savings – capital already in existence, the result of individuals’ labour, corporate profits and economic activity.” – Garth

Money used to buy bond issues in the US IS ALREADY being created by the Federal Reserve as seen by the expansion in their balance sheet and the QE. They are doing it to supplement bond purchases because of the sheer amount.

Money can be created and it causes monetary inflation which is what’s happening in the US. Bond rates will undoubtedly rise because people will seek a higher yield knowing the inflation that is coming. You’re right that rates will go up, but it’s not because of a shortage of cash.

Canada will never face a currency crisis like Iceland.

#17 Oh My on 09.07.09 at 11:46 pm

OK. But what happens if you have a variable mortgage? Also, there is a shift in how people view and manage debt…it’s not about a large down payment, affordability vs. the opposite, but a shift in how debt is governed and how it is repaid. How does variable vs. fixed play into the scenario you have outlined?

#18 PopThatBubble! on 09.07.09 at 11:55 pm

Thanks Garth !
Good tutorial !

Far too many feel that “the powers that be ” have infinite powers (esp. to keep interest rates low), and that they can keep this ponzi scheme going.

It’s not “if”, but when !

#19 Ruraldude on 09.08.09 at 12:18 am

Thanks Garth on behalf of all the air heads that think interest rates can’t go up…. Hello!
In the 1980’s interest rates peaked if I remember right at about 22 PERCENT to the average dude running a business, needing operating capital. Thousands upon thousands of small businesses went broke. I know, I was one of them. The proverbial crap is going to hit the fan within 3 years and that you can take to the bank.

#20 North0f49 on 09.08.09 at 12:35 am

Awesome post Garth…just awesome!

#21 Nostradamus jr. on 09.08.09 at 12:43 am

Garth, So like the answer is…

US/Cdn Banks and Pension Funds are selling and shorting stocks…they are also buying U.S & Cdn Treasury Notes.

…at a certain place and time the stock market crashes.

Then all these Banks and Pension Funds rebuy stocks at the lows…and the cycle repeats itself.

Canada’s Federal Conservatives understand this…the Federal Liberals do not…Simply watch Ignatieff’s anglo commercial.

Nostradamus jr.

#22 Nostradamus Le Mad Vlad on 09.08.09 at 12:56 am

“Bondage. How quaint”. — Moving right along now —

“. . . at normal levels would nuke affordability and return us to those forgotten times . . .” — Not such a bad idea; give young people, with stars in their eyes, a clear dose of realism. Strangely, this is not a make-believe fantasy land; this IS the nitty-gritty of life.

“. . . the deficit this year alone will be between $47 billion and $50 billion. This is the worst ever . . .” — The people elected them, so we get what we deserve. Garbage in, garbage out, except they’re not gone yet.
——
Japan recently elected a left-wing govt. after just over a half-century of one-party rule, so just suppose they decide to follow China’s actions.

A week ago China switched to buying $50 bln. IMF bonds, as they are getting tired of the US Fed’s worthless money, and it means that Asia is distancing itself from the greenback as a reserve currency.

If China deliberately defaults on the Derivatives and Credit Default Swaps owed to US banks, it could end up having a nightmare effect on their banks which then leads to a ‘ripple effect’ on other countries’ banks (including ours — see link — http://ncane.com/2hp).

So if Japan, China and a few other countries decide that now is as good a time as any to move in a new direction, go a new reserve currency such as the Ruble, Yen or Remnibi, then the downfall of the American Empire may well start a lot sooner than previously spoken of.

How soon could the US collapse? That Russian prof. said (not that long ago) that the US would be carved up into six separate countries. No one figured that the USSR would run its’ course, but where is it now?

Further, the Chinese can afford to play around with their two currencies, the Yuan or Remnibi. —
http://jessescrossroadscafe.blogspot.com/2009/09/china-admonishes-us-monetization-see.html
——
Either this (or the above) is part of the October / Spring Surprise, or we will see a space-continuum light show we’ve never seen before! — http://ncane.com/evz
In any event, if this does happen, there is nothing — including the ‘elite’ — can do to prevent it. Sort of like a ‘rogue meteor’ or asteroid.
——
Well, the SPP is dead. — http://ncane.com/2ipq

#23 Ron S on 09.08.09 at 1:00 am

Thanks Garth. 90% Canadians don’t understand such a complicated financial system. They just jump in buyer’s wagon by seeing interest rate and what their friends/familes/realtors/pumpers/brokers are advising them.

But everyone has rights to make wrong and right decision but do not ask tax $ for name of roof on your head.

#24 Nebbio on 09.08.09 at 1:04 am

Nicely said Garth. I remember in my university days that Money and Banking was one of the most confusing courses. You have laid it all out in fine fashion. One of those things that most of us never think about.

#25 aspen on 09.08.09 at 1:31 am

To those of us who have kept our house in order I say “bring it on”.

#26 TaxHaven on 09.08.09 at 1:31 am

It’s not “…a cheapo Van house WORTH $600,000…” It’s “…a Van house PRICED AT $600,000.” Big difference.

I haven’t bought yet. I will be in a couple years. In the meantime, I’m sitting waiting in stocks, currencies of less profligate foreign countries and GOLD.

#27 Two-thirds on 09.08.09 at 1:39 am

“But here’s the rub: Money used to buy new bond issues cannot be created by government.”

Ehh… professor Turner, is this not the very definition of “Quantitative Easing,” a technique used in spades South of the border?

Did not Mr. Carney has “threatened” to use QE if needed?

More to the point, what or who prevents government from printing money to buy their own debt?

I said ‘new’ issues. QE has been used to retire existing issues. — Garth

#28 MHL on 09.08.09 at 1:41 am

That sounds so scary!

#29 taxpayer like you on 09.08.09 at 1:43 am

The increase in rates is almost a no-brainer as they cant really go any lower. Garth’s “bonds for dummies” was a great primer on how things work. Or should work. Or should probably work……maybe……

But if there’s a fault here, it’s linear “if-then” thinking, forgetting the “else” part of the algorithm. There are simply too many variables and loose cannons that can still go off. According to some earlier comments, we still haven’t rid ourselves of the spectre of deflation, or the “second leg down” of further recession. How about a
“black swan” where the Cdn$ becomes a “go-to” currency and high rates arent needed to attract buyers?
A conflict where oil prices rise also resulting in Cdn$ going up? Or just a decade-long flat world economy where a
concerted effort of central bankers and governments
creates a mexican standoff with investors? How about all five, three of five? Reverse order? Two we havent thought of?

But I think things will work out like Garth says …..
probably ….. sorta….sooner or later……

Garth – a big thank you for labouring on Labour Day.

#30 Tom Araxias on 09.08.09 at 2:59 am

“But here’s the rub: Money used to buy new bond issues cannot be created by government. It has to come from savings – capital already in existence, the result of individuals’ labour, corporate profits and economic activity.”

YES IT CAN.

Review your facts. — Garth

#31 Future Expatriate on 09.08.09 at 3:45 am

Thanks for explaining it so thoroughly and succinctly. Most people will get it. The only ones that won’t get it will be the ones who can’t afford to.

#32 Onemorething on 09.08.09 at 4:59 am

okay Garth, so the Ponzis are running out of bullets. The global marketplace while working together are seeing this and wondering how much longer it makes sense to issue debt.

Last Friday the US Payroll numbers were released. Manufacturing jobs were lower again at 11.9 million. That was the lowest number since…

May 1941!!!

The US of A have exported “all” their manufacturing jobs to South-East Asia. Except for farming, what other economically productive private sector jobs are left in the US of A? Leisure, consultancy, retail, banking, and health care? (Banking and healthcare are de facto public sector jobs nowadays). All of these play their important role in the economy, but none of these make a tangible contribution to the economy. Without a heart (manufacturing) the blood (money) will stop to flow to the other organs (service jobs).

Obama better stop subsidising the dying banks and better invest in creating the right economic environment to repatriate these all-important jobs back!

Rates are going to rise, no choice agreed, the question will be by how much how quickly.

Those of us sitting on the sidelines with cash or other liquidity will get ready with our 40+% deposits while the RE market starts dumping like crazy.

Fixer uppers will be replaced by 5 star Foreclosures.

Cant Wait EH!

#33 Mike (Authentic) on 09.08.09 at 5:19 am

I fully agree with you Garth and thank you for posting the “Why, where and how” of this topic.

I would like to add one thought to your post.

“If they raise interest rates, currency value naturally goes up as investors would buy the CDN.” I agree that the CDN Gov’t needs to raise interest rates. As Canada is already struggling with a raising CDN value, won’t increasing interest rates make the problem worse? Or is a very strong CDN dollar a better solution than a low-interest rate bubble?

Garth, your opinion?

Mike

#34 David Bakody on 09.08.09 at 6:08 am

Live a simple life ladies and gentlemen leave the high rollers to roll their own dice.

–Joe Coyhis, STOCKBRIDGE-MUNSEE
The old ones say, lead a simple life. The society we live in is all about getting more houses, cars, luxury and credit cards. The law of worry says, the more you have, the more you need to worry. You get a house, then you need insurance, then you need to take care of the yard and the list goes on. Next, you may want a bigger house with a bigger yard which costs more in insurance. Along with the accumulation of materialism, are other “gifts.” Soon you become a slave and the materialism owns you. Lead a simple life and have peace of mind. Lead a simple life and be spiritual.

#35 I. Muvrini on 09.08.09 at 6:14 am

Next class : Inflation Survival Guide?

#36 Andrew on 09.08.09 at 6:41 am

Great post Garth,

Since the Canadian economy is performing relatively well compared to the rest of the G8 will there not be more investor appetite for our government debt issues?

With a rising CAD and our resource rich economy it seems to me like Canada is a better place to hide then other countries with larger deficits as a % of GDP.

If there is more demand for our government debt issues (relatively) will that not drive down yields and interest rates?

#37 Mikey on 09.08.09 at 6:41 am

Garth, Are you saying that the mortgage rates can go up substantially overnight? could this happen this year?

