IMF wants Ottawa to scale back CMHC's mortgage insurance

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The IMF has some advice for Canada: Scale back the level of government-backed mortgage insurance and help spur lending to small- and medium-sized businesses.

The International Monetary Fund Wednesday lauded the federal government's recent moves to curb Canada Mortgage and Housing Corp.-backed mortgage insurance. But it said the role of government should be further reduced so that more risk is shared with the private sector.

Its concern is twofold: The current system exposes the government, and hence taxpayers, to losses in the housing sector, and it distorts the allocation of resources by giving banks more incentive to lend in low-risk mortgage markets rather than to businesses.

"We think there's too much credit going to mortgages and too little credit going to more productive uses of capital – investment in machinery and equipment, especially, at the small and medium firm enterprise level," Roberto Cardarelli, the IMF's mission chief to Canada, told reporters in Toronto.

Government-backed mortgage insurance now "makes it easier for banks to do mortgages than other kinds of lending, which are presumably more useful for the real economy, especially given the productivity gap with other competitors, which also comes from relatively low capital investment." He didn't say the government should disappear altogether, but rather recommends a gradual "scaling back" in the coming years.

Mortgage insurance, which reimburses the bank when a consumer defaults, is mandatory in Canada for high loan-to-value mortgages (those with a down payment of less than 20 per cent), and is available from CMHC, a Crown corporation, as well as its two private-sector rivals, Genworth MI Canada and Canada Guaranty. The government backs 100 per cent of CMHC's insurance, and backstops 90 per cent of Genworth and Canada Guaranty's.

In addition to normal mortgage insurance, banks are also able to obtain bulk or portfolio insurance to backstop portfolios of mortgages that didn't have to be insured (i.e. those where the buyers had down payments of more than 20 per cent).

Finance Minister Jim Flaherty has made it clear he does not like the current degree of taxpayer exposure to the housing market. "I think in the next five or 10 years the government needs to look at getting out of some businesses that we're in that we don't need to be in," he told The Globe and Mail last year. In the meantime, he has taken steps in recent years to scale back the government's exposure to mortgage insurance. Those include capping the amount of insurance that CMHC can have outstanding at $600-billion, restricting the ability of banks to buy bulk insurance to reduce their capital requirements, curtailing the use of government-backed insurance in securities sold to the private sector, and changing the basic rules governing which loans are eligible for mortgage insurance (including cutting the maximum amortization of an insured loan from 30 years to 20, and eliminating insurance on homes that cost more than $1-million).

Mortgage insurers pay off mortgages to banks in instances when consumers default. Banks are therefore more likely to lend when they can insure them, because they know they will recoup their money in cases of defaults. About 60 per cent of Canadian residential mortgages have some form of third-party insurance, estimates Peter Routledge, director of equity research at National Bank Financial.

The Washington-based IMF still sees Canada's housing market as overvalued by about 5 to 10 per cent nationally. But it said measures to cool the market mean construction activity and house price appreciation have converged "to more sustainable trends."

Like the Bank of Canada, it sees no rush to hike interest rates with little inflationary threats on the horizon. "We think there's room for the [central] bank to wait and see," Mr. Cardarelli said. Given low inflation "you may want to err in the direction of keeping monetary policy more accommodative for longer."