OTTAWA - The Bank of Canada continues to warn that the high level of household debt and overvalued real estate in this country have left the economy vulnerable if a financial shock erupts in Europe.

"Markets in Canada have been relatively stable ... nevertheless, a further significant deterioration in global financial conditions could have a considerable impact in Canada through trade, financial and confidence channels," the bank said Thursday its semi-annual financial systems review.

In fact, the bank says the spillover effects on Canada's financial institutions, such as banks, "would be substantial."

While the report does not attempt to place odds on the chance of a Europe-centred shock, it judges the risks as "very high," or the top level in its scale.

The dire warning — not altogether unexpected from the central bank given renewed turbulence in Europe, including a possibility that Greece will exit the euro currency zone after Sunday's elections — gives some urgency to the G20 summit of leaders in Mexico next week, where Europe will be the main topic.

In Ottawa on Thursday, Finance Minister Jim Flaherty said non-European countries in the G20 need to keep up the pressure on the Europeans to put up sufficient money to "overwhelm" the problem.

In reference to yet another idea being floated — guarantee of bank deposits in Europe — he said the manner of the solution was up to the eurozone.

"It is important that we and the United States as well, and the other non-European G20 countries, continue to exert pressure on the eurozone countries to deal with this matter because it can have unfortunate consequences for the global economy," he said.

The Bank of Canada report leaves little doubt if the problem is not contained in Europe, Canada would suffer.

In fact, the central bank suggests households here may be in worse position for another shock now than they were in 2008, when the collapse of a prominent U.S. investment banker sparked a cash crunch and recession.

Since that time, the report said, consumers have taken on significant amounts of new debt and real estate prices are also at record highs.

In its financial system review identifying risks to the economy, the bank noted certain segments of the housing market that have a persistent oversupply — such as condos in Toronto — face a higher risk of a price correction.

Using a hypothetical stress test, the bank says a three per cent increase in unemployment — about the same as occurred in the recent recession — would almost triple the proportion of indebted households that would go into arrears.

The current rate is currently about half a per cent and could rise 1.3 per cent under that scenario.

A shock would also cut into net worth of Canadians. The bank points out that 40 per cent of household worth is tied to the value of their real estate holdings, compared to only 34 per cent a decade ago.

The Bank of Canada was careful to point out it wasn't predicting a global crisis like the one in 2008, but suggested a failure in Europe could not be contained to that region.

The central bank concluded that the risks of a European financial meltdown that could ripple around the world have returned to the elevated levels of last December.

"The key risks to financial stability are highly interdependent and mutually reinforcing," it states.

"If the sovereign debt crisis in Europe continues to intensify, it would further weaken global economic growth and prompt a general retrenchment from risk. In turn the weaker global outlook would fuel sovereign fiscal strains and impair the credit quality of loan portfolios.

"Together, these factors would increase the probability of an adverse shock to the income of wealth of Canadian households."

As well, the diminished prospects for economic growth likely lead to a continuation of rock-bottom interest rates in Canada, which would further erode the positions of life insurance companies, pension plans and boost household borrowing.

Economists call the mechanism a "negative feedback-loop," and what the central bank is describing is almost identical to what occurred after 2008, when the world was plunged into the worst recession since the Great Depression.

In Canada, the slump was mitigated by a sound banking system and strong government fiscal positions that allowed Ottawa and the provinces to inject about $60 billion of stimulus into the economy.

Still, about 430,000 jobs were lost and Canada's gross domestic product fell by more than three per cent. Some sectors of the economy, in particular manufacturing, have still to recover fully.

The bank's shock test shows that in some ways Canadians are in a more precarious position today than they were in 2008.

At the time, households in arrears also doubled, but from less than 0.3 per cent to about 0.6 per cent. Now they would almost triple to 1.3 per cent and from a higher starting point, given the record levels of debt.