Mikey

#38 Samantha on 09.08.09 at 7:05 am

When I read the title of today’s blog post, “Bondage”, well let’s just say I wasn’t expecting to see the photo of traders. The combined images it did conjure made Wall Street a whole lot more interesting.

Back to reality. Excellent post, Garth.

I see two camps: those who understand the situation before us, and those who do not understand it.

Those who understand are becoming increasingly frustrated with the greater status quo and their attempts to warn others who do not understand.

Those who do not understand are becoming increasingly frustrated with these warnings which they perceive as beyond their personal status quo, as in ‘it can’t happen here’ or ‘it won’t affect me’.

If you want to teach, lead by example. If you want to learn, stay teachable.

Which brings me to this popular expression: ‘like lemmings jumping off a cliff’.

Lemmings committing mass suicide by jumping off a cliff is a myth, created in part by a 1958 Disney movie “White Wilderness”. CBC debunked this myth in their documentary “Cruel Camera”.

The lemmings used in “White Wilderness” were flown from Hudson Bay to Calgary. They did not jump off the cliff.

No, these lemmings were launched off the cliff using a turntable.

Think about that one for a moment.

It is a grim bit of irony that in debunking this popular term a much deeper and broader lesson emerges:

They didn’t jump. They were launched.

#39 NOBODY on 09.08.09 at 7:06 am

Nobody can predict the future. No one.
However, with reading into the past, and by establishing trends and patterns, a snapshot of what the future may hold is an assessment.

Stating that interest rates have nowhere to go but up, is a no brainer. It is almost very likely to happen.
One worrisome area is the levels of consumer debt that average families find themselves into right now.
Banks and the government (especially in the past 10 years) have both been very irresponsible with the easy credit thing. It should have been regulated.
Instant gratification has corrupted society. Everything -from a cottage on the lake to a 52″ plasma TV have become rights, not privileges.
Nobody saves for nothing anymore and greed has taken over.
Buy your essentials (i.e. food) with credit?
You’re in trouble.
Routinely skip a car payment or that hydro bill? That means that you have overextended yourselves… You are not alone.
No savings and $20,000 in credit card debt? You’re done.
Easy credit…
Can’t pack your own lunch so you eat out at the office along with those four Timmies everyday and on the way home at night you buy that bucket of chicken ALL on master card is gonna be the end of you. On top of that you’re out of shape with 40 lbs to lose no less…

Massive personal bankruptcies are coming soon… all because of personal indiscipline.
Higher interest rates will have the same effect of the good ol’ natural selection…

Blame yourselves.

#40 The 'VULTURE' on 09.08.09 at 7:16 am

Sing this to the chorus of “Money For Nothing” by Dire Straits…

“Money for nothing and real estate for free”

#41 albertaboy on 09.08.09 at 7:52 am

Great post Garth! People need to understand the “why” behind our overheated housing market and 99% don’t have a clue. I have tried to inform people, just to watch their eyes glaze over as they have flashbacks to granite countertops, hardwood floors and a home theatre system. Needless to say – I’ve stopped.

One poster asked what would happen with an increase in money supply (known as M3 in the US). Garth correctly answered devaluation of the currency, however, I’d like to elaborate that while the USD has lost 93% of its purchasing power since 1860, the CAD has/will do the same. As the US – so goes Canada (especially w. a former GS exec at the helm).

Now lets talk about China & India quietly heading for the exits by dumping the USD through the purchase of hard assets (ie: gold & copper mines, etc). Once the last props are pulled out from the USD, my guess is that you will see a new global currency, most likely China – as the benchmark. What happens after that is anyone’s guess.

#42 Tom Araxias on 09.08.09 at 8:05 am

“Destruction of the currency. — Garth”

And what happens if everyone starts printing at the same time, Garth?

Your statement that a central bank can ONLY print money to buy guilts already in existence is flat out wrong. Money does get created out of thin air, all you have to do is look at Argentina, Zimbabwe, etc. What the FED is doing is no different.

Ain’t Zimbabwe. Ain’t Argentina. Try again. — Garth

#43 PTDBD on 09.08.09 at 8:21 am

Like Garth is so yesterday!

Interest rates have nowhere to go but up. Really? Read this bunky.

Bankers watch as Swedish interest rates goes subzero

G20 and Flaherty all agree that now is not the time to talk about an exit strategy. These guys can’t even find the OFF button on the paperprestidigitizer, let alone push it. That’s the problem with stimulation……..It feels so good, you just can’t stop. Gath does not understand bondage.

nuff said

#44 613 Happy where I am on 09.08.09 at 8:33 am

That lecture felt like I was back in Economics 201 (Second year Macro course)… but kuddos to you Garth for trying to educate the masses… you know people dont get it and will continue to believe the least painful solution or scenario will prevail…

My question of the day is directed to Munch:

Do you know who Debbie Travis is????

#45 kenken on 09.08.09 at 8:50 am

what’s the difference between the US and CA Real estate market?
mortgage rates are historic low in both countries
both have high unemployment rates

here in Canada though, we have seen booming RE and even price increases. Over the weekend, 2 major banks have reduced their mortgage rates (fixed and var)….so where’s the increased int rates that will cause RE prices to fall??
Govts have promised not to close the stimulus tap and let it flow… true that it’s causing huge deficits…but they will drag that until the economy is solid enough to increase taxed and increase int rates such that it will not affect the currency, GDP and wealth by as much as some on this blog want.

It’s insane to see how much RE prices have reached!!
why doesnt the govt burst that RE bubble now and build from it? POLITICAL….

my views: we may have to wait for years and years before we see a major contraction…by that time…. cars would probably be flying!!!

#46 $fromA$ia "Garths Nugget Boy" on 09.08.09 at 8:51 am

“but the results are dubious. Britain shows us that. This will not prevent a rise in rates. — Garth”

RationalNational, In other words Garth is telling you to get rid of your house while you still have a chance.

Change your name to Rational Denial.

Gold!

#47 BDG YYC - Get up to speed - Quickly ! on 09.08.09 at 8:51 am

This link will provide anyone interested in doing a bit of homework in order to accelerate their understanding of basic economic principles and in particular the serious nature of our evolving “New Normal”.
Perhaps the best investment of 3 hours anyone can make in these difficult and confusing times.

Garth; you may even wish to put a link up on your sight as an additional educational resource.

“The Crash Course”
http://www.chrismartenson.com/crashcourse

#48 Artisuseless on 09.08.09 at 8:59 am

I said ‘new’ issues. QE has been used to retire existing issues. — Garth

I think I’d like to suggest the subject of a future blog post: explaining exactly what QE is – for both Canada and the US.

#49 PVC on 09.08.09 at 9:01 am

Time to put the gold spot price on the top header of your blog Garth.

You can link it through Kitco.

#50 Devil's Advocate on 09.08.09 at 9:06 am

I am surprised none of the naysayers brought up Japan and their continuing low interest rates, which were possible because Japan’s “lost decade” was at a time the rest of the global economy was quite healthy. Unfortunately Canada, the US nor any other Western economy will not have such a global economy to fall back upon.

#51 Devil's Advocate on 09.08.09 at 9:13 am

Gold broke through that psychological $1,000 USD barrier this month…

Wow. That only took a year and the worst economy since the 1930s. — Garth

#52 J Walker on 09.08.09 at 9:18 am

Devil’s Advocate wrote:

Gold broke through that psychological $1,000 USD barrier this month…

Wow. That only took a year and the worst economy since the 1930s. — Garth

Yet the housing bubble continues to expand…

* Sigh. * — Garth

#53 X on 09.08.09 at 9:19 am

Good Post. We appreciate you passing along your knowledge w thorough explanations.

Average mortgage rate of last 20 years of about 8.25%. Doesn’t that just seem sooo high now…

#54 Kurt on 09.08.09 at 9:22 am

Eduardo: I don’t think it’s simply either/or – the government of the day will choose some proportion of deficit financing and pressure on central banks to spark inflation through QE, but in either case increased interested rates are unavoidable. I tried to read Benjamin Graham’s The Intelligent Investor once upon a time, didn’t get very far, but he started with interest rates and their impacts on the markets. Anyone who buys without selling in Van, Vic, TO or Calgary right now is screwed – they just don’t know it yet.

#55 dontcallmeshirley on 09.08.09 at 9:23 am

Hey Garth, you made a short story long.

Your argument is just plain ol’ vanilla supply and demand?

Anyone else think it’s that simple?

Hal Smith is right – the dollar can drop another 10 percent and that devaluation can backstop a LOT of quantitative easing. The math to figure out how much is beyond me.

#56 PTDBD on 09.08.09 at 9:35 am

“Washington is shifting the burden of bad choices today onto the backs of our children and grandchildren”
….Obama 2006

Shift to today, when has the power to do something:
Senate must raise debt ceiling above $12T

In England:
The Bank of England may introduce negative interest rates for the first time in British history this week, economists said. – By Amy Wilson Published: 9:22PM BST 06 Sep 2009

Captain my captain she can’t take any more. The paperprestidigitizer is smokin!
Answer: Add more fuel , toot, toot.
From Automatic Earth… “A Thelma and Louise moment”.
:-) going forward :-)

#57 Gord In Vancouver on 09.08.09 at 9:35 am

Thank you for explaining the movement of interest rates in language/terms that most of us can understand. Hopefully, the “rates will stay low forever” talk will end.

#58 rationalnational on 09.08.09 at 9:38 am

You do not quite understand QE. Governments cannot create money to buy issues which do not exist, lest the value of the currency would be destroyed. Some QE has been used to buy existing treasuries and corporates, but the results are dubious. Britain shows us that. This will not prevent a rise in rates. — Garth

Garth, seriously! QE = printing money to buy debt that is issued. Canada hasn’t resorted to this, yet, but the example in the US and UK is pretty straight forward.

1) government issues debt via an auction (treasuries, gilts, etc)
2) direct or indirect bidders come in to purchase them
3) not enough people come to the party – so the central bank ponies up some newly printed bucks to “buy” the shortfall (either directly, or indirectly through the banks)
4) Oila, new demand for the bond = lower coupon rate = keep interest rates low = trash the currency

Now, as I said in my original post, this is an ongoing battle that is politically motivated. I’m not saying this will go on forever. The tools are there to go “full out” and monetize every auction if they want to- but that would indeed be Zimbabwe and I don’t believe that will happen. We’re just not at the tipping point quite yet where they turn off the spigots of this great experiment.

