Consumer Credit Reaches Record Levels - Cause for Concern, Not Panic

Canadian households are saddled with unprecedented amounts of debt through bank loans, credit cards and lines of credit, according to a report released today by the C.D. Howe Institute. In The Rise in Consumer Credit and Bankruptcy: Cause for Concern?, author James MacGee finds that debt levels associated with consumer credit are higher than at any point in recent history, and are now higher than those of American households. This raises concerns about the sustainability of household finances, the risks to the broader economy and the merits of government intervention, he says. "At present, there is no cause for panic," says MacGee, "but there are warning signs in the numbers that are reason for concern, and merit close watching."

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While recent debates have largely focused on the housing market and on the risks associated with household mortgage debt, MacGee looks more specifically at consumer credit - auto loans, credit card debt, and lines of credit - and personal bankruptcies. Consumer credit accounts for roughly 45 percent of total household interest payments, he notes, and often offers variable interest rates, leaving borrowers more vulnerable to higher interest rates. Further, the rapid expansion of new consumer credit products, especially home equity lines of credit, raises real concerns about whether lenders and borrowers have been overly optimistic. While the recent US experience highlights the risks of overextended consumers, more prudent lending standards in Canada suggest that, under likely scenarios, consumer debt levels should remain manageable. Nonetheless, these high levels of debt leave Canadian consumers vulnerable to large economic shocks - notably a sharp rise in interest rates or an economic downturn. MacGee says lenders and regulators need to (i) evaluate carefully whether current capital levels of financial institutions are sufficient to guard against these risks; (ii) gather better and more detailed data to paint a more complete picture of these risks; and (iii) ensure that regulations related to household credit are appropriate and consistent over the business cycle, rather than constantly attempting countercyclical regulation. MacGee emphasizes the need for continued efforts to improve financial literacy and simplify the disclosure of credit contracts, to help consumers make informed borrowing choices.