CIBC's Chief Economist, Avery Shenfeld, and Deputy Chief Economist, Benjamin Tal, discuss the latest trends in Canadian household credit, including rising policy rates and early signs of credit risk. They also break down the U.S. Supreme Court case on tariffs and what its outcome could mean for Canada’s trade future.
Introduction: Welcome to Eyes on the Economy by CIBC Capital Markets, a podcast series dedicated to addressing current issues in a concise format, helping to make sense of the evolving economic complexities, so that you can take action.
Avery Shenfeld: Welcome everyone to today's issue of Eyes on the Economy. I'm Avery Shenfeld, Chief Economist at CIBC, and I'm pleased to be joined by our Deputy Chief Economist, Benjamin Tal. We're going to be talking about two sets of issues, a paper by Benjamin Tal on what's happening with household credit and credit quality, and then a look that I took at the Supreme Court case in the US over tariffs, and particularly focusing on the implications for Canada. So Ben, let's get it underway. What are you seeing in terms of household credit growth in Canada and what is that telling us about the state of the economy right now?
Benjamin Tal: Yes, you know, actually not bad so far. The economy, let's face it, is in a semi-recession. Second quarter growth was negative. Third quarter growth is hardly above zero. One accident and we are in a recession. And if you look at the credit growth, it's rising by about 4, 4.5 % on a year-over-year basis, which is more or less where we were in 2019. So we'll take it. Now, it's interesting that it's not more people borrowing, simply the average loan size has risen dramatically. Basically by 50% since early 2022, 50%, a significant increase in the average loan size, which is something that we haven't seen in a long time. It's also interesting to see by age. And for the first time in a long, long time, credit growth among baby boomers that are getting older, of course, is negative. But if you look at Generation Z, it's up by 20%. So that's very significant, and it's rising even quicker over the past few months. Another factor is actually to what extent supply is playing a role here. So we look at supply versus demand and basically they're dancing to the same tune. The utilization rate at about 65% is basically very stable. So we'll take it. It's not bad given where we are in the cycle.
Avery Shenfeld: So that's certainly a positive, I guess, for the banking sector. They're not seeing a drawing up of loan demand from the household sector. But of course, the other thing that people watch when they're looking at banking stocks, but also on the economy as a whole, is what's happening to the credit quality, the performance of these household loans. What are we seeing there, given that we have seen a rise in the unemployment rate, how is that translating into defaults, delinquencies, and so on?
Benjamin Tal: Yes, exactly right, because given the fact that unemployment rate is still elevated, despite the good news that we got recently, suggest that we have to take a closer look at the delinquency rate, bankruptcies, and of course, what's happening to insolvencies. So let's look and see what makes sense and what doesn't. The first stop is insolvencies. And remember, they went down dramatically during COVID, because of course, everybody got this check from the government on a weekly basis, so nobody went under. This, of course, did not last, and we have seen a significant increase in insolvencies in the last few years. But now they're actually stabilizing. On a year over year, insolvencies are rising by basically 1 or 2%, nothing to write home about. Basically stabilizing. Now, we have to realize one thing. When we talk about insolvencies, you have to distinguish between proposals and bankruptcies. And what we are seeing, and that's something that we have seen over the past few years, is proposals are rising dramatically. Bankruptcies are falling dramatically. So the insolvencies numbers that are relatively stable now are masking two opposite directions, proposals rising, bankruptcies going down. And that's actually a good thing because it means that we have seen preemptive activity by lenders, basically calling people and say, let's go have coffee and discuss your situation. And it's, of course, much better to the system as a whole. It's much cheaper to have a proposal as opposed to bankruptcies. Another element of this preemptive activity is if you look at the 30 to 60-day delinquency bucket, basically moving, people moving from 30 to 60 days moving dramatically up. But if you look at those people between 60 and 90 days delinquency, it's actually stable. Again, there is this preemptive move by lenders saying, listen, let's try to deal with this situation before it's becoming unsustainable. And that's exactly what we're seeing. Now, if you look at the average credit score about 70, 60, much higher than it was before COVID. In fact, it went up dramatically during COVID and stayed there. But of course, it's masking a lot of information that we don't see on the average number. By the way, the show of subprime is back to 2019. Again, nothing to write on about. Now, we have to go deeper, however. And what I like to look at usually is the margins of margins where you see the most vulnerability. What I mean by that is that I look at the 30-day rate, the legacy rate in the subprime space. So margin of the margin. And it's basically rising to about 12%, 13%. This is much, much higher than it was in 2019. And therefore, this is the first signal that I see that actually things are getting worse when it comes to credit quality. Another look at credit quality must involve mortgage holders. But here, I'm not looking at mortgage activity and also mortgage delinquencies. I'm looking at the credit card delinquency and line of credit delinquency among mortgage holders. Because if they are running into trouble, they first of all will default on their line of credit card. And then they will go to the mortgage. And what we are seeing again, some signs of weakness, we'll see this rate rising above 2019 level, another reason to worry about the next year. Another factor very important and very quickly is the refinancing shock. If you remember, we were discussing it last year. Last year, we basically said it's much ado about nothing because 2025 was not the real test. 2026 is the real test. You see a situation which interest rates will be much higher for people who are renewing in 2026. And also if you look at the home prices, especially in Ontario and BC, they're actually now lower than they were in 2021, which means that if in 2025, you had the refinancing option, even if you got into trouble today, this refinancing option is actually not there anymore. Another factor that will lead to some increase in delinquencies, I think over the next year. So if you basically sum it up, the bottom line is clearly there are some early signs of difficulties and I'm not surprised by that. But the numbers are not so significant to make me worried. We believe that the unemployment rate is very close to its peak. So yes, it's going to be a story, but it's going to be more a micro story as opposed to a micro story. And my sense is that financial institutions are already ready for this situation. So that's the way I see the situation. Not worrying too much, but actually clearly something to look and focus on over the next few quarters. Let me ask you a question. We have a situation in which I think everybody agrees that one of the most surprising aspects of the Trump administration over the past year was not the volatility or the tariffs, but the lack of resistance. Nobody said no to this guy. And now we are starting to see some pockets of resistance. And here I'm talking about the Federal Appeals Court, the Senate, but of course now all eyes are on the on the Supreme Court and the decision about the tariff situation. What do think they're going to say?