BTW – currencies are being destroyed ala the USD (check gold today? that thing you said was “dead”?) and /or the Pound. UGLY

And finally, yes, the loonie will need to follow suit and devalue proportionately if we hope to keep any semblance of an export market. Buckle up!

#59 Justin on 09.08.09 at 9:42 am

Gentle Reader,
That sloshing sound of trillions of inflated fiat dollars you hear simply cannot bring this economy back to a robust life…..not for a long time (5 to 7 years)…if ever. Approximately 70 percent of GDP in North America is based on Consumer spending and as you know the Consumer is tapped out. The current uptick is based almost entirely on speculation (see sloshing sound above).

Do expect chronic high unemployment (9-12 percent officially, unofficially much higher) As benefits begin to run out for the unemployed do expect increased social unrest. No…most of the jobs lost are not coming back anytime soon.

Insider Sir Alan Greenspan admits this recovery has no legs. http://english.people.com.cn/90001/90778/90858/90864/6732275.html

The UK is to award Alan Greenspan, chairman of the US Federal Reserve, an honorary knighthood.
The honour, which was approved by the Queen, is to recognize Mr. Greenspan’s “contribution to global economic stability”, the UK Treasury said.
http://news.bbc.co.uk/2/hi/business/2177814.stm

Hmmmm….I have thoughtfully included a link to the following Music Video which may induce, however transient, a sense of warmth and fuzziness.

Without further ado, and with Garth’s permission, I now present Miss Lily Allen performing “Not Fair.”

http://www.youtube.com/watch?v=fUYaosyR4bE

#60 Artisuseless on 09.08.09 at 9:43 am

I find there’s an awful lot of disinformation on the internet regarding how gov’t debt is issued, sometimes by people who should know better, and sometimes by ‘goldbugs’ and ideologues who may or may not know better but slip into lazy terminology that furthers ignorance rather than educating.

Here are some better ones though:

http://acrossthecurve.com/?p=7671

http://www.canadianbusiness.com/markets/stocks/article.jsp?content=20090422_154113_3032

http://www.paddypowertrader.com/blog/index.php/economics/2009/03/23/what-is-quantitative-easing/

http://www.progressive-economics.ca/2009/03/03/the-meaninglessness-of-money-why-quantitative-easing-wont-do-what-people-think-it-will-do/

#61 Hopeless_in_the_International_Bond_Market on 09.08.09 at 9:43 am

Garth: “I said ‘new’ issues. QE has been used to retire existing issues. ”

This is irrelevant and you should know that. Whether new or old issues are purchased is monetarily unimportant–what you are getting at is simply cosmetics. You take your economics very seriously, but it seems you take bank reports even more seriously. Roughly translated all you are saying is that the case for fiscal prudence is getting more play as it is part of the ‘social’ contract (amongst rich dudes) that when the economy rebounds, debt returns will go back to being private.

What you’re believing is that your now famous 40% equity run-up has good footing and really signifies a recovery (i.e. you made money and think it was due to good figuring… i.e. greed and hubris), that the “new normal” is more than sloganeering and cheerleading from PIMCO (i.e. you have debt-free capital and deserve a fair price for lending it out, i.e. higher rates), and that Canada does not evolve beyond an umbilical relationship to US consumption (i.e. all economics–$CAD, our rates, debt-are tied to US patterns, i.e. it’s NOT different here).

All of this seems tied to what you learned in school–the school of the 90s.

What you haven’t figured on is that our Canadian debt can become relatively high[ish]-grade (if non-US consumption bolsters the economy and Canadian real estate doesn’t crash), allowing low-interest rates to persist, a Canadian style carry trade is not out of the question, and we maintain a housing bubble as we slowly but cheaply finance our way out of the recession.

Do you think US treasuries are worthless all of a sudden?

Call me a dreamer, call me a greater fool. But I’m wholly amazed and disappointed that so many of your readers need a lesson in bond markets; there were so confident they knew it all days ago when mean reversion was all anyone needed to know.

#62 Jonathan on 09.08.09 at 9:45 am

#14 Hal Smith

What’s to stop countries from just printing money and forgiving consumer debts?

What’s to stop countries from just printing money and paying for everything?

What’s to stop countries from just printing money and never having to work again?

These are the questions with Fiat Currency. It all comes back to the fragility of trust that it’s worth anything at all. It’s all based on trust. If you damage that trust, you end up with hyperinflation since noone trusts the value that the currency promises.

I’m not a hyperinflationist. I’m a deflationist assuming that trust in currency maintains itself. But if you print wrecklessly you will damage the trust behind the currency and it becomes worthless. Once consumer perceptions change it’s near impossible to stop it from collapsing overnight. Surely any Great Depression would seem like a picnic compared to a currency collapse.

#63 PVC on 09.08.09 at 9:47 am

“Wow. That only took a year and the worst economy since the 1930s.” — Garth

Doesn’t Garth remind you of that Brian Acker guy who got obliterated by John Embry on BNN?

#64 Gord In Vancouver on 09.08.09 at 9:56 am

Canadian CFOs Expect Little Change In Hiring Activity In Fourth Quarter

http://finance.yahoo.com/news/CFOs-Expect-Little-Change-In-cnw-3243535099.html?x=0&.v=1

#65 Devil's Advocate on 09.08.09 at 9:58 am

Re: #51
I was expecting some kind of retort on the gold comment. While I agree that we will never return to a “gold standard” since departing it our economic woes seem to have been exasperated beyond compare. But beyond that human behavior is anything but rational and there might just be reason to believe that gold will rise to new heights as people seek, what they perceive to be, a “safe haven investment”. This might happen for all the same reasons a bear market rally such as these past months has… fear and greed.

#66 Nibbly on 09.08.09 at 10:03 am

“What’s to stop the government from printing money and buying their own bonds to keep interest rates low?”

“Destruction of the currency. — Garth”

Destruction of the currency compared to what? Other currencies that are also engaging in QE, and perhaps to a much greater extent? This is the great relativity of fiat currencies. If Canada prints money to buy its own bonds, then yes, all things being equal, we will destroy the currency through expansion of the money supply and ultimately hyperinflation. But what if all Western economies engage in the same process? Who are we devaluing against? In this scenario interest rates across much of the world can remain low for an extended period of time.
Or am I missing something?

Try reading the post again. Competition for capital is not just from governments. — Garth

#67 Elle on 09.08.09 at 10:07 am

Garth…..sir…..love your post.

Class is so impressed!

let Garth be right
let Garth be right …
I so want to stop plugging loonies into this crappy
washer/dryer here at the overpriced rental!!

#68 Got A Watch on 09.08.09 at 10:09 am

Peter & Daystar – thanks for the informative posts in the previous thread. And to all the others who post constructive comments that increase our understanding.

“I have really given up trying to talk sense to people I know in this country who are oblivious to the facts and yet are about to be profoundly affected by what is occurring.”

The great unwashed masses are not going to ‘get it’ until it is far too late for most. This Blog, like Mish, Market Ticker, and a few others I could list (not more than 20 total, globally) speak the simple truths that are simply too painful for most ‘consumers’ to grasp. And are read by about 0.001% of the general population. 100,000 times more people will be watching some stupid reality show tonight. That is their ‘reality’.

Not because most are intellectually incapable, but because of their ‘investment’ in the status quo, and a general lack of economic literacy in our society. We live in a world where everything can be bought on “A Low Monthly Payment!”, and that is all that matters to most.

If they were to actually read and comprehend, their sheltered world view would be shattered. So it is easier for them to dismiss those who dare utter any contrarian thoughts aloud – better to just keep your head down and go with the flow of the rest of the sheeple herd, rather than be ridiculed by the less informed. Admitting the MSM “recovery” meme is not in fact what is happening out there would be akin to acknowledgment that their worldview is in line with ‘The Flat Earth Society’. Personal pride is on the line.

We need more who just call it as it is. Without spin and “hope”, just the facts. If the economy really was in a good place, and it was the right time to buy real estate, Garth would say so, and so would I. There is really little reward in always being called a “negativist”, and I don’t think of myself that way anyway. I wish we were in good times where we could all be making money and feeling good about things. That is probably another reason to read this Blog, the real ‘recovery’ call will probably be made here about 2014, well before the MSM, who will at that point have already called ‘recovery’ several times, all way too early.

Sometimes reality is just not that good, but it is always better to face the real world as it is. Wishing it were so won’t make it so. I sense a common great love of this country and it’s people here among most, and that is something always worth fighting for. Thanks to Garth for providing this unique (in Canada) Blog. There are a few others in this country, but they don’t have the lively comments.

#69 Men With Hats on 09.08.09 at 10:09 am

Class dismissed .There will be a pop quiz on this material.

#70 8.25 !!!! on 09.08.09 at 10:20 am

Garth I was looking at graphs from 1935 until now.
Rates went over 20% in 1980 and over 10% in 1990!!
Where do you get 8.25% from? I see the rates going higher but no way will they go to 8.25.
I have been following you and have read your books and read your blog everyday. You tend to change your mind everyday, one day you call for a crash and the next day you say we will see a 10-15% correction!!!!
Make up your mind and stick to it please:)
There are still good deals out there right now, 2600 sqf detached house in Richmondhill on a 45 foot lot can be bought for 460K is that high?
Tell us when and how much will the decline be? And please dont change your mind from day to day:)
You are the man

An average is an average. The average for residential mortgage rates over 20 years, including now, is 8.25%. As for ‘changing my mind,’ show me one instance of my calling for a housing ‘crash.’ I have consistently said this market will fall by about 15% in the national average, with some markets (you know the ones) perhaps doubling that. I remain of that position. — Garth

#71 B on 09.08.09 at 10:32 am

Garth, here is my situation: age 67, lost my job 8 months ago and so far haven’t obtained a new one (annual salary was 85K). House in Richmond Hill, ON currently worth 360K, existing mortgage 155K at 4.95% fixed until Dec 2012. Debating if I should sell and invest profit and then rent. One glitch is since the Mortgage is locked in it would cost me about 6.5K to pay it off. I’m collecting CPP and OAS. Savings of 12K, RSP’s worth about 75K. Nine months of severence about to end and then it’s EI. What would you do in this situation? I respect your advice.