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  • Canadian Household Debt By Region

  • 6. Atlantic Canada: $69,300

    Number represents the average among those households that carry debt. Source: <a href="http://www.statcan.gc.ca/pub/75-001-x/2012002/article/11636-eng.pdf" target="_hplink">Statistics Canada</a>

  • 5. Quebec: $78,900

    Number represents the average among those households that carry debt. Source: <a href="http://www.statcan.gc.ca/pub/75-001-x/2012002/article/11636-eng.pdf" target="_hplink">Statistics Canada</a>

  • 4. Manitoba & Saskatchewan: $84,900

    Number represents the average among those households that carry debt. Source: <a href="http://www.statcan.gc.ca/pub/75-001-x/2012002/article/11636-eng.pdf" target="_hplink">Statistics Canada</a>

  • 3. Ontario: $124,700

    Number represents the average among those households that carry debt. Source: <a href="http://www.statcan.gc.ca/pub/75-001-x/2012002/article/11636-eng.pdf" target="_hplink">Statistics Canada</a>

  • 2. British Columbia: $155,500

    Number represents the average among those households that carry debt. Source: <a href="http://www.statcan.gc.ca/pub/75-001-x/2012002/article/11636-eng.pdf" target="_hplink">Statistics Canada</a>

  • 1. Alberta: $157,700

    Number represents the average among those households that carry debt. Source: <a href="http://www.statcan.gc.ca/pub/75-001-x/2012002/article/11636-eng.pdf" target="_hplink">Statistics Canada</a>

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    THE 10 COUNTRIES DEEPEST IN DEBT

  • 10. United Kingdom

    <strong>Debt as a percentage of GDP:</strong> 80.9 percent <strong>General government debt:</strong> $1.99 trillion <strong>GDP per capita (PPP):</strong> $35,860 <strong>Nominal GDP:</strong> $2.46 trillion <strong>Unemployment rate:</strong> 8.4 percent <strong>Credit rating:</strong> Aaa Although the UK has one of the largest debt-to-GDP ratios among developed nations, it has managed to keep its economy relatively stable. The UK is not part of the eurozone and has its own independent central bank. The UK's independence has helped protect it from being engulfed in the European debt crisis. Government bond yields have remained low. The country also has retained its Aaa credit rating, reflecting its secure financial standing. <a href="http://247wallst.com/2012/02/14/the-tencountries-deepest-in-debt/#ixzz1mSdyJAeo" target="_hplink">Read more at 24/7 Wall St.</a>

  • 9. Germany

    <strong>Debt as a percentage of GDP:</strong> 81.8 percent <strong>General government debt:</strong> $2.79 trillion <strong>GDP per capita (PPP):</strong> $37,591 <strong>Nominal GDP:</strong> $3.56 trillion <strong>Unemployment rate:</strong> 5.5 percent <strong>Credit rating:</strong> Aaa As the largest economy and financial stronghold of the EU, Germany has the most interest in maintaining debt stability for itself and the entire eurozone. In 2010, when Greece was on the verge of defaulting on its debt, the IMF and EU were forced to implement a 45 billion euro bailout package. A good portion of the bill was footed by Germany. The country has a perfect credit rating and an unemployment rate of just 5.5 percent, one of the lowest in Europe. Despite its relatively strong economy, Germany will have one of the largest debt-to-GDP ratios among developed nations of 81.8 percent, according to Moody's projections. <a href="http://247wallst.com/2012/02/14/the-tencountries-deepest-in-debt/#ixzz1mSdyJAeo" target="_hplink">Read more at 24/7 Wall St.</a>

  • 8. France

    <strong>Debt as a percentage of GDP:</strong> 85.4 percent <strong>General government debt:</strong> $2.26 trillion <strong>GDP per capita (PPP):</strong> $33,820 <strong>Nominal GDP:</strong> $2.76 trillion <strong>Unemployment rate:</strong> 9.9 percent <strong>Credit rating:</strong> Aaa France is the third-biggest economy in the EU, with a GDP of $2.76 trillion, just shy of the UK's $2.46 trillion. In January, after being long-considered one of the more economically stable countries, Standard & Poor's downgraded French sovereign debt from a perfect AAA to AA+. This came at the same time eight other euro nations, including Spain, Portugal and Italy, were also downgraded. S&P's action represented a serious blow to the government, which had been claiming its economy as stable as the UK's. Moody's still rates the country at Aaa, the highest rating, but changed the country's outlook to negative on Monday. <a href="http://247wallst.com/2012/02/14/the-tencountries-deepest-in-debt/#ixzz1mSdyJAeo" target="_hplink">Read more at 24/7 Wall St.</a>

  • 7. United States

    <strong>Debt as a percentage of GDP:</strong> 85.5 percent <strong>General government debt:</strong> $12.8 trillion <strong>GDP per capita (PPP):</strong> $47,184 <strong>Nominal GDP:</strong> $15.13 trillion <strong>Unemployment rate:</strong> 8.3 percent <strong>Credit rating:</strong> Aaa U.S. government debt in 2001 was estimated at 45.6 percent of total GDP. By 2011, after a decade of increased government spending, U.S. debt was 85.5 percent of GDP. In 2001, U.S. government expenditure as a percent of GDP was 33.1 percent. By 2010, is was 39.1 percent. In 2005, U.S. debt was $6.4 trillion. By 2011, U.S. debt has doubled to $12.8 trillion, according to Moody's estimates. While Moody's still rates the U.S. at a perfect Aaa, last August Standard & Poor's downgraded the country from AAA to AA+. <a href="http://247wallst.com/2012/02/14/the-tencountries-deepest-in-debt/#ixzz1mSdyJAeo" target="_hplink">Read more at 24/7 Wall St.</a>

  • 6. Belgium

    <strong>Debt as a percentage of GDP:</strong> 97.2 percent <strong>General government debt:</strong> $479 billion <strong>GDP per capita (PPP):</strong> $37,448 <strong>Nominal GDP:</strong> $514 billion <strong>Unemployment rate:</strong> 7.2 percent <strong>Credit rating:</strong> Aa1 Belgium's public debt-to-GDP ratio peaked in 1993 at about 135 percent, but was subsequently reduced to about 84 percent by 2007. In just four years, the ratio has risen to nearly 95 percent. In December 2011, Moody's downgraded Belgium's local and foreign currency government bonds from Aa1 to Aa3. In its explanation of the downgrade, the rating agency cited "the growing risk to economic growth created by the need for tax hikes or spending cuts." In January of this year, the country was forced to make about $1.3 billion in spending cuts, according to The Financial Times, to avoid failing "to meet new European Union fiscal rules designed to prevent a repeat of the eurozone debt crisis." <a href="http://247wallst.com/2012/02/14/the-tencountries-deepest-in-debt/#ixzz1mSdyJAeo" target="_hplink">Read more at 24/7 Wall St.</a>

  • 5. Portugal

    <strong>Debt as a percentage of GDP:</strong> 101.6 percent <strong>General government debt:</strong> $257 billion <strong>GDP per capita (PPP):</strong> $25,575 <strong>Nominal GDP:</strong> $239 billion <strong>Unemployment rate:</strong> 13.6 percent <strong>Credit rating:</strong> Ba3 Portugal suffered greatly from the global recession -- more than many other countries -- partly because of its low GDP per capita. In 2011, the country received a $104 billion bailout from the EU and the IMF due to its large budget deficit and growing public debt. The Portuguese government now "plans to trim the budget deficit from 9.8 percent of gross domestic product in 2010 to 4.5 percent in 2012 and to the EU ceiling of 3 percent in 2013," according Business Week. The country's debt was downgraded to junk status by Moody's in July 2011 and downgraded again to Ba3 on Monday. <a href="http://247wallst.com/2012/02/14/the-tencountries-deepest-in-debt/#ixzz1mSdyJAeo" target="_hplink">Read more at 24/7 Wall St.</a>

