Canadian consumption and mortgage credit growth dragging down the economy?
Aug 03, 2019
Erik Fertsman
Credit growth is vital for any modern economy. If consumers and businesses are not spending money they don't have, then they're just not being very good contributors to the economy. That's just the way it is. Our economies are dependent on credit growth, or else we start to face deflationary situations and growth becomes difficult to achieve.
Yesterday, I wrote
about US credit growth and the situation there. Basically, commercial and industrial loans are pushing up the aggregated US loan growth statistic, but real estate, consumption, and agriculture loans have really started to weigh down on things. And this is starting to show up in the GDP numbers. Outside of agriculture, loans are still growing, but it's something to keep a close eye on moving forward. Especially now that the Fed has cut rates and has ended reverse-QE. Obviously the folks at the Fed are spooked and they're getting defensive.
For Canada, the credit numbers for June have been out for a while, but now is as good of a time as any to drop them here and get a feeler for what's going on. The bottom line: loan growth across categories is comparable to the situation in the US, but worse...
Major bank loan growth is up since last year, but GDP growth isn't following
If we look at the aggregated credit growth statistic, you might be led to believe everything is hunky dory. That is, until you plug in nominal GDP and see a pretty large divergence between total major bank asset growth and economic growth. Take a look, and pay attention to the last few years worth of data:
The first thing that comes to mind is this: when have we seen this divergence between total major asset loan growth and nominal GDP happen before? (Make sure to remember that the large spike in loan growth between October 2011 and January 2013 includes data when the banks switched over to a new accounting standard, so the data is a bit out of whack).
Well, we can see loan growth and GDP growth diverged pretty strongly after 2005, leading up to the 2008 financial crisis. One way of thinking about this period, is that these loans may have ended up getting spent on things that had little to do with GDP, and so the money may have ended up entering speculative assets and/or were spent on non-GDP-related transactions. When loan growth started to fall at the end of 2007, right at the moment when we began entering the 2008 financial crisis, it may have exacerbated the problem and didn't help GDP growth stabilize or grow. We have to remember that GDP decline is a function of dollars being spent. So, GDP decline can be seen as a spending problem.
Now, let's return to the current divergence. A similar situation may be unfolding, but it's worth remembering that looking at aggregated credit stats is not very helpful. So let's disaggregate the data a bit.
Business loan growth is propping up total loan growth, but mortgage and consumer loan growth is contracting... yikes!
Since Canada is now known as the world's biggest real estate bubble, I thought it would be worth taking a look at residential mortgage credit growth and non-mortgage credit growth, first. Here it is:
The period between 2005 and 2008 was quite different than what we have now. Both mortgage and non-mortgage growth ebbed and flowed together. But now, these two statistics are diverging. So it's probably not OK to say that the current divergence is comparable to that period. What we see now, as I've written
about before, is total mortgage credit growth slowing dramatically. This is the stuff that has been fuelling the Canadian real estate bubble, and now growth is nearing contraction levels.
Real estate makes up a huge chunk of GDP-related transactions (I'll dissect how big, exactly, in a post, soon). Clearly, slowing mortgage credit growth may be starting to show up in GDP stats. Meanwhile, non-mortgage loan growth is sky rocketing, comparable to peaks we saw just before the 2008 financial crisis. Banks must be instructing their loan departments to boost non-mortgage credit growth in Canada to make up for the shortfall in real estate lending. And based on the slope of that growth line, they must all be working overtime.
Still, mortgages and real estate are only so big, so maybe it's worth breaking down that non-mortgage credit statistic up a bit. Below, I've plotted the bank's business loan growth against GDP:
Ah, business loans to Canadian companies are growing at a huge clip. Unfortunately, it's not enough to pull GDP the other way, but it may be propping it up. One thing to note, however, is that, generally-speaking, business loan growth doesn't seem to exceed 20 percent year-over-year.
So, one thing we could project is that loan growth in this category is pretty much maxed out. I'm not sure how much more growth the banks will be able to squeeze out and hand over to businesses. Canadian companies are not facing an ideal situation right now: we have a trade-war, we're 10 years in to an economic expansion, a difficult situation in the resource sector, and still historically-high commercial rents. If mortgage growth continues to slump, when business loan growth starts to contract it may take economic growth for a hard ride south.
But wait, we haven't even talked about our ridiculously over-leveraged consumers. You know, those folks walking around with 250+ percent debt to income levels. Here's the credit stats for personal loans:
Yikes! Looking at the 20-year trend, personal loan growth for all four categories is trending toward zero. A true sign of an economy with over-leveraged consumers. Credit card and personal line of credit growth stats are historically-low and are in a technical formation that is likely to take them lower. Other forms of personal loan growth is slumping, as well, with the "other personal loans" category diving into negative territory!
One thing is for sure: if consumers can't turn the tide around, GDP is really going to struggle. Personal consumer spending is a huge part of GDP-related transactions. And as we know, consumer spending is massively fueled by debt, otherwise we wouldn't have stats showing us how consumers are highly leveraged with massive debt-to-income ratios.
Consumer credit, just like the other two major categories we looked at above, is a fairly large piece of the credit pie. To get an idea of just how large it is, I've put together this donut chart:
If you were to combine consumer and real estate loans, you get over 75 percent of the major bank asset portfolio. If you have slumping credit growth in these two categories, and know that GDP is heavily composed of real estate and consumer spending, then you have a pretty good idea where the weakness is coming from.
To make matters worse, consumer spending is not only tied to consumer loan growth, but also to mortgage credit growth. A large number of folks are using their homes as ATMs by getting reverse-mortgages and other financial products that extract wealth from their homes. They then go out into the real economy and spend that money, which, more often than not, gets recorded in GDP-related transactions.
Seeing both categories experiencing loan growth slumps at the same time not only helps explain anemic economic performance, it also makes things a bit uncomfortable. What happens if these categories continue to slump or even go into the negative. Some consumer loan growth categories are already there.
Cover image source: Ferran Fusalba Roselló
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