Thank you

#72 Men With Hats on 09.08.09 at 10:32 am

GST 2% is 28%

reduction in GST is not a measely 2% people. Do the math. 2% of 7% is 2/7 = 28%. Harper reduced the federal tax burden on any purchase by 28%! That’s an important economic move.

From some Star blogging nit wit .
Bet he got straight A’s in math .

#73 Devil's Advocate on 09.08.09 at 10:36 am

A 15% drop in real estate values with a 30% drop in select over inflated markets is a safe bet. More than that and people are going to have greater concerns than whether Garth was right or wrong. Less than that? Don’t see it happening personally but if it is less it will only be so for a matter of tme.

#74 smw on 09.08.09 at 10:41 am

#21 Nostradamus jr.

The the group of politicians through the 90’s and early 00’s that(with the help of the PC’s GST) put the country on the right track of deficet repayment doesn’t understand how the money game works?

And the jack asses that removed 2% of our consumption tax and extended mortgages to 40 years do? They did these things for the better fo the country and not for votes?

Right… Go sell crazy somewhere’s else.

——————————————

Garth, you can’t spell it out any simpiler than your post today.

To add to it I seen Marc Faber on the tube a little less than a week ago, basically stated that the average Joe’s status(USA) hasn’t improved since 1999, and that the only ones making profits are those in the derivatives markets.

The same could be said for the average Canadian family, salary has remained stagnant for a decade. The only increase in “wealth” has been the expansion of credit via home equity.

The only savior to affordibility has been cheap imports, which have basically destroyed Canadian farming and the Canadian fishery.

Oil has climbed from $25 a barrel($250 ounce of gold) in 1999 to $70 a barrel($1000 ounce of gold) in 2009.

With the shape the American dollar is taking Garth, you might get your $100 a barrel oil before EOY. I think pendalum is going to switch from deflation to inflation faster than expected.

But no conspiracy though, all the world banks are colletively setting up the next generation for servitude, get in line slaves, free money…

#75 Elle on 09.08.09 at 10:46 am

# 38 Samantha

…loved the plot of the lemming ……

“……they did not jump off the the cliff. No, these lemmings were launched off the cliff using a turntable.”

Sounds like a Monty Python skit!! LOL.

#76 greyhound on 09.08.09 at 10:58 am

Willem Buiter’s definition of QE in a recent FT article is probably as good as any:

[Q]uantitative easing is an increase in the size of the balance sheet of the central bank through an increase in its monetary liabilities that holds constant the (average) liquidity and riskiness of its asset portfolio.

#77 kc on 09.08.09 at 11:02 am

58 Got A Watch

nicely said

#78 J Walker on 09.08.09 at 11:04 am

Devil’s Advocate wrote:

Gold broke through that psychological $1,000 USD barrier this month…

Wow. That only took a year and the worst economy since the 1930s. — Garth

Yet the housing bubble continues to expand…

* Sigh. * — Garth

I couldn’t resist!

#79 miketheengineer on 09.08.09 at 11:07 am

Home buying, and interest rates.

I watched the 80’s recession, stood in line with some 800 others for a minimum wage job. Saw people I know loose their homes due to 18% rates. Watched downtown Hamilton, go from a “living downtown”, to looking like something not so good. (I used to love downtown Hamilton in the 80’s)

Living within your means was critical. My mom and dad went without. No cable TV, home grown foods, buying everything on sale. Mom and dad were lucky and paid off the home we lived in, ~ 1500sf bungalo. After that, time was spent fixing and upgrading. We didn’t move, didn’t go on vacations, and dad installed a small pool, by himself and my uncle. The TV we had was used.

Then came the 90’s recession. Not as bad as the 80’s one, but still quite serious. I had finished University and got my first job in Toronto. My old man’s advice, find a place to live, and buy something. As long as the mortgage is less than rent, you win. So, I used my RRSP and jumped in, like all the other “greater fools”. Young and crazy. Emotion was 75% of that decision.

Everyone has to make a decision to buy or rent. In the 90’s it was an easy decision. Interest rate ~7%. And the home values had already dropped by quite a bit. The home was 3X my salary, and the bank would not give me more. It was the same price as renting.

Today.

The only thing keeping this whole thing a float is the Cheap rates. I am waiting in sidelines, waiting for my chance to get into that 1700sf home of my dreams. But my plans are foiled by the low interest rates. People should be dumping their homes by now. Their should be a good selection. But “no” not in GTA.
The houses are way over valued in my opinion.

I just don’t understand it. Homes are not cheap here. Ave 400k or so in GTA. Yet I see guys working at Tims, living in my neighbourhood. I know they paid around 300k. How do they do it? I mean, if they are on 0 down 40 amortization, and the rates go way up to 8%, it is going to be a disaster? Are we 12 to 18 months from disaster?

#80 The 'VULTURE' on 09.08.09 at 11:18 am

“Quantitative Easing:”

The Viagra of the housing market.

It makes home prices “rise and stay up”.

Makes all counter offers “firm”.

Makes first time home buyers search for affordable housing “hard”.

Keeps the record high prices “up” all night long.

#81 8.25 !!!! on 09.08.09 at 11:19 am

Garth,
You are correct, I can see a 15% decline but that all depends on where you have bought and how much you have paid. Correct me if I am wrong!!
People are putting offers over asking prices specially in condo market and those are the ones that will pay in my opinion.
Again going to my example, this builder is offering this house at a bargin IMHO. Again 45 feet 2600 double door G. for 462 is pretty good I think in Richmondhill.
I have friends who bought a similar house for over 500 3 years ago.
All I am saying is that there are good deals out there.
I have made up my mind and have signed this house because I think it is way underpriced and even if we get a 15% decline it should still hold its value or at most go down to 440 range.
And regarding the interest rate I dont see it over 6 in next 5 years you can mark my words:)

#82 PVC on 09.08.09 at 11:23 am

Garth won’t go out on a limb so I will.

Yes there will be a Canadian housing crash.

Let’s get real … a 10%-15% correction? Jeez…in these
volatile times that could happen in a month.

.

#83 Rasputin on 09.08.09 at 11:27 am

Just one little fly in the ointment…Japan. They got stuck in the same mud hole and they have had interest rates of zero for 20 years. They tried to create inflation by engaging in public borrowing and useless spending the likes of which was never before seen in history. They paved over beaches for cryin’ out loud!
Keynesianism says it’s not possible. But there it is. Keynesianism is a very flawed theory that seems to work until it doesn’t. It was accepted not because it was proven by history, but because it gave street cred to the socialist’s desire to spend other peoples money. Therefore it was endorsed (Nobel prize) and adopted. It’s still complete bs.
The bond market is the most sophisticated market in the world. It’s not full of 401k / rrsp slinging boomer, Buffett wanna be’s. The bond market is overwhelmingly telling us that deflation is here and now and will be for a very long time.
I hope for a high interest rate outcome but I don’t think we will get it. I know the government is trying for an inflationary outcome but really; when is the last time in history that a government was able to do anything right? I mean besides war and impoverishing it’s citizens of course. Real estate will still collapse, it has to. But I think it will be more a case of credit exhaustion than jacked interest rates. A slow frog in the pot boil rather than a drastic interest rate hike.
As always, my opinion only and I may be wrong, but this is what I see and how I am playing things.

#84 OttawaMike on 09.08.09 at 11:32 am

How about derivatives to hedge against housing price drops:
http://www.macroshares.com/public/macro/macrohome.aspx
Too bad we don’t have a Canadian version(yet)

I believe Karl Case and Rob Schiller are the brains behind this launch.
We should lobby Horizon, the Cnd. leveraged index fund company to start trading something similiar for our market.

#85 Barb the proof reader on 09.08.09 at 11:34 am

vlad, your last 2 links don’t work.

#86 rory on 09.08.09 at 11:43 am

Hey all,

GT said:

“As interest rates start to rise, bond prices will fall and yields will increase as existing bonds trade at a discount to their face value.”

If you own individual bonds and hold to maturity you will get what you bought them for and ditto for the yield.

If you presently own bonds in a bond fund or in a balanced mutual fund, given what GT has said, expect these investments to decline in the future, whenever that future will be. This is what I read into his ‘education’ … IMO.

As a side note, many on this blog are talking about how much in debt Canada and our citizens are becoming (this is a bad thing) … I get it, but no one offers up any solutions or even whether this was or was not the right approach in the first place.

Putting words into GT’s mouth, I think he did favor some sort of limited stimulus to get us over the hump (are we there yet) but he also favors making the gov’t more efficient, more effective, and more accountable as revenues fall.

I understand GT’s reluctance to propose tough love as the ‘sheeple’ cannot take this kind of news/solutions (he needs to get elected first) plus he has first hand experience on this as I understand it…lol …anyhow, that does not preclude us, the people, for suggesting real solutions that we think will work…add one at the end of your every post.

We presently (hopefully always will) have the ear of a future MP, use it.

Remember this is a RE/economic blog…rory.

#87 kc on 09.08.09 at 11:45 am

Interesting article or shall i say overveiw of “living into excess” stuff you won’t see on M$M

The American Dream Built on Debt, Living in Beverly Hills

http://www.marketoracle.co.uk/Article13294.html

#88 Dawn in Calgary on 09.08.09 at 11:47 am

Average mortgage rate of last 20 years of about 8.25%. Doesn’t that just seem sooo high now…

Not really. We bought our first house only 10 short years ago, and that was the interest rate we had. But our house was only $72k. I wouldn’t buy one of these half a million dollar tar paper shacks at today’s rates — heck, I wouldn’t buy one period. Overpriced, glued together crap that will fall apart in ten years.

I should get into home maintenance/renovation — that’ll be the sweet spot here in Calgary in about 8-10 years. All the boom time, thrown together McMansions should need an entire overhaul by then.

