Canada’s household debt grew almost twice as fast as its economy, due largely to its addiction to housing. The country’s household debt to gross domestic product (GDP) made a sharp increase in Q3 2020. A little household debt to drive growth is normal, but the country is embracing it to the extreme. Canada’s ratio of household debt to GDP now dwarfs that of its advanced economic peers.
Household Debt To GDP
The ratio of household debt to GDP helps give context to the size of debt relative to the economy. If the ratio rises, it means debt is growing faster than GDP. This indicates debt is behind economic growth. If the ratio falls, it means the economy is growing faster than debt. This indicates the real economy is growing, and not just buying future growth.
US Federal Reserve researchers found rising ratios have long-term negative consequences. According to their research, a rise in household debt to GDP leads to about a year of GDP growth. The trade off is for every 1 point increase in the ratio, long-term GDP growth falls 0.1 points.
The ratio gets worse as the debt level gets higher. After household debt to GDP reaches 70%, the drag can increase by up to 3x. This results in a spiral. More debt means lower growth. The lack of growth leads poorly managed economies to try and get people to borrow more. Each iteration of this cycle requires more government and household stimulus to continue.
It also requires more and more debt, for smaller and smaller growth. It’s the economic equivalent of borrowing from a payday lender, to pay your credit card bill. It works a few times, but it’s not a long-term fix. In fact, persistent use can make things a lot worse down the road.
Canada’s Household Debt To GDP One of The Largest In The World
Canada’s household debt to GDP is one of the fastest growing in the world, falling into a textbook trap. Household debt to GDP was 110.4% in Q3 2020, having increased 16.6 points over the past 10 years. Over the past 20 years, the ratio increased almost 49.2 points. Debt grew an average of 80% faster than GDP for two whole decades.
Compared to the US, the divergence is unusually large — but hasn’t always been. The ratio of household debt to GDP is 78.0% in Q3 2020, about 32.4 points lower than Canada. Only 10 years ago, around the Great Recession, Canada was only 1.2 points higher than the US. Two decades ago, in the year 2000, Canada’s ratio was actually 9 points lower than the US. This is far from a long-term trend that’s persisted. In fact, it’s only been like this for less than a decade.
Canadian Household Debt To GDPThe household debt to GDP ratio for Canada and the US. Source: National statistics, Better Dwelling.
Canadian Household Debt To GDP Higher Than Its Advanced Economy Peers
Canada’s household debt to GDP ratio is also much higher than its advanced economy peers. The UK is the second highest ratio in the G7, at 88.9% in Q3 2020 — a full 21.5 points lower than Canada. The BIS aggregate of advanced economies is 34.7 points lower than Canada. Even the EU, where negative interest rates are stimulating credit growth, is 48.9 points lower than Canada’s ratio. To say Canada has been leaning on sloppy economic growth is an understatement.
G7 Household Debt To GDPThe Q3 household debt to GDP ratio for G7 countries, as well as the G7, Euro area, Advanced Economies, and Emerging Market aggregates. Source: National statistics, Better Dwelling.
Canada’s Ratio Grew Faster Than Emerging Economies
To really put this in context, let’s compare how Canada fares with the world’s emerging economies. Emerging economies often see this ratio rise very quickly, due to their stage. They’re shifting from a low credit economy, to one where it’s widely available. The leverage is mostly used to increase consumption of goods, increasing employment. This leads to a short-term boom, which levels off as they become more advanced economies.
Global Household Debt To GDP ChangeThe point change in household debt to GDP from Q3 2000 to Q3 2020. Source: National statistics, Better Dwelling.
In a highly unusual situation, Canada is dwarfing the kind of growth seen in emerging markets. The BIS emerging markets average has a household debt to GDP ratio of 64.7% in Q3 2020. This is up 45.7 points from 20 years ago. Canada grew 49.2 points over the same length of time. Trading off as many points of GDP as emerging economies, which have double the GDP growth to lose.
Despite Canada acting like an emerging market, this rise isn’t actually creating much economic capacity. Dollars sunk into business development are now fewer than those going to residential real estate. This debt is almost exclusively being used to bid up the price of housing being sold back and forth.
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