At the 2024 Global Risk Institute Annual Summit, Superintendent Peter Routledge participated in a fireside chat with Sonia Baxendale, President and CEO of the Global Risk Institute. During the discussion, Routledge offered insights into the challenges and evolving strategies of Canada’s mortgage regulatory framework, specifically addressing the Mortgage Qualifying Rate (MQR) and its effectiveness in the current market environment.
The Challenges with the Mortgage Qualifying Rate (MQR)
Routledge identified two significant challenges associated with the MQR, a critical tool that aims to maintain financial stability in the housing market. The first challenge is its limited effectiveness in curbing the growth of mortgages with high loan-to-income ratios. Routledge explained that despite the MQR’s existence, there has been a substantial buildup of mortgages where the loan amount exceeds 450% of the borrower’s income. This issue became particularly evident during the COVID-19 period when a significant number of highly leveraged borrowers opted for variable rate mortgages with fixed payment components.
This concentration of high-risk mortgages is seen as a manageable but serious risk that OSFI must address to prevent potential market instability.
The second challenge Routledge pointed out is related to how the MQR is perceived and implemented. He explained that because the MQR is enforced at the institution-to-borrower level, many Canadians feel like they are being regulated directly by OSFI, even though OSFI’s mandate is to regulate financial institutions, not individual Canadians. This perception creates tension and confusion among borrowers, which Routledge acknowledged as a hurdle for the current regulatory framework.
Introducing the Loan-to-Income Test: A Tailored Approach
In response to these challenges, OSFI is exploring alternatives and complementary measures to the MQR. One such measure is the loan-to-income test, which Routledge detailed during the chat. This approach sets a limit, allowing lenders to allocate only 15% of their mortgages each quarter to borrowers with loan-to-income ratios exceeding 450%. By capping the percentage of high loan-to-income mortgages, this strategy aims to curb risk concentration within financial institutions.
Routledge highlighted the effectiveness of this measure as a “very effective ceiling” that prevents the buildup of risk associated with high debt levels relative to income. However, he emphasized that a one-size-fits-all approach won’t work. Instead, OSFI plans to implement the loan-to-income test on a bespoke model, tailoring the ceiling for each institution based on its business model and risk profile. This individualized calibration allows for greater flexibility and precision in mitigating risk.
A Year of Testing and Evaluation
OSFI’s next step involves a year-long testing period for the loan-to-income approach. Routledge stated that this testing phase will allow the regulator to “tighten or loosen the bolts” as necessary, ensuring the policy is as effective and efficient as possible. The goal is to determine whether this new measure can serve as a legitimate alternative or complement to the MQR.
Routledge stressed that any decision on implementing the loan-to-income test will be made only after a thorough evaluation period to ensure that OSFI’s actions align with its commitment to safeguarding Canada’s financial system. He underscored the importance of getting it right, stating that OSFI will only move forward with this policy after it is confident in its effectiveness.
A Shift in Regulatory Strategy
Routledge’s insights highlight a shift in OSFI’s regulatory approach, moving towards customized and dynamic models rather than blanket policies. By calibrating policies based on individual institutions and their specific business models, OSFI aims to be proactive in managing risk while maintaining the stability of Canada’s mortgage market. This flexible approach not only helps address the limitations of the MQR but also aligns with OSFI’s mission to regulate institutions without imposing undue burdens on Canadian borrowers.
Final Thoughts
The fireside chat provided a candid look at the evolving strategies of Canada’s banking regulator. As OSFI continues to test and refine new measures like the loan-to-income test, borrowers and lenders alike should stay informed about potential regulatory changes that could impact their mortgage options. The year-long testing period for this new approach demonstrates OSFI’s commitment to adapting its strategies based on real-world data and feedback, ensuring that any new policy effectively supports the stability of Canada’s housing market.
As always, OSFI’s primary goal is to safeguard Canada’s financial system, and these proactive measures are part of that ongoing effort. The insights shared by Routledge are a reminder that regulatory changes are on the horizon, and they may bring new opportunities and challenges for borrowers and lenders alike.
P.S. IF you’d like to check out the full Fireside Chat, you can find it here: