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Abstract

Memo to Mrs. Malone The chairman of Liberty Media, John Malone, let it drop in a July 12 interview with The Wall Street Journal that his wife had moved her cash to Canada and Australia and that he himself was none too happy with the drift of things in the United States. "Canada," said Malone, "has a lot more fiscal and bank responsibility than most places in the world and lots of natural resources." Should worse come to worse in America, he added, his wife and he could slip across the border from Maine to Quebec without necessarily introducing themselves to the customs or immigration authorities on the way. "We own 18 miles on the border, so we can cross. . . . Actually, our snowmobile trail goes right on the border." That the Malones might, after all, choose to stay home with their money is the thesis of this unfolding essay. House prices are, or have been, almost bubbly north of the 49th parallel, and Canadian mortgage finance has evolved into something almost American. North, south, east or west, ultra-low Interest rates distort asset prices and seduce otherwise prudent people, even the safe-and-sane Canadians. Maybe the place to deposit one's cash is a country in which a housing bubble has already popped, rather than one--Canada, for instance--in which it is just beginning to deflate. Unusually in the so-called developed world, the Canadian residential real estate market put in a strong showing in 2009. At the March 2010 reading, prices were up 17.7%, year-over-year, and stood comfortably above the pre-crisis peak. But the pace of sales has cooled and prices, too, have begun to flatten. In white-hot Vancouver, June sales declined by 5.8% from May, while prices have sagged 2% from April's record high. Rumor has it that the slowdown is continuing in July. Nationwide, sales declined by 8.2% between May and June, and price growth appears to have stopped. In fact, the Canadian Real Estate Association now expects average prices to rise by just 1.6% in 2010 and fall by 2.2% in 2011. "As bullish as we are on Canada," said the issue of Grant's dated June 11, "we would have to reconsider if [the] modest expected rise [in house prices] turned into a drastic unexpected fall." We have decided not to wait for the hypothetical spill but to warn of its potential arrival. Even slightly higher Interest rates could speed the day. Nine months ago, the International Monetary Fund produced a study that documented just how far was up in Canadian real estate. As of mid-2009, concluded the IMF author, Evridiki Tsounta, prices relative to income were 15% above the post-1970 Canadian average; in America, even in the bubble years, the price/income relationship never rose by more than 11% above its long-term average. Compared to rents, observed Tsounta, "Canadian house prices also continue to be above their historical average by around 60%--twice the U.S. comparator." Indeed, on a price-to-rent basis, Canada's residential real estate market stacked up as the world's most overvalued. On the one hand, the IMF numbers are a year old. On the other, Canadian prices have kept right on going up. Low Interest rates have been instrumental in pushing them higher. Though Canada did not borrow and speculate itself into anything like the mess that its southern neighbor did, it has enjoyed the monetary consequences of America's hangover. Since July 2009, the Canadian economy has added 403,000 jobs--the equivalent of 3.3 million in the 11 times' larger U.S. economy--which is one reason why the Bank of Canada nudged up its intervention rate again on Tuesday by 0.25%, to 0.75%. "Housing activity is declining markedly from high levels, consistent with the Bank's view that policy stimulus resulted in household expenditures being brought forward into late 2009 and early 2010," the accompanying press release said. It was passing strange, we thought, that the Montreal futures market had been steadily pricing in smaller rate hikes over the past month or so in the face of these glad employment tidings. But the boys and girls in the pits had a bead on the future after all. The Bank of Canada's downwardly revised GDP forecasts released on Tuesday rewarded the bond bulls. So Canadians are privileged to dwell in what the average American would regard as a kind of paradise (except, maybe, for the weather): vibrant employment growth coupled with near record-low Interest rates. And yet, this being not heaven but North America, there is a fly in the ointment. Affordable, mortgage rates may be--a renewable five-year loan from the Royal Bank of Canada is offered at 4.39%, a discount to the posted rate of 5.79%.Not so houses. The median Canadian house is, in fact, certifiably unaffordable. Since 1985, according to data compiled by the Royal Bank, the all-in cost of owning a house has consumed an average of 38.8% of median Canadian household income. Costs encompass taxes and utilities as well as debt service (the calculation uses a 25% down payment and a 25-years-to-maturity mortgage with interest fixed for five years). Today, a typical house, priced at C$324,600, eats up 41% of median income, while in the priciest market, Vancouver, the ratio of payments to median income is 73.4%. On the other side of the country in Toronto, the cost is 49.1% of median income. Vancouver has always been expensive, but the current affordability ratio is nearly the highest on record, trailing only 2008, when Interest rates were higher. Toronto was more unaffordable in the late 1980s and early 1990s, after which followed a more than 25% slump in house prices (nearly 40% in real terms) that lasted for most of a decade. Does this jar a little with the American stereotype of the super-solvent Canadian? "The household debt-to-income ratio has remained on an upward trend in Canada, as debt accumulation continues to outpace the growth in disposable income," the Bank of Canada reported in June. "In contrast, this ratio has either stabilized or declined in several other developed ...

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