As Canada's banking regulator works out the final details of much-debated new rules on mortgage underwriting, its head is defending the changes as vital amid continued uncertainty about the health of some housing markets.
The Office of the Superintendent of Financial Institutions (OSFI) has proposed regulations that would require buyers making down payments of more than 20 per cent of a home's value – who do not need mortgage insurance – to prove they could still afford their mortgage payments if interest rates were 200 basis points (two percentage points) higher than the rate they negotiate.
A final guideline with possible tweaks will be released later this month and come into force "two or three months later," Jeremy Rudin, the regulator's superintendent, said on Tuesday.
Mr. Rudin signalled that the "broad thrust of the changes will be similar to what we had" in a draft version released in July, dampening hopes of some in the mortgage industry that the regulator could be persuaded to change course.
"Nobody can say with any certainty what's going to happen in housing markets, or what's going to happen to housing prices," Mr. Rudin told reporters. "But we do know this: Housing prices are still near their all-time highs, and mortgage rates are still near their all-time lows. And while sound underwriting is always important, it's never been more important than it is now."
The changes are designed to protect lenders from a spike in delinquencies if interest rates rise. They would be written into guideline B-20, which sets out the due diligence, appraisals and paperwork lenders must perform, and was last tweaked in 2014. At that time, OSFI focused partly on tighter verification of borrowers' income, which has since emerged as a major concern over the health of alternative mortgage lender Home Capital Group Inc., among other measures.
Mr. Rudin stressed that he expects lenders to "make a rigorous effort to assess income." But he also used a speech to the Economic Club of Canada to make the case for further action to cool Canadian housing markets before more serious signs of stress begin to show.
"We clearly see the potential risks caused by high household indebtedness across Canada, and by high real estate prices in some markets," Mr. Rudin told a lunchtime audience at a Toronto hotel. "We are not waiting to see those risks crystalize in rising arrears and defaults."
A pair of recent interest-rate hikes by the Bank of Canada are also "a useful reminder for people … that interest rates can change," he added.
Yet, a number of industry stakeholders are skeptical that tougher stress testing is the answer. Some critics caution that less-wealthy home buyers could be shut out of the housing market or forced to accept less-favourable home loans. In a submission to OSFI, the Canadian Credit Union Association called the tougher proposed stress test "punitive" for customers who already pose a lower risk to lenders by virtue of making larger down payments.
But Mr. Rudin – an economist by training who previously worked at the federal Department of Finance – used parts of his speech to trace OSFI's 30-year history and highlight "bold and unpopular" moves by his predecessors that eventually proved worthwhile, including forcing banks to boost their capital buffers ahead of the 2008 financial crisis.
Concerns that some borrowers will look outside the federally regulated system for riskier loans is "certainly valid," Mr. Rudin said, and is "not an intended consequence, nor a positive consequence." But OSFI remains focused on the institutions it supervises, which account for about 80 per cent of Canadian mortgages.
He also acknowledged fears that many more homeowners might choose shorter-term mortgages, which would be easier to get under stricter stress testing because they carry lower interest rates. Those borrowers would renew their loans more often, exposing them frequently to rising interest rates. And that, in turn, would force banks and other lenders to consider adjusting their funding to mitigate risk from rate hikes.
"We're looking at that," Mr. Rudin said, but the guideline's details "are yet to be finalized."