UPDATE 2-Bank of Canada says credit growth slowing, risks remain

Mon Feb 11, 2013 5:46pm EST

Related Topics

* Deputy governor Lane says high debt still a big risk to financial system

* Monetary policy could be deployed if other measures insufficient

* Lane warns against risky investments as rates stay low for long time

OTTAWA, Feb 11 (Reuters) - Canadians have taken on debt at a slower pace recently, but record-high personal debt remains a risk to the financial system and if the problem persists the central bank could hike interest rates, a senior Bank of Canada official said on Monday.

The central bank has described the heated housing market and indebted consumers as the biggest domestic threat to the Canadian economy, although there have been signs of cooling. Last month Moody's Investors Services cut the ratings of six Canadian banks due to these concerns.

"The growth of household credit has shown signs of moderating in recent months," Bank of Canada Deputy Governor Timothy Lane said in the prepared text of a speech he gave at Harvard University in Cambridge, Massachusetts.

"The momentum in house price growth, sales of existing homes, and new construction has also moderated. Nonetheless, financial system risks associated with household imbalances remain elevated."

Lane warned household spending could still regain momentum or, conversely, there could be a sudden weakening.

The government has intervened four times in the mortgage market to discourage excessive borrowing and the banking regulator has also pressed banks to adopt stricter mortgage lending practices.

"If such targeted prudential measures turned out to be insufficient, monetary policy could also be used, within a flexible inflation-targeting framework, as a complementary instrument to address financial imbalances. So far, though, that has not been necessary in Canada," Lane said.

The bank has held its benchmark interest rates on hold at 1.0 percent since September 2010, but it has been signaling for months that it may need to raise rates as the economy expands.

Last month, it softened its stance, saying any withdrawal of stimulus was "less imminent" in light of weaker-than-expected growth and inflation, as well as positive signs in the household debt situation.

Market players surveyed by Reuters predict a first rate hike in the first quarter of 2014.

Lane also warned that banks, emboldened by an improved global economic outlook, may take on excessive risk in an environment of "low-for-long" interest rates.

He said such behavior has been kept in check by a "climate of fear" after the global financial crisis. But with dangers such as the U.S. fiscal cliff and the euro debt crisis fading, banks may adopt more reckless investment strategies in their search for yield.

"While it is good news that the tail risks have diminished, it also means that it is now becoming even more important to monitor financial institutions' risk-taking behavior," he said.

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