Bloomberg | December 14, 2010
By Theophilos Argitis and Greg Quinn

Canada’s top economic officials yesterday urged households to be wary of taking on too much debt after data showed the indebtedness of Canadians surpassed U.S. levels for the first time in 12 years.

Bank of Canada Governor Mark Carney, Finance Minister Jim Flaherty and Prime Minister Stephen Harper said in separate public appearances that they are concerned about rising debt. The ratio of household debt to disposable income in Canada was 1.48 in the third quarter according to Statistics Canada, exceeding the U.S. level of 1.47.

“Our parents were more inclined to pay off that mortgage as soon as possible, and some Canadians are not as inclined to do that now,” Flaherty told reporters yesterday. “I encourage them to do it.”

The comments by the policy makers underscore government concern that debt levels in Canada could threaten the recovery if borrowing costs rise and households struggle to pay their bills. Canada has relied on regulatory steps to rein in mortgage borrowing, most recently in February, and Flaherty said yesterday he is prepared to take additional measures if needed.

“The fear is that were we to see sharp rises in interest rates or were we to see sharp rises in unemployment, that a significant number of people might not be able to afford their debt obligations,” Flaherty said.

In Canada, where banks largely escaped the global financial crisis and continued to lend even as credit dried up elsewhere, low interest rates have encouraged consumers to take on debt.

Limits to Divergence

Carney, 45, left the benchmark target rate at 1 percent this month to gauge the global recovery after three earlier increases, while the U.S. Federal Reserve has kept its benchmark rate in a range of zero to 0.25 percent since December 2008. Carney said in a Sept. 24 interview on CNBC that “there are limits to the divergence that there can be between Canada and the United States.”

While Canada’s economic recovery could be threatened in the future by elevated debt levels, higher Canadian interest rates could also cause the Canadian dollar to appreciate. Speaking to reporters after a speech in Toronto, Carney noted that the bank had flagged as a risk to the economy that “persistent strength of the Canadian dollar” and weak productivity could crimp exports and hinder Canada’s recovery.

“To some extent that risk is being realized, which is one of the things we will have to assess as we sit down in January,” Carney said, referring to the bank’s next interest rate decision and monetary policy report.

Boxed In

“The Bank of Canada is in a bit of a box, given where the Fed is and where the Canadian dollar is,” said Doug Porter, deputy chief economist with BMO Capital markets in Toronto.

Canada’s dollar pared gains today, after rising four consecutive days in what was the longest winning streak in more than a month. The currency has gained 1.7 percent this month versus the U.S. dollar. The Canadian dollar fell today 0.2 percent to C$1.0098 per U.S. dollar at 9:59 a.m. in Toronto, from C$1.0074 yesterday. One Canadian dollar bought 99.03 U.S. cents.

Measures to restrain lending taken earlier this year included changes for government-backed mortgages that forced buyers to meet standards for five-year, fixed-rate mortgages even if they opt for variable rates. Limits on refinancing were made stricter and down payment rules were tightened.

The proportion of Canadians in a stretched financial position “has grown significantly,” Carney said in his speech -- entitled “Living with Low for Long” -- adding that authorities continue to monitor households’ finances.

Watching Closely

“The level of vulnerabilities of households remains high” Carney said at the press conference. “The authorities are cooperating closely, we are continuing to monitor the situation closely.”

To be sure, Harper said his government cannot “exaggerate” the degree with which it can control borrowing.

“We are a free country and people are entitled to make their own financial decisions,” Harper said. “This is a matter that is of concern to the government, we continue to warn Canadian households that interest rates are unlikely to go down.”