Big Lenders Resilient in Housing Crash Test, Bank of Canada Says

(Bloomberg) -- Canada’s six biggest lenders would absorb losses from a housing crash in Vancouver and Toronto without falling short on their minimum required capital reserves, a central bank study found.

Bank of Canada researchers ran a simulation where home prices dropped 20 percent nationwide, and found cumulative earnings at the biggest lenders would be 14 percent lower over three years compared with the economy’s “base case” performance.

“The financial system remains highly resilient,” Senior Deputy Governor Carolyn Wilkins told reporters at a presentation Wednesday in Ottawa to unveil a new web portal for financial-market information. “It’s important to analyze this kind of hypothetical risk scenario.”

Key Insights

  • Average credit losses by banks would be C$24 billion ($18 billion) higher in the “risk scenario” than in the “base case,” with average loss rate still lower than during the 2008 recession. The biggest banks would still have “substantial earnings” cushioned by international diversification
  • The most important damage would be higher household and business default rates, and there would be “moderate additional losses” in bank trading books. The simulation showed no additional “liquidity stress beyond a moderate increase in bank funding costs”
  • “In both the base case and the risk scenario, capital grows in absolute terms due to the continued positive income and moderate credit losses. Bank capital ratios would therefore remain above regulatory requirements”
  • Mortgage default rates would rise but “remain low in absolute terms.” About half of mortgages held by banks are protected by mortgage default insurance

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