Avery Shenfeld: Well, it looks based on their line of questioning that they are prepared to strike down some of the tariffs that Trump has imposed as essentially unconstitutional, as usurping Congress's power over taxation. So that would apply to the Pentinel tariff, which is set at 35% on Canadian exports that don't meet the Canada-U.S.-Mexico deal content rules or not auto steel aluminum lumber with separate tariffs as well as the reciprocal tariffs that Trump imposed on most countries other than Canada and Mexico. So it's actually directly not as important to Canada because it doesn't really tackle those sector tariffs. Those have already been tested before the courts in previous cases and found to be within the president's power. The one catch here is that someone could launch a court challenge over the specifics of those tariffs. Remember that a lot of them were imposed on national security grounds and maybe one could make a case that the US national security is threatened by a weakened steel industry. But it's hard to argue that US national security is somehow imperiled by importing wooden bathroom vanities in the kitchen cabinets from Canada, for example, which is what the Trump administration has claimed in extending the lumber tariff by an additional 10% tariff on those items and even one could argue is importing aluminum from Canada. Actually a national security threat, you know, isn't Canada an ally to the US militarily? So there could be court challenges there. The direct case that's in front of the Supreme Court now, not of particular importance to Canada. And it is also important to remember that Trump does have the authority, for example, to impose a 15% tariff pretty much across the board. The difference there is that tariff only lasts for 150 days before Congress has to approve it. So it's under a different piece of legislation, which gives the president temporary authority, but not the sort of sweeping permanent authority that he thought he had, which I think the Supreme Court is gonna rule unconstitutional.
Benjamin Tal: That's very interesting. So, you know, again, I'm going to ask you something that is almost impossible to answer. But how do you think Trump will respond if the Supreme Court decides against him?
Avery Shenfeld: Well, I do think that he will reach for those other acts which have been tested before the court and one that hasn't. So he could, for example, order more investigations either on national security grounds to impose more individual sectoral tariffs. There's also a piece of legislation where the U.S. can claim that a country is treating the U.S. unfairly and unreasonably and impose an even larger tariff on all their exports. That really hasn't been tested. There's a second other tariff like that. It hasn't been used on G7 countries, but has been used on China and Brazil. So I don't think that's going to apply to Europe, Canada, for example, but might be used for some other countries. But the key is that that 15% tariff that he could put just about on anything, that that only lasts 150 days. And it's important to recognize that the US Senate has also spoken up. there was a resolution before the Senate that passed 51 to 47. And notice it had a few Republican votes that actually asked for the reciprocal tariffs and the fentanyl tariffs on Canada to be rescinded. Now that hasn't gone anywhere because the House isn't going to vote on it. House has a Republican majority that won't pass that. But it does suggest that if Trump imposed a tariff like the Section 122 tariff, that's 15%, when that expires in 150 days, he might not be able to replace it. So I do think Trump is going to try for these other types of tariffs to try to replace these ones that are ruled unconstitutional, but he might have difficulty finding a tariff that is as sweeping or as permanent as the one that he has imposed thus far.
Benjamin Tal: So tariffs are here to stay. Now, what does it mean basically for Canada? Clearly, at this point, it's not really important as far as Canada is concerned. But let's talk about USMCA. What would be the ultimate solution here, and what do you think will emerge?
Avery Shenfeld: The main reason why we're interested in this from a Canadian perspective is it could have lot of importance if Canada and the US and Mexico are unable to reach an extension of the USMCA. Right now, the danger would be that if we no longer had the USMCA or CUSMA as we call it in Canada, all of our exports that aren't auto steel, aluminum and lumber would be subject to an immediate 35 % fentanyl tariff. If the Supreme Court strikes that tariff down, then a failure to negotiate the USMCA might only leave those goods subject to the historic most favored nations tariffs, which were around 2% and not really that material to our trade. So this actually does have some importance for Canada because it could actually remove one of the biggest threats that we face if we're not able to renegotiate that treaty. And that may have some influence over the negotiations because that threat of a 35% tariff was effectively a cudgel in the hands of the US that gave them an upper hand in those negotiations. Maybe we'll end up, because of the Supreme Court ruling, on a more level playing field or at least a less of a tilted playing field when we sit down with the US next year. So this Supreme Court decision, we're gonna expect it in either December or January, won't have an immediate impact on Canada because steel, aluminum, lumber, autos, all still subject to sector tariffs. Those won't be ruled out of order by the Supreme Court, but could help us in that USMCA negotiation next year. And with that, I think we'll wrap it up. I thank our audience for joining us for this issue of Eyes of the Economy. And in the meantime, we'll be keeping our eyes on the economy and calling it as we see it.
Outro: Please join us next time on the Eyes on the Economy where we will share our latest perspectives and outlook for the Canadian and US economy.
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