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The Pros and Cons of Privatizing CMHC
Canada Mortgage and Housing Corporation (CMHC) is in the news again after Minister of Finance Jim Flaherty released the 2013 budget on Thursday March 21. New changes are coming that will, once again, limit the use of portfolio insurance by mortgage lenders.
Portfolio insurance, also known as bulk insurance, is a product which caused CMHC to eat up most of its $600-billion limit on the mortgages it insures. Anyone with less than a 20% down payment and borrowing from a financial institution regulated by the Bank Act, must purchase mortgage default insurance. Those with more than 20% do not have to buy that insurance but lenders have been purchasing it on behalf of these clients because the loans were more easily securitized with federal government backing.
CMHC, which controls about three quarters of the mortgage insurance market, is 100% backed by the federal government. The two private insurers, Canada Guaranty and Genworth Financial, control the rest of the market and are 90% backed by Ottawa. Their limit is $350-billion each.
The new rules introduced by Flaherty will gradually limit the sale of insurance on a conventional mortgage — those with more than a 20% down payment — which may cause lenders to, once again, tighten-up their mortgage approvals.
Perhaps it’s time to revisit the role of CMHC and consider privatizing the crown corporation.
For years, lenders have known that Canada Mortgage and Housing Corporation (CMHC) has had an advantage over private mortgage insurers since its policies are backed 100% by the feds, unlike the 90% guarantee given to private insurers.
In a report written in 2011 by Jane Londerville , Associate professor and Interim Chair of the Department of Marketing and Consumer Studies at the University of Guelph, who also teaches real estate finance and appraisal, has recommended privatizing the CMHC to level the playing the playing field.
“I’m not saying it’s the right answer,” Londerville said in an interview. “But if we want mortgage insurance that benefits the consumer, then we have to look at ways to make the insurance market more competitive. This would likely lead to lower mortgage insurance fees.”
Lawrence Smith, Professor Emeritus at the University of Toronto co-authored a Federal Task Force Report in 1979 that discussed the role of CMHC and if there was a case for privatizing it then. At the time, it was a radical idea, but an idea whose day may be finally coming.
“We clearly needed CMHC 60 years ago,” he said. “However, times have changed and the reasons it was created in the first place no longer exist.”
CMHC was created in 1946, and then known as Central Mortgage and Housing Corp. The mandate of CMHC was to administer the National Housing Act and the Home Improvement Loans Guarantee Act. Essentially it was created to help soldiers returning home from the war access affordable mortgages.
By the 1950s, CMHC was in the affordable public housing business. The agency’s social policy portfolio expanded, with assisted housing and assisted home-ownership programs, on-reserve housing, and green energy and conservation programs. CMHC also grew its mortgage loan insurance program by requiring those with low down payments to purchase mortgage insurance.
Finn Poschmann, vice-president of Research at the C.D. Howe Institute wrote in the Globe and Mail recently that CMHC may be doing too much – that’s its role has expanded into territories where it may not belong. He asks these questions: Why does the Crown Corporation do all of the things it does? Why aren’t social housing and related social programs part of a division of Human Resources and Skills Development Canada, where similar social programs reside? Why aren’t housing market data functions handled and financed by Statistics Canada? Why aren’t green energy programs parts of Natural Resources Canada?
With regard to mortgage insurance, Poschmann wrote, “This usually is a profitable business – people must buy the product, and to do so at the price CMHC sets. But why does the federal government hustle mortgage insurance, and not auto insurance?
Taxpayers have often raised concerns that backing mortgage insurers is risky business and can end up costing them as it did in 1979 when CMHC didn’t have enough in reserve to cover claims and needed government assistance. Since then, CMHC increased premiums and have been more cautious about maintaining its reserves.
“Having a competitive market for mortgage insurance greatly benefits home-buyers and would likely lower insurance fees,” said Londerville.
To foster a more competitive environment she recommends that CMHC be repositioned as an affiliated non-Crown public entity and ensure the government backing for this new company is equal to those terms available to private insurers. She also recommends the federal government set lending criteria.
Londerville, Smith and Poschmann all agree that CMHC should not be wound down but its role should change.
Statscan could take took over housing market data, and energy-conservation programs can migrate to other federal departments said Poschmann. CMHC’s financial market functions are already overseen by Finance and the Office of the Superintendent of Financial Institutions, which also inspects private insurers.
The mortgage insurance program, meanwhile, would be an attractive investment for a well-capitalized domestic financial institution, such as a pension fund — the Ontario Teachers’ Pension Plan already owns half of one of the private insurers, Poschammn added.
Smith said the government should consider establishing CMHC as a re-insurer rather than a primary insurer as it is now. Reinsurance is the most common risk-transfer tool used by insurers to manage risk. Private mortgage insurers use it, as does Export Development Canada, a federal Crown corporation with a significant export credit insurance business.
Reinsurance is risk-sharing between the direct insurer and the re-insurer who agree to fulfil certain obligations under certain conditions, like any legal contract. In the case of mortgage insurance, it could be agreed that if there is default up to a certain amount the re-insurer will pay the difference, thereby sharing the risk.
“There are still many questions to answer about CMHC,” said Smith. “We may not need it as it exists today — its role must be redefined.”