That’s if anyone is left in them, once rates go back to normal.

#89 Another Opinion on 09.08.09 at 11:54 am

Nibbly;

Currency devaluation compared to our cost of living, the cost of commodities. Your income stays the same but the cost of buying gas, milk, bread goes up in all currencies. Does that really sound like a good idea?

#90 Tom Araxias on 09.08.09 at 11:57 am

“Ain’t Zimbabwe. Ain’t Argentina. Try again. — Garth”

And this is your response to a Central Bank’s ability to print money out of thin air? You are kidding, right?

What exactly do you think it meant when Ben Bernanke announced the purchase of $300 billion of USG Treasuries by the FED? Or for that matter, the $1.25 trillion purchases of MBS’s by the FED? (Hint: printing money out of thin air)

Your question is hypothetical and without any basis. We are a stable, organized, first-world, industrialized developed country with an integrated central bank mechanism and a track record of successful monetarism going back to 1934. This ain’t Zimbabwe. — Garth

#91 Paul B in Ontario on 09.08.09 at 11:58 am

Hi Garth – There is one part of the equation that I do not understand at all – How is money actually created? I don’t think it is created by the government – because they need to sell bonds to give themselves cash.

Presumably the banks that lend us our mortgages do so from savings – but this cannot be the case since you said that they only keep a small fractional reserve. So, where does the money come from? Is money itself created by the Central Bank? Out of thin air?

Thanks,

Paul

One of the central bank’s key roles in monetary policy is to regulate the money supply, which is comprised of M1, M2, M3, M2+ and M2++. It creates money to pace economic expansion which helps regulate inflation, as do fluctuating interest rates. If a central bank loses control of the money supply, then hyperinflation (too much money) of deflation (too little) can result. — Garth

#92 bigpictureguy on 09.08.09 at 12:09 pm

#14 hal smith on 09.07.09 at 11:29 pm
“I’m not trying to be a smart ass and this may be a stupid question but: What’s to stop the government from printing money and buying their own bonds to keep interest rates low? Other countries have done it and they want the loonie to be in the 80 to 85 cent range anyways don’t they? Just wondering……”

I’m simplifying this of course and by no means an expert.

Consumers and Financial Institutions were over leveraging and borrowing with cheap credit. They couldn’t pay the interest or loans back when assets collapsed in value. It was like a big borrowing Ponzi scheme. Everything was ok if everything went up in value.

Consumers and Banks can’t “print money” so who is going to bail them out? Government.

Now Government is to borrowing and digging a big deficit hole. If they decide to print and inject “funny” money to pay back the borrowing because not enough tax revenue to payback the loans then your currency becomes basically worthless = banana republic country. There would be a huge flight of capital from Canada basically destroying the currency and forcing government to raise interest rates to stem the bloodletting.

The Government is rewarding irresponsible and reckless behavior of “the few” and making society pay as a whole dearly in the future.

The idea that just printing money would solve our problems without implications is very worrisome. It speaks to false hope that government can save us.

#93 Barb the proof reader on 09.08.09 at 12:11 pm

Samantha (re myth #38) you should start a new saying, on recent newbie real estate buyers:

“Like lemmings being launched off a cliff.”

#94 rory on 09.08.09 at 12:24 pm

I think regular readers know I believe pensions will make it to the big stage as a political issue sooner than later …some more support for this …this is from “Mish’s blog.

“Reflections On Unions ..I received many emails regarding Public Support of Unions Collapsing.

Some think that unions would “Save America” and that my stance is “Un-American”.

Sorry folks, it is crystal clear that public unions have wrecked many cities. Pension promises have been made that cannot possibly be met without bankrupting everyone else. As for private unions, look at GM, auto parts, and any other collapsed businesses.

Unions benefit the few, at the expense of everyone else. Moreover, a key point that nearly everyone misses is that because of automation, manufacturing jobs are shrinking everywhere, including China. Those jobs are gone and they are not coming back.

In general, union wages are too high, with too many benefits relative, with too few people earning them. It’s good for the few employees, it is bad for everyone else.”

Completely agree …some idea’s going forward is to transfer all existing defined benefit plans to defined contribution…#2 – cap pension payouts i.e. if you make $200K the last 5 years of your employment your pension payout will not exceed, lets say, $80K or 3 times the bottom $$ payout.

#95 bigpictureguy on 09.08.09 at 12:25 pm

Many people have brought Japan as rebuttal against prevailing thought that interest rates will rise in North America.

Here is the difference between Japan and USA.

http://www.nuwireinvestor.com/blogs/investorcentric/2009/03/big-difference-between-our-recession.html

It’s true that the Japanese authorities did not create any enduring price inflation after their credit crash. But a quick look at the data shows that this is because they opted not to do the one thing that can reliably create eventual inflation: rapidly grow the supply of money in circulation.

It is widely understood and agreed upon that substantially increasing the amount of money in the economy will eventually lead to inflation. Yet the Japanese authorities did not take this course. Did they not think to even try it? Did it just never come up at any Bank of Japan meeting for an entire decade?

We think a more plausible explanation stems from the fact that Japan was a nation of savers. Forcing up inflation via broad currency debasement would have harmed Japanese voters by undermining the purchasing power of their savings. As a result, accepting the mild (if lengthy) deflation was likely a more politically viable option than flooding the economy with money.

While bad for savers, inflation is good for debtors because it reduces the purchasing power-adjusted burden of debt. Here in the United States, the authorities face exactly the opposite constraints as those faced in Japan in the 1990s. Our nation is highly indebted and has a low savings rate. In this situation, deflation is a lot more painful than inflation. Politics demanded that Japan avoid inflation – and politics now demand that the United States embrace it.

#96 rory on 09.08.09 at 12:31 pm

#69 B …

Make a very detailed budget … you need to be able to live off your CPP and OAS only …the other money is your reserve and future housing …if you cannot pay all the bills with CPP and OAS you need to bail to where you can …think Mexico/small town Canada/anywhere you can reduce the cost of living …IMO.

#97 Tom Araxias on 09.08.09 at 12:57 pm

“Your question is hypothetical and without any basis. We are a stable, organized, first-world, industrialized developed country with an integrated central bank mechanism and a track record of successful monetarism going back to 1934. This ain’t Zimbabwe. — Garth”

I’m disappointed by your strawman response. The issue we are discussing here is the ability of a Central Bank to purchase newly issued government bonds by simply printing money. The answer is a definite YES, contrary to your position that it can’t. It’s not only is possible but it has been done and it is been done today. Argentina printed money and debased their currency, Zimbabwe printed money and debased their currency and the FED is printing money (albeit the scale of FED printing compared to the US GDP is vastly different than the other two countries I used as an example and also the USD being the global reserve currency makes the US printing different than Zimbabwe- FOR NOW) with the obvious negative impact on the value of the US dollar.

Why do you think that Gold is now knocking on the door of $1,000? Look at the FED’s printing press for your answer.

Of course any central bank can do that. They can also send all citizens a cheque for $1 million. But that does not mean it will happen. This is purposeless conversation. — Garth

#98 Denis on 09.08.09 at 12:59 pm

Came across this today … Thoughts?

Ottawa Business Journal – The Crash And The Cash
http://bit.ly/2y3ZsX

“Our current economic crisis has been compared to the Great Depression of the 1930s so many times that it’s tempting to believe this might actually be true. Don’t be fooled; it’s not. The way economists measure recessions and depressions is by the decline in gross domestic product (GDP). The Dirty Thirties saw the U.S. GDP decline by almost a third, some 30%.

Let’s put that into context. Since World War II, there have been about ten recessions. The average decline in GDP, from peak to trough, was 1.7%. This current recession is perhaps a little worse than the average, and will likely see a decline of about 2%. This tells you that any comparison to the Great Depression is unfounded: there’s a vast gulf between a 2% and a 30% decline. Granted, we’re in the worst recession since 1982 – but that’s it.”

And how do we know it’s over? In May of 1930 similar articles were written. — Garth

#99 Nostradamus jr. on 09.08.09 at 1:22 pm

Hey Lemmings!

…Invest in Canada…invest in your home…BOC is investing in Canada.

Protectionism is now a formality.

New overseas Wars…Europe, Asia.

Gold, selling for food, will crash.

Pacific Northwest will become the safest place in the world.

Western Canada will secede from the dying Centre of the Earth Provinces, Ontario/Quebec.

U.S. Dollar remains the World Currency

Nostradamus jr.

#100 dd on 09.08.09 at 1:33 pm

#96 Denis on 09.08.09

..Don’t be fooled; it’s not….

However the real unemployment rate in the US is running at 17% and climbing.

How is this not a depression?

#101 David on 09.08.09 at 1:35 pm

Incredible as it sounds, a return to historical norms will devastate the real estate bubble. It was all too good to last and will the last family on the abandoned cul de sac please turn out the lights? Interest rates at 8.25% and homes priced at 2.5 times family incomes or 125 times monthly rent now represent a threat instead of an opportunity. Globalisation is not sexy and exciting if no one wants to buy your products or if an economy does not bother to produce value added products in the first place. Idling one’s car at Tim Horton’s drive through is not economic productivity. So Sorry.

#102 Denis on 09.08.09 at 1:40 pm

And how do we know it’s over? In May of 1930 similar articles were written. — Garth

True … We have no idea if we have actually attained the trough yet. Leads us back to the “It’s the REAL economy … Stupid” analysis and argument by Sprott.

On that note and to solidify Sprott’s stance … CP Rail sees no Canadian recovery till mid-2010 http://bit.ly/J36Ya

“There are no signs yet that an economic recovery is under way in Canada, the chief executive of Canada’s second biggest railroad said on Tuesday, predicting a rebound was at least nine months away.

“I am not seeing any evidence anywhere that would cause me to believe that there is a substantive, sustained recovery under way … I don’t personally believe yet that we are done on the downside,” said Fred Green, chief executive of Canadian Pacific Railway Ltd.

As of the end of August, CP Rail’s carloads were 19% to 20% below what they were a year ago. However, that was an improvement on the 32% year-on-year decline in the second quarter of this year.

