A recent Royal Bank study on Canadian home buying reports that "rebounding consumer confidence during the first half of 1999 signals a strong housing market for the rest of the year."

Canadian housing prices have only risen one percent on average and, according to Royal Bank economist Carlos Leitao, this factor combined with "strong pent-up demand and steady-to-improving consumer confidence resulting from favorable employment prospects all point to an active housing market in the second half of this year."

The study also found that during the first half of 1999 Canadian housing affordability declined because long-term interest rates were higher. The five-year mortgage rate had increased from an average of 6.95 percent to 7.25 percent.

In the report, the decrease in affordability was measured using the Royal Bank Housing Affordability Index, which reflects the proportion of gross household income necessary to pay the cost of financing (that is, principal and interest), property taxes and utilities. It is based on average figures for a detached bungalow, which the Royal considers a typical target home for first-time buyers. The decrease in affordability meant an increase in the Index.

During the second quarter of 1999, a rise of 0.7% from the same period in 1998 indicated that it took more income to buy a home, not surprising since interest rates rose. On a regional basis, the Index varied from a high of 39.5% in British Columbia where the economy is still recovering from the effects of the Asian downturn to a low of 25.9% in Atlantic Canada and a narrow range of 28% to 30% in the remaining provinces, where incomes and employment opportunities kept pace with house prices.

This Index is linked to the Gross Debt Service (GDS) Ratio that lenders use to qualify potential borrowers for a mortgage. Canadian lenders favor borrowers who will need only 28 to 30 percent of their gross income to pay principal, interest and taxes.

In spite of its positive tone, the Royal Bank report does not predict smooth sailing for the Canadian housing market.

Canadian economist Leitao says that the Canadian housing market may be vulnerable to slower North American growth, weak after-tax income growth and record low savings rates. However, Leitao sees the massive debt that many Canadian consumers carry -- nearly 100 percent of personal disposable income -- as the greatest threat to affordability in 2000.

Home buyers with considerable credit card debt and personal loans may not qualify for a mortgage large enough to buy the house or condominium they need. Carrying a large debt load also makes consumers vulnerable to even modest increases in interest rates.

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