Flaherty moves to tighten CMHC oversight

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Ottawa is beefing up its scrutiny of CMHC and the more than $500-billion in higher-risk mortgages in its care amid growing concern over the fragility of Canada's housing market.

In a move many welcomed as long overdue, the Conservative government is giving Canada's banking regulator – the Office of the Superintendent of Financial Institutions – new authority over the Canada Mortgage and Housing Corp. Before the rule change, the primary source of oversight for CMHC was the federal minister of Human Resources.

The Conservative government is also putting a stop to banks using mortgages insured by CMHC as collateral on covered bonds, saying the practice went beyond CMHC's mandate.

New federal legislation will require the corporation's leadership to give more consideration to the broader implications of their decisions. CMHC was established largely to provide social housing and to insure mortgages for those who cannot make large down payments so that as many Canadians as possible can buy homes. The new marching orders from Ottawa say CMHC will also have to ensure its commercial activities "promote and contribute to the stability of financial system."

Essentially, CMHC is being asked to weigh the potential risk to the national economy when deciding whether to insure a mortgage. The OSFI will review the safety and soundness of CMHC's activities.

"I've been concerned about CMHC for some time," Finance Minister Jim Flaherty told reporters in explaining the move, which is part of a budget implementation bill introduced on Thursday. The minister said the federal mortgage insurer has become an important financial institution, yet was not subject to OSFI's rules.

The expanded use of CMHC insurance by banks for covered bonds – securities made up of a package of mortgages – is partly behind the steep rise in CMHC's mortgage portfolio. The corporation is approaching its legal limit of $600-billion for mortgage insurance, a cap that has been raised twice since the end of 2007, when it was $350-billion.

Canadian taxpayers are on the hook if the mortgages run into problems. And the government also guarantees 90 per cent of the portfolios of CMHC's two private-sector competitors – Genworth MI Capital and Canada Guarantee. Taxpayers' current combined limit is $250-billion, but Ottawa has hinted that could increase. As a result, public exposure to insured mortgages is approaching $1-trillion.

"It's a big pool, but it's backed by you and I, and the totality of the pool is high-risk borrowers," said Louis Gagnon, a finance professor at Queen's University's School of Business. "… This means that unless this business is properly capitalized, then we are on the hook."

Dr. Gagnon said the change is overdue.

"With insured mortgages, people will tend to default at the same time," he said. "So the set-up of this whole scheme is inherently risky. It deserves a very, very high degree of oversight."

Bank of Canada Governor Mark Carney warned this week that the average house price is now almost five times higher than incomes. The historical norm is about 3.5. In recent months, Mr. Carney has been sounding the alarm over rising household debt – which stands at 153 per cent of disposable income. He recently described household debt as the No. 1 domestic risk to the economic recovery.

Restricting the access of banks to CMHC insurance would presumably cool lending, but TD Bank Financial Group chief economist Craig Alexander doesn't think Canadians will see a change.

"This will increase the cost of borrowing to the banks, but not in a dramatic way. This is not going to have any material impact on Canadians," he said.

Finn Poschmann, vice-president of research at the C.D. Howe Institute, has long called the original oversight arrangement inadequate.

"There's a message here that the Finance Minister wants to keep a very close eye on the exposure to credit and financial markets that CHMC channels through to taxpayers," he said. "We've had 10 years of household credit growing considerably faster than incomes, and the market value of housing has grown considerably faster than incomes. That's not sustainable. That's the thing you want to avoid and slow its growth before it collapses."

Mr. Flaherty said the changes will not affect CMHC's responsibilities for social housing.

Ottawa is also changing the membership of the CMHC board, adding the deputy ministers of Human Resources and finance to the list of 10 other members.