As the company’s business has suffered it has laid off well over 2,000 employees, parked 400 locomotives and idled thousands of rail cars.”

#103 Barb the proof reader on 09.08.09 at 1:41 pm

“JMK” — Garth

John Maynard Keynes suggested a “liquidity trap” a floor under which interest rates cannot fall, with interest rates so low, that any increase in money supply will cause bond-holders (fearing rises in interest rates and hence capital losses on their bonds) to sell their bonds to attain money (liquidity). Some, like Paul Krugman, see this as prevailing in Japan in the 1990s.
Most economists agree that nominal interest rates cannot fall below zero, however, some economists (Milton Friedman types from the Chicago school) reject the existence of a liquidity trap.

#104 nonplused on 09.08.09 at 1:45 pm

“Canada will never face a currency crisis like Iceland.”
Oh I wish that hadn’t been said. Now we’re jinxed!
I predict that if rates do finally rise they will go way over 8.5% for a while. In fact, I am baffled that they haven’t already. Just to price in default risk should set the mortgage rates 3 or 4 percent higher than they are.
But it’s taken so long for something so obvious to materialize that I’m beginning to believe maybe rates can stay at 0.25% forever. I don’t know how the pension funds will survive in that environment. Retirees are having to burn their savings as their income has fallen to zero. It’s crazy.
Lower house prices would be a ray of hope for young people. Right now the housing market is so far away from what people can actually afford to pay that it is really a tragedy for the young, who are being financially devastated. If you already had a house before the bubble, fine, but for people who missed the bubble it’s devastating.
For example, I bought a house their in 2000 for $170,000. Starter home for sure but I could afford the payments. In 2007 I sold that house for $430,000. I surely didn’t put more than $30,000 in renos into it over that period. It’s not my business, but how in the heck is the young couple that bought it going to pay off that kind of a mortgage?
One day I will be able to buy it back from the bank for $170,000 again.
Even a collapsing currency won’t stop that. The lesson from Iceland was that just because your currency collapses doesn’t mean you as a person end up with any more of it. It just means everything that’s imported costs more. That competition for the deflated dollars will actually reduce the amount of money available to be spent on real estate.
Garth still thinks a soft decline in real estate of 15%. Not to argue with the boss, but in my opinion any market that goes up 100% in 7 years with no change in fundamentals will go down 50% minus inflation (so 35% or 40% maybe) in the following 7 years, most of it in the first 2 or 3. The spring rally is over, let’s wait for the September numbers next month!
So that’s my call. Peak to trough at least 35%, 1 to 2 years out.
On the hyperinflation front, here is some food for thought: Why would the Federal Reserve in the US (or the bank of Canada for that matter) want to destroy themselves? What is in it for the banks to have their notes rendered useless? Would this not harm their shareholders? (I know, the Canadian government owns the BoC, but the US Fed is privately owned and those shareholders have no intention of becoming poor.)

#105 Keith in Calgary on 09.08.09 at 1:48 pm

People are in trouble, as is the economy, even if the value of real estate was to remain stagnant.

Why ?

All the consumer’s money has been spent due to the wealth effect, and consumer and business credit has been curtailed dramatically, except in the housing market.

To wit, I used to sell high end cars. There are few lease companies around that will write paper on them to start with, and the biggest one I used to deal with still does, but only to existing clients today, and on terms that are far removed from where they once were. Now, you’re better off to write the cheque and lose the opportunity cost on your own money, than bother to use theirs.

Any credit that you will find being granted for anything, pretty much anywhere, except for housing, has an interest rate that does not make sense when put into perspective beside the B of C rate.

Now the Chinese (the greatest fools of all for buying US debt) are starting to publicly voice their valid concerns over US debt levels and their printing of money………this does not bode well for future interest rates over which the B of C will have no control.

On $400K of debt, amortzed over 35 years at 3.75% you pay $70,515 of interest over the 60 month period of the interest term. At 7.50% that now becomes $141,547……….is a doubling of interest rates due to US bond troubles likely ? Interest rates were at those levels a year or so ago, and today for a 10 year fixed rate mortgage term, they still are……

Can the average living in “hock up to your eyeballs Alberta family” lose a part of, or one entire income, and pay another after tax $1,200 a month towards a mortgage ? Can they even do it on two incomes without defaulting on something else ?

It’s game over……

#106 TJ on 09.08.09 at 1:57 pm

As soon as we see a few more Bond sales fail in the United States, and China ups the pressure, buying ever more IMF bonds – the Bond Vigilantes are going to swoop down out of the Canyons of Wall Street, and Orchard Avenue or Wan Chai and FORCE ‘reasonable’ Bond yields.

The CAD Bond Market is a teeny weenie part of the World Financial Axis and we will be squeezed like any other of the COMDOL based paper and dragged, kicking and screaming into a higher interest rate regime.

The set up giveaway = Silver and Gold. Take a look at those bellweathers and what are they saying?

Something nasty this way comes, and soon.

Shares in many TSX and VSX Precious Metal Companies, Seniors and Juniors soared today.

Investors are being forced down one of two roads: Speculate and pray you get better than the crummy .25% you get in GIC’s – by going long on Real Estate – just at the wrong time, or, getting back into the Casino and hope these 45/1 PE ratios are for real.

I think Garth did a masterful job of explaining just how honked so many of our Countrymen are. They are long on credit cards, and Real Estate – and when the Casino closes, a lot of them are going to be looking at a pretty bleak future.

The big worry for prudent people should be – when these folks that thought it was “money for nothing” and get destroyed…I sure hope our Governments at all levels resist ‘bailouts’.

I predict a stiff rise in Interest Rates before the end of 2 Q 2010.
That will be just perfect for people in British Columbia.
The bills for the Olympics debacle will start coming due.

#107 JoeCalgary on 09.08.09 at 2:05 pm

#89, Paul B in Ontario, this video is the detailed complete response to your question “How is money actually created?” It’s a five-part series, 50 minutes in total. Well worth the look.

http://www.youtube.com/watch?v=vVkFb26u9g8

#108 Future Expatriate on 09.08.09 at 2:17 pm

More exciting news on the China half-a-billion goldbugs front (soon to be frenzy):

Up, up, and away

To answer the last question in the above article, the gold is going to have to come from those already holding… at a huge profit as demand and scarcity rises.

#109 jess on 09.08.09 at 2:21 pm

“The collapse of gold premiums culminated in a day of panic when thousands of overleveraged speculators were ruined – Friday, September 24, 1869, popularly called Black Friday. There was great indignation against the perpetrators.(wiki)

At a time when investment banks were anxious for more capital for their enterprises, President Ulysses S. Grant’s monetary policy of contracting the money supply made matters worse. While businesses were expanding, the money they needed to finance that growth was becoming more scarce.”

#110 Future Expatriate on 09.08.09 at 2:22 pm

#42 – Ain’t Zimbabwe. Ain’t Argentina. Try again. — Garth

Not YET, anyway.

You left out Weimar Germany. Another fascist “superpower” who’d lost a horrific war they couldn’t afford to wage either. Sound painfully familiar? Like that cancerous boil to the south? The US will be paying back China for decades… and the kicker is China will only take gold…

#111 char on 09.08.09 at 2:32 pm

In a deflation, everyone is concerned with capital preservation, not yield. Pension funds won’t go for yield if they realize they risk losing principal.

Yes, when the demand for money rises, that is safe money, people will pay more for it, in terms of sacrificing yield. This is in exchange for complete confidence in repayment. This means LOWER interest rates. This is exactly what we’ve been seeing.

This is a demand for money, which pristine bonds are the equivalent of, as opposed to a demand for debt.

Then you say competition to attract investment in bonds will ensure higher rates as Canada competes not only with other countries but Google, RIM and Ford.

Surely you are not suggesting investors will have more confidence of repayment in Google, etc., than in the Bank of Canada ?

Furthermore, this is a psychological game, and raising interest rates can signal desperation. Iceland went to 18%. How’d that work out ?

#112 PTDBD on 09.08.09 at 2:37 pm

Garth, their Central Bank is run by a guy they call “Helicopter Ben” – a guy whose philosophy is not adverse to dropping money on people. “They can also send all citizens a cheque for $1 million. But that does not mean it will happen.”, you say. So where’s the limit..$8000 for home buyers, $3000 for car buyers, tax rebate cheques, stimulus cheques, clunker appliance cheques, extended unemployment. Bonus cheques running into the millions.

Deflation: Making Sure “It” Doesn’t Happen Here

heh, heh…In Bernanke’s words – “I believe that the chance of significant deflation in the United States in the foreseeable future is extremely small, for two principal reasons…. Despite the adverse shocks of the past year, our banking system remains healthy and well-regulated, and firm and household balance sheets are for the most part in good shape”

If you haven’t read his deflation paper, in it he details all the unthinkable measures that he has taken to date. Please note his emphasis on it being experimental. If you want a hint as to how they will exit read his ” Monetary Policy Alternatives at the Zero Bound”. The guy loves to play in experimentation and psychological public head games to try to achieve an expectant result. Very scary.

#113 jess on 09.08.09 at 2:44 pm

movie rights?

Just over two weeks ago, FBI translator-turned-whistleblower Sibel Edmonds was finally allowed to speak about much of what the Bush Administration spent years trying to keep her from discussing publicly on the record. Twice gagged by the Bush Dept. of Justice’s invocation of the so-called “State Secrets Privilege,” Edmonds has been attempting to tell her story, about the crimes she became aware of while working for the FBI, for years

#114 Two-thirds on 09.08.09 at 2:48 pm

I said ‘new’ issues. QE has been used to retire existing issues. — Garth

I read all of the comments before posting again, as I did not find an answer.

Let me re-phrase my question:

What or who prevents the BoC from printing money to buy new Canadian government debt?

Garth, I hear you loud and clear that this is not possible, but could you please elaborate on why?

Currency debasement is a factor, but wouldn’t the BoC prefer to push the loonie down via QE to safeguard our exports?

Or is it the famed “bond vigilantes” that would prevent a move to QE in Canada?

