The mortgage stress test caused a $15-billion decline in new Canadian mortgages

By: Lisa Coxon on April 16, 2019

CIBC World Market Inc.’s deputy chief economist, Benjamin Tal, said Tuesday that the mortgage stress test is responsible for as much as a $15-billion drop in Canada’s residential mortgage market last year.

In his report, Tal says that the mortgage stress test (introduced in early 2018 by the Office of the Superintendent of Financial Institutions as a means to slow residential mortgage borrowing), was the primary reason for an 8% decline in new mortgages in Canada last year over 2017, or roughly $25 billion in lending.

Tal estimated that the stress test was responsible for 50 to 60% of that decline — so, roughly $13 billion to $15 billion.

The other main factors contributing to the drop in new mortgages are rising interest rates and unaffordable housing markets such as Toronto and Vancouver.

The stress test — also known as B-20 — came into effect on Jan. 1, 2018, with the goal of tightening mortgage lending by requiring homebuyers to pass a “test” to see if they could financially handle a mortgage at the bank’s five-year posted mortgage rate or two percentage points higher than the mortgage rate they’re being offered — whichever is higher.

For example, if the five-year fixed rate is 3.5%, you actually need to qualify at 5.5%. This has caused and continues to cause many homebuyers to fail qualifying for a mortgage.

While Tal’s findings denote that the stress test has done its job in slowing mortgage lending, they come with a caveat.

Mortgage origination growth started to slow “well before” the mortgage stress test was introduced, according to Tal’s report. “In fact,” he writes, “originations hardly grew at all during 2017. So, B-20 was imposed on a market that was already on a slowing trajectory.”

Another intention of the stress test was to raise the quality of mortgages being lent. In other words, lend to people with higher credit scores. Tal’s findings suggest that it has achieved that.

More than 52% of mortgage originations by traditional lenders right now are considered “high quality” (i.e. mortgages lent to borrowers with a credit score of higher than 751). That 52% is a record-high number.

But again, a caveat. The increase in high-quality mortgages was also happening before the stress test was implemented, so it can’t take all the glory.

“The 21 policy changes related to residential mortgage lending introduced by governments and regulators over the past decade played a significant role in improving overall credit quality in the Canadian market,” writes Tal. “B-20 was introduced to an already healthy credit market.”

Some other experts, including the Toronto Real Estate Board, have argued that the stress test did its job, but would now benefit from revisions, since many homebuyers continue to be locked out of the mortgage market altogether as a result of the strict requirements.

“...There was a need to save some Canadian borrowers from themselves,” writes Tal. “But is 200 basis points the right number? At the end of the day, there is no real science behind that number… since then, the Bank of Canada has hiked rates by 75 basis points, and the five-year mortgage rate has risen by 35 basis points.”

“I’m not saying to kill B-20 by any stretch of the imagination,” Tal told the Globe and Mail in an interview. “I’m just saying it should be a bit more flexible, and more dynamic, to reflect market conditions.”