A new report this week by CIBC warns that if the Bank of Canada hikes interest rates next year, it could “prove to be overkill” for households who are already increasingly filing insolvencies due to unmanageable debt.
Personal insolvencies reached a 10-year high in October, according to the Office of the Superintendent of Bankruptcy (OSB). And even with a fairly low unemployment rate, household debt is on the rise.
According to the CIBC report, which was co-authored by CIBC Capital Markets’ deputy chief economist Benjamin Tal and chief economist Avery Shenfeld, much of that debt stems from things like secured and unsecured lines of credit.
Households have been moving their debt from credit cards over to lines of credit in order to save on interest, but then began to feel the pinch when the Bank of Canada hiked rates to 1.75% in 2018 and, as a result, the interest rates on unsecured lines of credit also rose.
“It’s the performance of non-mortgage consumer debt that is the canary in the coal mine we need to watch for turning points in the credit cycle,” the report stated.
“If raising the overnight rate to only 1.75% could set off a climb in insolvencies, before any major job losses have been seen, it’s clear that taking rates to anywhere near what was historically neutral… could prove to be overkill.”
The Bank of Canada has been on a hike hiatus for the last year, holding the overnight interest rate at 1.75% since last October.
Bank of Canada Governor Stephen Poloz has maintained a cautiously optimistic tone throughout much of the year, and has been careful not to add to the squeeze Canadians are feeling.
The slightly good news, according to the report, is that much of the insolvencies households are filing are consumer proposals, which is an agreement to restructure debt and come up with a formal repayment plan agreed upon by all creditors, rather than claim outright bankruptcy.
It’s also semi-hopeful that when it comes to mortgage debt, Canadians continue to be fairly well-behaved. Arrears rates are low, the report stated, and households “put a priority on keeping their mortgage debt serviced and let the credit card or other loans fall behind.”
Still, despite a dovish year, many economists have predicted that a Bank of Canada rate hike could still come in 2020. And if it does, it could have major consequences on household insolvencies.
“This is something that the Bank of Canada has to look at very, very closely because as a society we are much more sensitive to the risk of higher interest rates,” Tal told BNN Bloomberg on Wednesday.
“The impact of interest rates is asymmetrical: lower interest rates cannot lift you, but higher interest rates can kill you even with the unemployment rate in the basement.”