Wednesday, April 28, 2010

The Cost of Housing and Jim Flaherty

As mortgages rates rise, Canadians should think of Jim Flaherty and the Conservatives.

After all, it was the Conservatives who extended the mortgage amortization period from 25 years to 40 years, reduced the needed down payment on second properties from 20% to 5% and allowed for 0 down on one's primary residence.

The Conservatives said their actions would promote home ownership. Theoretically this is true. Given growing consumer debt levels and the ever growing number of Canadians without pensions allowing Canadians to forgo a down payment and to take on a longer term mortgage was not exactly sound public policy, but on paper doing so should have freed up more people to buy. As the Toronto Star pointed out, longer amortization periods held out the promise of lower payments.

"Let's look at some numbers to prove the point, using a mortgage of $350,000 at an interest rate of 6.45 per cent, which was recently the posted rate at Scotiabank for a five-year term.

Paid back over 40 years, the weekly payment would be $465 and the total interest cost $597,000 – much higher than the value of the mortgage itself. That pushes the total cost of buying your house close to $1 million.

Shrink the payback to 25 years and the weekly payment rises to $538, but the total interest falls to $343,000, slightly less than the value of the mortgage."

The problem was that the prospect of lower payments was wiped out by the fact that the effect of such mortgage "innovation" was to heat up an already red hot housing market. Oh well, at least those who might have taken on a 25 year mortgage had prices not gone completely berserk since 2006, can console themselves with this; they pay less each month on their 35 year mortgage then they would on 25 year mortgage. With interest rates about to rise that really means something in the short term. All it cost in the long term was hundreds of thousands of dollars.

Since the crash, Flaherty has reduced the amortization period to 35 years, mandated 5% down payment on primary residences and again manadated that 20% be put down on second priorties. Flaherty had the chutzpah to claim these actions prudent, but what he did was akin to peeing on the rug and then to try to make amends by leaving it out in the hot sun to dry. The rug will dry, but the stink remains.

1 comment:

gingercat said...

The 0/40 were the stupidest things that the Conservatives ever did. You should extend terms and lower down payments to stimulate a slow moving economy, not do it when the economy is going along smoothly. The Conservatives management on this issue has caused rapid increase in housing costs. Regardless that they now have tightened the requirements, they had in fact created the problem they are now trying to fix. How the Conservatives can say they are strong economic managers just boggles the mind.