I got a call this afternoon from Prof. Karl Case, the first half of the well-watched "Case-Shiller Home Price Indices." He had seen my piece about Canadain our Housing Fix series last week and wanted to add his two cents.
Yves Marcoux | First Light | Getty Images
Victorian houses in St. John' s, Newfoundland
Specifically he wanted to point out how "in the high interest rate environment you get a completely different scenario as the low interest rate environment," when you compare the Canadian and the U.S. housing boom and busts.
"Back in the late 70's there was a big price boom, where home values more than doubled in California, until we ran into recession of 81-82..the double dip. Prime was over 20 and the fed funds at 22.9 percent by July of 1981," Case recalls.
Vancouver experienced the same boom, as an influx of Asians hit the Pacific Northwest. But when the recession came, "California home prices went flat. Nominal prices never fell, but they collapsed in Vancouver, down 65-70 percent. The difference is that the Commonwealth doesn't have fixed-rate mortgages. Payments went up in Canada." This as the U.S. still had a love affair with the fixed-rate mortgage.
So as we all argue whether or not the fixed or the adjustable rate mortgageis healthier for any housing market, clearly you have to factor in mortgage interest rates. The Canadian model, Case argues, only works better when interest rates are rock-bottom, as they are now.
Of course you could also make the argument that it had nothing to do with interest rates, but mortgage underwriting.
Yes, the U.S. made a bold move into the adjustable rate arena back in 2003, leaving the 30-year fixed behind in the ensuing boom years, but mortgage interest rates didn't exactly spike. They went up a few percentage points, but nothing dramatic. The inherent problem was that the bulk of the borrowers could very barely afford the loan in the first place, many lied on their applications, and many loan products were negative amortization, adding more debt on the back end that inevitably came home to roost.
In my piece on Canada, I pointed out that while Canadian mortgages are adjustable, they are also fully documented, largely insured, full recourse loans. Adjustable or not, while U.S. lenders were handing over loans to anyone with a pulse, Canadian bankers still stuck to the basics.
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