Omnivorous

The average family owes $1.40 for every dollar earned. That’s wicked high. A record, in fact. Scarier, it’s about the level of debt the Yanks ran up just before God smoked ’em.

The credit collapse in the States happened largely because people pigged out on real estate, taking big loans to afford overvalued homes. About five year ago, debt and prices spiked together. And you know the rest. Middle class wasteland.

But did you realize we have repeated this pattern? My economist bud Derek Holt does, and a report he’s just penned for Scotia confirms what this blog’s prattled on about for some time.

(If you have small children, excitable pets or Boomer parents with houses big enough for a cow-calf operation, ask them to leave the blog. Now.)

For the past two years, almost, we’ve had the lowest interest rates ever. Mortgages at 1.5%, lines of credit barely over 2% and a prime stuck under three. With money so incredibly cheap, it was an historic opportunity for people to pay down debt quickly and efficiently. But, of course, they didn’t. At least most didn’t.

Instead, they pigged. As Derek notes, relative to what families earn, mortgage payments have doubled in the last decade or so, and this gorging continues. Over the summer, for example, household credit was mushrooming at a rate of 7.1% – when inflation was less than 2%, and wage gains were 0%.

The one overwhelming reason for this was exactly the same as in the USA circa 2005 – ridiculous mortgages to finance absurd real estate. In fact we now have so much debt that we save next to nothing. Mortgages account for close to 70% of this sea of borrowed money – and this is dangerous to everybody for two reasons.

First, the greatest mass accumulated when interest rates were at an all-time low. That means they’re destined to rise, along with debt payments. In fact, it’s a no-brainer that debt charges will outstrip family income gains for years to come. More people will be spending more making interest payments and shelling out less on $800 iPhones and cars with winky navigation systems nobody uses. This is lousy news for the economy.

Second, this shimmering ocean of money was borrowed largely to buy assets when they cost the most and are already starting to drop in value. Uh-huh. Houses. Just like in the States, where one in four families now owe more in mortgage debt than their homes are currently worth.

In case I need to spell this out again: those dumbass Americans snapped up real estate, often in bidding wars, when it was very expensive and took out massive mortgages at prevailing low interest rates, in the belief that it would continue to rise in value forever. What were they thinking? That they lived in Vancouver?

So why did the Bank of Canada raise interest rates again this week if families are so indebted and this will just make their lives worse? When it will likely slow down an economy which is moribund and drive another spike through housing’s zombie heart?

Because Mark Carney, along with Derek & me, know we’re now well and truly on the path which leads to the suburbs of Houston. Or Chicago. Tuscon. Miami, Seattle or Stockton. As in middle America, real estate excesses in Canada have led to debt excess, which has the potential to gut economic activity. And it continues. As stated, credit is still exploding higher. Only by sending out a message that rates are rising and the party is over can Carney try to corral the beast he created.

But, it’s too late.

I’m more convinced each day that none of this ends well for millions of families. They gambled on real estate, and most will lose. Not only will equity vanish, but they’ll be left with unrepayable debts which only get harder to service. Sadly when the economy does turn, it’ll mean surging financial markets they can’t afford to capture and higher debt rates on houses worth less.

The groups most at risk are recent young buyers who thought 5% down was smart and riskless, and house-rich Boomers who couldn’t let go.

Opposed to many on this site, I see no depression, no hyper-inflation, no American empire collapse, no currency crisis and no end of days. As I’ve said often, I expect a deflationary, house-killing funk followed by an global economic revival of epic proportions.

But I do see an end to our egalitarian middle class, a smoking hole, gaping and black. Its edges faintly reminiscent of an HGTV logo.