Given their high debt loads and rising interest rates, Canadian households are increasingly susceptible to an economic slump — a prospect that also poses an increasing risk to the big banks, warns Moody’s Investors Service in a new report.
According to the rating agency, even as consumer debt levels appear stable and unemployment remains very low, Canadian households are seeing their debt service costs rise due to higher interest rates. Moody’s reported that the proportion of disposable income that is being eaten up by debt repayment reached 14.5% in the fourth quarter of 2018, which is up from 13.7% five years ago.
“A number of provincial and federal policy initiatives have helped to temper growth in housing prices and to curb residential mortgage loan growth, but interest rates continue to drive mortgage payments higher,” said Jason Mercer, vice-president at Moody’s.
As a result, the firm said the risks to banks are rising too. For instance, Mercer said, “the proportion of uninsured mortgages continues to rise, shifting the risk of mortgage default to the banks from the government.”
Moody’s also noted that average auto loan terms have increased to almost six years. “While loan asset quality remains strong, with delinquency rates below the 24-month average, longer loan terms increase consumers’ negative equity, reducing the amount of collateral a bank can collect at default,” it said.
Similarly, credit card loan quality remains strong, Moody’s reported. “However, any increase in unemployment leading to a rise in defaults would equate to higher losses for banks given the unsecured nature of the loans,” the rating agency noted.