New Canada mortgage rules won't deflate market

By John McCrank - Analysis

TORONTO (Reuters) - Canada's decision to tighten standards on mortgages it guarantees won't help a housing market that's already slowing down, but the new restrictions are unlikely to trigger a U.S.-style housing meltdown.

The Finance Department on Wednesday said it was cutting the maximum amortization period for government-backed mortgages to 35 years from 40 years, and require buyers to make downpayments of at least 5 percent of the purchase price.

Even before the tighter rules, national home sales were expected to drop 11.5 percent in 2008, according to an industry group, after surging at a double-digit pace since 2002.

The long stretch of sizzling growth has put home prices out of the reach of many prospective buyers. Waning consumer confidence is also taking a toll on the Canadian market, economists say.

Against that backdrop, the new rules will only affect those buyers at the margins of the market, said Doug Porter, deputy chief economist at BMO Capital Markets,

"It'll take some steam out of the market and overall we're going to see fewer people able to afford houses," he said.

"Longer-term, it should be relatively neutral to the market," Porter said. He pointed out that the new rules may lower demand immediately, but that could lead to reduced home prices, which may draw other prospective buyers into the market.

In May, the Canadian Real Estate Association said the market would remain strong by historical standards even though it was headed lower.

Not much will change with the government's new rules, said Gregory Klump, chief economist at CREA.

"We don't anticipate that the announcement is going to have a significant impact on resale housing activity," he said.

CHANGE IN DIRECTION

The Finance Department had loosened standards for government-backed mortgages in the summer of 2006, allowing more mortgage insurers to enter the market and raising the maximum allowable amortization period to 40 years from the standard 25 years.

Mortgage insurance protects the lender against default and is required for home buyers unable to afford the 20 percent downpayment typically required in Canada.

As more mortgage insurers entered the market -- from two in 2006 to at least six in 2008 -- more Canadians started to take advantage of the lower monthly payments in those extended amortization periods. But the higher costs from extended interest payments raised concerns among consumer advocates and even government officials.

In a June speech, Sheryl Kennedy, deputy governor of the Bank of Canada, warned that some innovations, such as 40-year amortization periods, "can increase the total cost of ownership, significantly in some cases, and can thus reduce lifetime savings or spending and investments in other areas of the economy."