Changes may be coming to mortgage stress test

Homebuyers stressing over the mortgage stress test — and sellers stressed about the test’s negative effect on demand — could soon have their concerns eased. That’s because changes to the stress test may be in the works, given that the housing market is stabilizing.

“Governments now are toying with the idea of playing a little bit with that test, making it a bit easier, maybe more flexible,” said Benjamin Tal, managing director and deputy chief economist at CIBC Economics, in a Jan. 27 interview.

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Last December, Prime Minister Justin Trudeau’s mandate letter to Finance Minister Bill Morneau listed several priorities, including a review of the stress test and recommendations to make it “more dynamic.”

The stress test was expanded in 2018, when the Office of the Superintendent of Financial Institutions updated its Guideline B-20 in response to an overheated housing market. As a result of the updated guideline, new buyers with down payments of 20% or more must qualify at either the five-year benchmark rate published by the Bank of Canada or the lender interest rate plus 2% — whichever is higher. Since 2016, new buyers with less than 20% down have had to qualify at the central bank’s five-year rate.

The B-20 update was “aimed at slowing down demand for housing, and it seems that it worked,” Tal said. “The market slowed down notably in 2016, 2017 and early 2018 — until now.”

In 2017, average home price increases approached 20% year over year, noted a report by Tal last fall. That figure dropped to about 2% in November 2019. He described the correction as “healthy,” especially in pricey urban centres like Toronto and Vancouver.

Toronto’s market is now stable, and Vancouver’s is “in the ninth inning of the correction,” Tal said. As of last month, Canadian home prices had rebounded nearly 5% from the previous year’s lowest point, according to the Aggregate Composite MLS Home Price Index.

While Tal noted that home prices vary by region — Alberta’s housing market continues to suffer along with oil prices — Canada’ housing market overall has recovered from various policy measures, including B-20. “This is a market in equilibrium,” he said.

As such, he supports changes to the stress test.

“This test is not flexible enough,” he said.

“Regardless of where we are in the cycle — if interest rates are low or interest rates are high — you apply the same 200 basis points, which is suboptimal,” he said.

Further, those 200 basis points are applied to the central bank benchmark rate, which is relatively high compared to the discounted rate that homebuyers typically receive. The result: the stress test is “too much,” Tal said.

“We need to change B-20 in a way that makes it more flexible and consistent with where we are in the cycle.”

While he forecasted that regulators will ease the test, he doesn’t expect big results.

Any easing “will be positive for demand, but it will not change the way the market is operating,” he said.

That’s because demand isn’t the main reason why prices are rising. Instead, the culprit is “the lack of supply in places like Toronto, Vancouver — even Montreal,” he said.

Still, Tal said, “to the extent that the regulators will ease B-20, that will be a net positive for overall demand for housing in Canada.”

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