BUSINESS
03/16/2018 07:45 EDT | Updated 03/17/2018 09:37 EDT

No Way To Know Whether Canadians' Debt-To-Income Ratio Too High, Feds Say

Canada's household-debt-to-disposable-income ratio has been steadily rising since 1990.

THE CANADIAN PRESS/Ryan Remiorz
Credit and debit cards are displayed in Montreal, Dec. 12, 2012. With a popular measure that shows Canadians' soaring debt remains in record-breaking territory, the federal government has acknowledged internally there's no way of knowing whether the burden has climbed too high.

OTTAWA — With a popular measure that shows Canadians' soaring debt remains in record-breaking territory, the federal government has acknowledged internally there's no way of knowing whether the burden has climbed too high.

A recently released federal analysis, prepared for Finance Minister Bill Morneau, said the country's household-debt-to-disposable-income ratio has been steadily rising since 1990, when it was 90 per cent. That translates to 90 cents in debt for every dollar of household disposable income.

There is no estimate of the exact 'optimal' level of household debt.

On Thursday, the latest figures showed the ratio hit 170.4 per cent in the final three months of 2017, just below its historical peak of 170. 5 per cent the previous quarter. That's just over $1.70 in debt for every dollar of disposable income.

"While the debt ratio is high historically speaking, there is no way of precisely determining whether the current ratio is too high," said the memo, which was written last August.

"There is no estimate of the exact 'optimal' level of household debt."

The Finance Department document, labelled "secret," was obtained by The Canadian Press under the Access to Information Act.

Policy-makers keep an eye on the debt ratio, which is one of several ways experts monitor household debt, in their efforts to gauge the severity — and potential fallout — of the country's years-long borrowing binge.

The Bank of Canada, for one, has carefully assessed the economic risks of consumer debt in order to determine how quickly it can raise interest rates without piling on too many debt-servicing costs for over-stretched households. The central bank has called Canadians' debt burdens an area of top concern.

Still, in response to the stronger national economy, the bank has increased its benchmark rate three times since last summer. When the economy is close to full capacity, the bank hikes its rate to keep inflation from rising above its two per cent ideal target.

'Clear negative consequences' if number too high or too low

Even if it is uncertain where the danger zones begin for the household-debt ratio, the briefing note to Morneau said there are "clear negative consequences" for the economy if the number gets too high or too low.

High household debt can lead to "deeper and more protracted recessions," while levels too low among those who can afford it could push home-ownership rates down to sub-optimal levels, the memo said.

But the document notes that static calculations about debt fail to account for many other factors that can affect the entire picture, such as policy changes aimed at slowing debt accumulation.

"Ultimately, what drives the sustainability of debt is whether carrying it is affordable and whether the distribution of that debt poses any systemic financial risk," said the memo, which was partially redacted.

The main theme of the document was to explore likely economic impacts from the Bank of Canada's current rate-hiking path.

The memo presented two primary ways higher rates will affect the economy — they will make existing debt loads costlier to service and they will make interest-sensitive spending, like expenditures for cars, housing and business investment, more expensive.

But given expectations the central bank will take a gradual approach to raising the rate, the briefing note said the economy is likely to steadily absorb the increases.

Some analysts said the fact this week's debt-ratio reading was slightly lower than the previous number could suggest Canada's debt growth may have turned a corner.

"That should be viewed as a positive development by the (Bank of Canada), though progress on reducing the 'key vulnerability' of elevated household debt will likely be very slow," RBC economist Josh Nye wrote in a research note.

For several years, policy-makers have been introducing new regulations, such as restrictions on mortgage credit, to curb the build-up of household debt.

Chris Wattie / Reuters
Bank of Canada Governor Stephen Poloz takes part in a news conference upon the release of the Financial System Review in Ottawa, Nov. 28, 2017.

Earlier this week, Bank of Canada governor Stephen Poloz also said the federal government's steps to add to the public debt in recent years has helped slow the rise in debt accumulated by Canadians.

Poloz, who acknowledged household burdens have still managed to reach historic highs, said Ottawa's spending on programs such as enhanced child benefits and infrastructure have contributed to economic growth. As a consequence, the stimulus has pushed interest rates higher than they would have been without it, he said.

On the household-debt-to-disposable-income ratio, some experts see it as just one number out of many and insist that consideration must be given to the composition of the debt, such as how much of it is high risk.

"It's masking more than it's revealing," Benjamin Tal, CIBC's deputy chief economist, said of the ratio.

"Therefore, the fact that (Finance officials) are saying, 'there's no optimal level, we don't know if it's really very high,' suggests that at least there is some rational thinking when it comes to this ratio, which is very refreshing."

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