  • 4. Ireland

    <strong>Debt as a percentage of GDP:</strong> 108.1 percent <strong>General government debt:</strong> $225 billion <strong>GDP per capita (PPP):</strong> $39,727 <strong>Nominal GDP:</strong> $217 billion <strong>Unemployment rate:</strong> 14.5 percent <strong>Credit rating:</strong> Ba1 Ireland was once the healthiest economy in the EU. In the early 2000s, it had the lowest unemployment rate of any developed industrial country. During that time, nominal GDP was growing at an average rate of roughly 10 percent each year. However, when the global economic recession hit, Ireland's economy began contracting rapidly. In 2006, the Irish government had a budget surplus of 2.9 percent of GDP. In 2010, it accrued a staggering deficit of 32.4 percent of GDP. Since 2001, Ireland's debt has increased more than 500 percent. Moody's estimates that the country's general government debt was $224 billion, well more than its GDP of $216 billion. Moody's rates Ireland's sovereign debt at Ba1, or junk status. <a href="http://247wallst.com/2012/02/14/the-tencountries-deepest-in-debt/#ixzz1mSdyJAeo" target="_hplink">Read more at 24/7 Wall St.</a>

  • 3. Italy

    <strong>Debt as a percentage of GDP:</strong> 120.5 percent <strong>General government debt:</strong> $2.54 trillion <strong>GDP per capita (PPP):</strong> $31,555 <strong>Nominal GDP:</strong> $2.2 trillion <strong>Unemployment rate:</strong> 8.9 percent <strong>Credit rating:</strong> A3 Italy's large public debt is made worse by the country's poor economic growth. In 2010, GDP grew at a sluggish 1.3 percent. This was preceded by two years of falling GDP. In December 2011, the Italian government passed an austerity package in order to lower borrowing costs. The Financial Times reports that according to consumer association Federconsumatori, the government's nearly $40 billion package of tax increases and spending cuts will cost the average household about $1,500 each year for the next three years. On Monday, Moody's downgraded Italy's credit rating to A3, from A2. <a href="http://247wallst.com/2012/02/14/the-tencountries-deepest-in-debt/#ixzz1mSdyJAeo" target="_hplink">Read more at 24/7 Wall St.</a>

  • 2. Greece

    <strong>Debt as a percentage of GDP:</strong> 168.2 percent <strong>General government debt:</strong> $489 billion <strong>GDP per capita (PPP):</strong> $28,154 <strong>Nominal GDP:</strong> $303 billion <strong>Unemployment rate:</strong> 19.2 percent <strong>Credit rating:</strong> Ca Greece became the poster child of the European financial crisis in 2009 and 2010. After it was bailed out by the rest of the EU and the IMF, it appeared that matters could not get any worse. Instead, Greece's economy has continued to unravel, prompting new austerity measures and talks of an even more serious default crisis. In 2010, Greece's debt as a percent of GDP was 143 percent. Last year, Moody's estimates Greece's debt increased to 163 percent of GDP. Greece would need a second bailout worth 130 billion euro -- the equivalent of roughly $172 billion -- in order to prevent the country from defaulting on its debt in March. <a href="http://247wallst.com/2012/02/14/the-tencountries-deepest-in-debt/#ixzz1mSdyJAeo" target="_hplink">Read more at 24/7 Wall St.</a>

  • 1. Japan

    <strong>Debt as a percentage of GDP:</strong> 233.1 percent <strong>General government debt:</strong> $13.7 trillion <strong>GDP per capita (PPP):</strong> $33,994 <strong>Nominal GDP:</strong> $5.88 trillion <strong>Unemployment rate:</strong> 4.6 percent <strong>Credit rating:</strong> Aa3 Japan's debt-to-GDP ratio of 233.1 percent is the highest among the world's developed nations by a large margin. Despite the country's massive debt, it has managed to avoid the type of economic distress affecting nations such as Greece and Portugal. This is largely due to Japan's healthy unemployment rate and population of domestic bondholders, who consistently fund Japanese government borrowing. Japanese vice minister Fumihiko Igarashi said in a speech in November 2011 that "95 percent of Japanese government bonds have been financed domestically so far, with only 5 percent held by foreigners." Prime Minister Yoshihiko Noda has proposed the doubling of Japan's 5 percent national sales tax by 2015 to help bring down the nation's debt. <a href="http://247wallst.com/2012/02/14/the-tencountries-deepest-in-debt/#ixzz1mSdyJAeo" target="_hplink">Read more at 24/7 Wall St.</a>