Threats remain for Canada’s financial system, warns BoC

OTTAWA — Canada’s housing market appears set for a soft landing, but there are still-elevated threats to our financial system — from within and from abroad — that could push it off course.

“Household imbalances remain the most important vulnerability and could amplify the impact of external shocks,” the Bank of Canada warned Thursday.

The good news is that risks of a major crisis in Canada’s banking sector do not appear to be getting any larger, according to the central bank’s semi-annual Financial System Review.

Bank governor Stephen Poloz said topping the list of “vulnerabilities” is the housing market.

“Stretched valuations and some signs of overbuilding would expose the financial system to a sharp correction in house prices.

Another major threat is the high household debt loads of Canadians, which leaves them vulnerable to an unemployment shock or a sharp rise in interest rates,” he said, along with “our exposure to sizable potential external shocks” — such as global commodity prices.

In general, the central bank maintains our financial system “remains robust.”

“Canadian banks are well capitalized, financial markets are functioning well and financial market infrastructures are supporting core financial market activities,” the bank’s review noted.

But vulnerabilities still exist, most of them wellflagged since the financial crisis and global recession.

Poloz attempted to add some context to how Canada arrived at the current housing climate, which was aided by record-low lending rates by major central banks — and passed on by commercial lenders — that encouraged spending coming out of the downturn.

“We went through this very sizable global economic downturn. And when you put interest rates as low as you can put them, you’re hoping for a response from the economy,” he said.

Poloz said that response wasn’t going to come from businesses investing when there’s a collapse in demand. “It’s going to come from the household sector. So, stronger housing and stronger consumption is exactly what we were hoping to achieve.”

Carolyn Wilkins, the BoC’s new senior deputy bank governor, said that “when we look at the data, we can see that there are a number of factors that support our overall view that there will be a soft landing.”