Let me give you this technical response: Don’t pee in your soup. — Garth

#115 Alberta Boom on 09.08.09 at 2:51 pm

Recession? what recession! There is no recession in Alberta. people still lines up at Tim Horton’s. Bestbuy and Futureshop are busy as ever. I see more Mercedes and BMW on the road than i ever seen before. Houses are selling like hot cakes, Realtors raking in the commissions and laughing all the way to the bank.
I repeat, NO RESSESION HERE!

#116 Calgary Rip off on 09.08.09 at 2:55 pm

Nonplused wrote: “Lower house prices would be a ray of hope for young people. Right now the housing market is so far away from what people can actually afford to pay that it is really a tragedy for the young, who are being financially devastated. If you already had a house before the bubble, fine, but for people who missed the bubble it’s devastating.”

He/she also wrote that the real estate bubble doubled values in 5 years. Not in Calgary, nonplused. Prices doubled in 1 to 2 years.

There are ways to deal with the frustration you mention above: Probably the best being to psychologically disconnect from the situation. Accepting the inevitable: Death and taxes. Once that is accepted, a person is free to ignore the mess created by numerous people: Get a decent place where you can play music of your own, exercise, read, enjoy time with your family. This “life” of having houses and material possessions isnt really living. Its a delusion of reality. Things are only really tools to produce things-whether ideas or tangible production.

It’s interesting the camps I find in Calgary: The majority who think the current housing is such a steal, and the people who think its a total joke(myself) and those who think interest rates will go up. Im still not convinced of how this will happen.

One of the docs I work with just asked me if I had bought a house yet. I mentioned about the interest rates and his only reply was such good deals out there. WTF???!!!! Its hard enough to get a down payment when rents are out of this world and then to face the uncertainty of property values possibly plummeting in Calgary…..no thanks….I’ll let the other people try to buy their security….

#117 Calgary Rip off on 09.08.09 at 3:32 pm

Another interesting workplace conversation: One of my coworkers telling how I should buy now, interest rates are 2.5% and then take a 15 year term to pay off the house, put down around $10K and get a small house…..Annoying!!!!! So what happens when and if interest rates skyrocket and the value of the loan is more than the value of the house-“prices will keep going up” she says…..Why is it that someone who bought before the bubble is so keen on giving advice to someone who hasnt bought yet? Oh yeh, I bought my house for $180K and now its worth $450k. You should get a house for $400K, that’s such a steal…..Only in Calgary…..

#118 PopThatBubble! on 09.08.09 at 3:44 pm

I agree with post #48

A good topic would be an explanation of Quantitative easing (QE).

#119 bigpictureguy on 09.08.09 at 3:53 pm

Timely Article for today’s Bondage topic.

“A financial crisis becoming a debt crisis?
We have propped up economies by running massive government deficits – this isn’t sustainable”

http://www.theglobeandmail.com/news/opinions/a-financial-crisis-becoming-a-debt-crisis/article1276882/

Everyone from the Queen to laid-off Detroit auto workers wants to know why more experts did not see the financial crisis coming. It is an awkward question. How can policy-makers be so certain that financial catastrophe won’t soon recur when they seemed to have no idea that such a crisis would happen in the first place?

The answer is not very reassuring. Essentially, there is still a risk that the financial crisis is simply hibernating as it slowly morphs into a government debt crisis.

For better or for worse, the reason most investors are now much more confident than they were a few months ago is that governments around the world have cast a vast safety net under much of the financial system. At the same time, they have propped up economies by running massive deficits, while central banks have cut interest rates nearly to zero.

But can blanket government largesse be the final answer? Government backstops work because taxpayers have deep pockets, but no pocket is bottomless. And when governments, particularly large ones, get into trouble, there is no backstop. With government debt levels around the world reaching heights usually seen only after wars, it is obvious that the current strategy is not sustainable.

If the trajectory is unsustainable, how long can debt keep piling up? We don’t know. Academic economists have developed useful tools to predict which economies are most vulnerable to a financial crisis. But, although we can identify vulnerabilities, getting the timing right is virtually impossible.

Our models show that even an economy that is massively overleveraged can, in theory, plod along for years, even many decades, before crashing and burning. It all boils down to confidence and co-ordination of expectations, which depend in turn on the vagaries of human nature. Thus, we can tell which countries are most vulnerable, but specifying exactly where and when crises will erupt is next to impossible.

A good analogy is the prediction of heart attacks. A person who is obese, with high blood pressure and high levels of cholesterol, is statistically far more likely to have a serious heart attack or stroke than a person who exhibits none of these vulnerabilities. Yet high-risk individuals can often go decades without having a problem. At the same time, individuals who appear to be “low risk” are also vulnerable to heart attacks.

Of course, careful monitoring yields potentially very useful information for preventing heart attacks. Ultimately, however, it is helpful only if the individual is treated, and perhaps undertakes a significant change in lifestyle.

#120 bigpictureguy on 09.08.09 at 4:11 pm

“Let me give you this technical response: Don’t pee in your soup. — Garth”

Amazing eh Garth? People just don’t want to believe that QE carries no risk.

http://en.wikipedia.org/wiki/Quantitative_easing

Quantitative easing is seen as a risky strategy that could trigger higher inflation than desired or even hyperinflation if it is improperly used and too much money is created.

Some economists argue that there is less risk of such an outcome when a central bank employs quantitative easing strictly to ease credit markets (e.g. by buying commercial paper), whereas hyperinflation is more likely to be triggered when money is created for the purpose of buying up government debts (i.e. treasury securities) which in turn can create a political temptation for governments and legislatures to habitually spend more than their revenues without either raising taxes or risking default on financial obligations.

Quantitative easing runs the risk of going too far. An increase in money supply to a system has an inflationary effect by diluting the value of a unit of currency. People who have saved money will find it is devalued by inflation; this combined with the associated low interest rates will put people who rely on their savings in difficulty. If devaluation of a currency is seen externally to the country it can affect the international credit rating of the country which in turn can lower the likelihood of foreign investment. Like old-fashioned money printing, Zimbabwe suffered an extreme case of a process that has the same risks as quantitative easing, printing money, making its currency virtually worthless.

#121 Barb the proof reader on 09.08.09 at 4:28 pm

#114 Calgary Rip off, I agree, Calgary real estate prices doubled (and more) 2005 to 2006.

#122 john m on 09.08.09 at 4:43 pm

#113 Alberta Boom on 09.08.09 at 2:51 pm

Recession? what recession! There is no recession in Alberta. people still lines up at Tim Horton’s. Bestbuy and Futureshop are busy as ever. I see more Mercedes and BMW on the road than i ever seen before. Houses are selling like hot cakes, Realtors raking in the commissions and laughing all the way to the bank.
I repeat, NO RESSESION HERE!<<<<<<<<<<lol i know who you are -so Steve i guess your pretty convinced all those unemployed Albertans will believe you once again next election huh :-)

#123 absinthe on 09.08.09 at 4:59 pm

I’m in Vancouver which for a second started correcting, but then lower mortgage rates combined with pushy brokers raised the bar again. The psychology has simply not changed. I’m watching the American economy start turning around, although granted it will be slow, but where I live we haven’t *learned* anything yet.

So, I keep waiting for OUR recession, you know? After EI and HELOCs run out. After Lines of Credit dry up. My family is doing sensibly, and we’ve got just about enough every month to live on, no more – and we have to regularly turn credit down. My husband went in to do an RRSP fund change and they tried to offer him 20 times the credit we’ve got. We don’t have the money to service that! Who are these people?

But more than that, I wonder; will Canada have its own recession to cope with when our housing finally joins the rest of the world’s housing, and slides back down to sanity?

Or will housing prices slowly drift back towards fundamentals without ongoing pain?

It’s a headshake to hear the recession’s over when, where I am, the recession mindset never started, really.

#124 David Bakody on 09.08.09 at 5:04 pm

I think we all can safely say there has never been a graft man that the line was as straight as an arrow, having said that interest rates are at a all time low … so where to you think the line is going? If you said yes go to front of class if you said lower go to your bank and ask them how much money they are willing to give you to borrow money …… if you said they will stay put …please tell all how long and which way they will move? This really is not rocket science is it?

#125 jess on 09.08.09 at 5:05 pm

consumers are not going to be contributing very much to the economy for the balance of this year and probably for a good part of next year. Consumers will be in the background,”

…house prices can’t grow much faster than the overall economy.

#126 Men With Hats on 09.08.09 at 5:16 pm

#113 Alberta Boom on 09.08.09 at 2:51 pm

Recession? what recession! There is no recession in Alberta. people still lines up at Tim Horton’s. Bestbuy and Futureshop are busy as ever. I see more Mercedes and BMW on the road than i ever seen before. Houses are selling like hot cakes, Realtors raking in the commissions and laughing all the way to the bank.
I repeat, NO RESSESION HERE!

Puckhead fell off his horse one too many times .

#127 Samantha on 09.08.09 at 5:19 pm

Hot off the presses folks:

“Barrick to issue $3-billion in shares”

http://www.theglobeandmail.com/globe-investor/barrick-to-issue-3-billion-in-shares/article1279708/

Loved this part:

“Barrick also announced the hit to earnings due to the change in accounting treatment for the contracts.”

#128 dd on 09.08.09 at 6:05 pm

#113 Alberta Boom

“Recession? what recession! There is no recession in Alberta”

Talk to the 1000 people that just lost their jobs at Suncor.

#129 dd on 09.08.09 at 6:07 pm

#112 Two-thirds on 09.08.09 at 2:48 pm

“Currency debasement is a factor, but wouldn’t the BoC prefer to push the loonie down via QE to safeguard our exports?”

And what happens to the cost of imports?

#130 Samantha on 09.08.09 at 6:17 pm

#117 bigpictureguy

Thanks for the article.

“Everyone from the Queen to laid-off Detroit auto workers wants to know why more experts did not see the financial crisis coming.”

The first line speaks volumes about the limitations of “experts”. An old farmer once told me that a specialist or expert knows an awful lot about one thing and not a helluva lot about anything else.

Too much emphasis has been placed on ‘consumer confidence’ and ‘investor confidence’, as in buying and selling stability, when we should have been researching, developing, innovating and manufacturing our way to stability.

We need people in government with a broader range of skill sets who get this concept. We cannot spend our way out of this mess, not at a personal or governmental level. A family budget or our Country’s budget should not perceive debt as an extension of income nor a way to solve a crisis.

#121 absinthe

“It’s a headshake to hear the recession’s over when, where I am, the recession mindset never started, really.”

When I read your post, and especially, the above quoted line, I thought of a swimmer discovering too late that he is over his head.

The drowning analogy is applicable to this mindset. These people are in trouble or getting in ‘over their head’ and they will discover it, unfortunately for many, when it is too late.

All you can do is live sensibly and if called upon, try to help those who want help without being dragged under yourself.

#73 Elle

“Sounds like a Monty Python skit!! LOL.”

Monty Python didn’t occur to me until you mentioned it. Too funny. I thought of the dead parrot sketch – but with a lemming and a turntable on the shop counter. LOL

and

#91 Barb

“Samantha (re myth #38) you should start a new saying, on recent newbie real estate buyers:

“Like lemmings being launched off a cliff.”

LOL Barb – yes! It puts a new ‘spin’ on ‘record low rates’, too, doesn’t it? LOL

#131 blobby on 09.08.09 at 7:03 pm

Garth,

Another question regarding interest rates. The canadian dollar is rising still thanks predominantly to the american dollar falling.

Now from my basic high school economics understandings, when a country raises interest rates the value of their money goes up, and lowering it does the opposite.

So with the Canadian Dollar so high – wouldnt raising rates make the dollar go higher? They certianly cant lower rates any further?

Or did i get this lesson wrong? :-)

#132 JO on 09.08.09 at 7:19 pm

A most excellent post Garth. Real practical. Your scenario is most likely at some point in the next year or two.

There are some signs a major market event is coming within a month…Sept 15-18 are important days…will the Chinese revalue the Yuan ??? Gold will likely pop to 1060 + – 20…before collapsing hard in late 2009/2010..will there be a major security incident ??? Anyway, something does not smell right…a USD scare / Chinese revaluation appears like a reasonable guess…could be a great time to load up on USD if we get this scare.

The bond market will soon, after one more powerful rally, begin to drop..no later than 2010, rates may rise…even if they don’t then, many stuck in massive debt face an ominous destiny at some point in the next few years..these ultra low rates will not last forever.
JO

#133 David on 09.08.09 at 7:20 pm

Here is a great clip on the sub prime unravelling.

http://www.democracynow.org/2009/9/2/american_casino_doc_investigates_roots_of

#134 kc on 09.08.09 at 7:26 pm

13 Alberta Boom on 09.08.09 at 2:51 pm Recession? what recession! There is no recession in Alberta. people still lines up at Tim Horton’s. Bestbuy and Futureshop are busy as ever. I see more Mercedes and BMW on the road than i ever seen before. Houses are selling like hot cakes, Realtors raking in the commissions and laughing all the way to the bank.
I repeat, NO RESSESION HERE!

will that be cash or chargeX…. ??? big difference spending what you haven’t got vs. spending what you actually have in your pocket.

bottom line that minimum payment please.

#135 Nostradamus Le Mad Vlad on 09.08.09 at 7:36 pm

For Barb — the second link concerned a possible solar storm headed our way.
“. . . it could cause up to $2 trillion in initial damages by crippling communications on Earth and fueling chaos among residents and even governments in a scenario that would require four to 10 years for recovery . . .”
http://www.msnbc.msn.com/id/32662504/ns/technology_and_science-space/
This is in addition to the stuff already happening here!

First link concerns the possibility / probability of a new world reserve currency. China / Japan / Russia etc. are getting mighty ticked off with DC.
http://www.telegraph.co.uk/finance/economics/6146957/China-alarmed-by-US-money-printing.html
http://www.dubaicityguide.com/site/news/news-details.asp?newsid=25737
http://www.mineweb.com/mineweb/view/mineweb/en/page67?oid=88400&sn=Detail

This brings in #21 Nostradamus jr. on 09.08.09 at 12:43 am — “…at a certain place and time the stock market crashes.”

along with a few other posters who have pointed to the next 12-18 months; this only one aspect —
http://www.mybudget360.com/option-arm-disaster-arrival-mortgages-more-problematic-than-originally-thought-134-billion-recasting-in-next-two-years-94-percent-made-only-minimum-payment-only-35000-of-the-1-million-option/

Following is a 2:05 clip of 2010, an election year in the US. —
http://www.uncommonwisdomdaily.com/hidden-financial-crisis-will-hit-in-2010-2-6663

If North America nationalizes what little they have left of industry / manufacturing to ‘protect’ jobs, I’m not sure it would be of much use, because our finances are so far up the creek. It also leads to a possible US default on their obligations.

The higher one is, the harder one falls.
——
Interesting that Buffett is switching to bonds. First para (even for Cdns.) is really good. From what I understand, dividend-paying stocks are taxed at 33%, whereas GICs, CSBs, etc. are taxed at 67%.

After everything is taken into account, the returns on the former are minimal, but $500K invested in these kinds of dividend-paying stocks would bring in a nice monthly cash-flow.
http://www.moneyandmarkets.com/what-to-make-of-corporate-bonds-now-3-35375

#136 Herb on 09.08.09 at 8:44 pm

A year after financial crisis, the consumer economy is dead

http://www.mcclatchydc.com/226/story/75016.html

Swell. And “asset-backed commercial papers” now will be know as “asset-backed securities”!

#137 coop on 09.08.09 at 9:22 pm

Direct from Wikipedia:

Quantitative Easing

The term quantitative easing describes an extreme form of monetary policy used to stimulate an economy where interest rates are either at, or close to, zero. Normally, a central bank stimulates the economy indirectly by lowering interest rates but when it cannot lower them any further it can attempt to seed the financial system with new money through quantitative easing.

In practical terms, the central bank purchases financial assets, including treasuries and corporate bonds, from financial institutions (such as banks) using money it has created ex nihilo. This process is called open market operations. The creation of this new money is supposed to seed the increase in the overall money supply through deposit multiplication by encouraging lending by these institutions and reducing the cost of borrowing, thereby stimulating the economy.[1] However, there is a risk that banks will still refuse to lend despite the increase in their deposits, and in a worst case scenario, possibly lead to hyperinflation.[1]

#138 Onemorething on 09.08.09 at 9:22 pm

Hey Guys, did you hear, HSBC Asia will give you a 1.99% mortgage if you put down 40%.

Huuuum, HSBC needs cash #1, #2 is they have covered their butt on the deflation side of housing.

There has been some great calcs above regarding the cost of servicing debt on RE related to rising interest rates, however without enough money down on your purchase, you default anyhow!

Sure your payment goes from $2560 to $4200/m but if this $600K house goes to $420K as rates rise the bank is also going to ask for a chunk of cash on renewal.

This on top of the fact your just trying to make end meet at the $4200/m, even if you have two incomes you cannot expect not to have taken a 20% haircut on the way.

EVERYONE, there is just too many items on the wrong side of this equation.

If you choose not to listen to the Garthster, at least get educated by way of MISH or Steve Keen. Bottom line is this IS A DEPRESSION only slightly halted by QE.

Same pattern as the GREAT Depression, Unemployment same issue if you follow the U6 not the U3. Deflation in housing and wages which is key.

If you subscribe, buying RE is only a consideration within the next 20-25 months to start. At least by then the REAL economy will show you the direction instead of the false PONZI manipulative BS that you are feeding on now. SHEEPLE!

#139 gold bugger on 09.08.09 at 9:49 pm

Hubris = “We are a stable, organized, first-world, industrialized developed country with an integrated central bank mechanism and a track record of successful monetarism going back to 1934. This ain’t Zimbabwe. — Garth”

Or maybe it’s satire.

Argentina was the Canada of South America at the turn of the 20th century. Germany was the most civilized, advanced country in the world at the time of its between-wars currency collapse.

To think Canada is somehow different, while building a blogging and book-writing career out of countering the mainstream belief that somehow “it’s different here,” is either the height of hypocrisy or the height of self-delusion.

You’re false prophet and I laugh at the suckers who buy your snake oil.

Well that was a good argument. No wonder they call you the bugger. — Garth

#140 Homeless on 09.08.09 at 10:07 pm

#69
Where in Richmondhill, you are getting 45 feet lot home for $460K. I would be interested to know.

#141 Jonathan on 09.08.09 at 10:21 pm

To all those that love facts, CMHC just produced a report showing the growing trend in variable rate mortgages.

They now make up 30% of the mortgage market. 50% is made up of 5 year terms.

Now you know.

#142 Tony on 09.08.09 at 10:54 pm

Rates will stay at or near zero for at least another decade like in Japan. Deflation is rampant, the fools buying gold at a thousand US will be sad very sad unless of course they have a strong dislike for money.

#143 Gord In Vancouver on 09.08.09 at 11:00 pm

#140 Jonathan

Thanks for the #’s.

In a perfect world, CMHC would also publish corresponding down payment and salary information.

#144 bigpictureguy on 09.08.09 at 11:31 pm

Sell Canadian Banks. Why? RE portfolio risks

http://marketdepth.typepad.com/marketdepth/2009/06/sell-the-banks.html

RE Dreams
http://marketdepth.typepad.com/marketdepth/2009/08/real-estate-dreams-2009-edition.html

#145 Jonathan on 09.09.09 at 7:22 am

negative interest rates..

the last thing our economy needs is more lending… talk about selling out for the short term

this won’t end well

#146 B on 09.09.09 at 4:28 pm

#139 Homeless

I didn’t mention the lot size and you read the wrong price, it’s an 18 foot lot and it’s a townhouse and it’s value is 360K not 460K

#147 Homeless on 09.09.09 at 9:50 pm

#145
From your previous posts

“There are still good deals out there right now, 2600 sqf detached house in Richmondhill on a 45 foot lot can be bought for 460K is that high?”

“Again going to my example, this builder is offering this house at a bargin IMHO. Again 45 feet 2600 double door G. for 462 is pretty good I think in Richmondhill.”

are you on drugs?