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Canadian Home Price to Income Ratio

Ration of the price of existing properties over disposable personal income

Ration of the price of existing properties over disposable personal income

From: The sudden rally in Canada’s residential real estate market is surprising and troubling

The price to income ratio is the basic affordability measure for housing in a given area. It is generally the ratio of median house prices to median familial disposable incomes, expressed as a percentage or as years of income. It is sometimes compiled separately for first time buyers and termed attainability. This ratio, applied to individuals, is a basic component of mortgage lending decisions. According to a back-of-the-envelope calculation by Goldman Sachs, a comparison of median home prices to median household income suggests that U.S. housing in 2005 is overvalued by 10%. "However, this estimate is based on an average mortgage rate of about 6%, and we expect rates to rise," the firm's economics team wrote in a recent report. According to Goldman's figures, a one-percentage-point rise in mortgage rates would reduce the fair value of home prices by 8%.

The Impact of Rising House Prices to Income

The ratio of house prices to Income remains an important guide to long term affordability of housing.
However, it does not make it a perfect guide to future house prices. Just because the ratio of house prices to incomes have increased doesn’t necessarily mean a house price crash will occur.

Nevertheless, the rising ratio of house prices to incomes does raise some serious concerns.

Problems of Rising House Price to Incomes Ratios

  • Social Mobility. A Rising ratio of house prices to incomes means that it is increasingly difficult for first time buyers (young people) to get on the property ladder. This means young people may have to live in cramped rented accommodation
  • Labour Shortages. In areas of high house prices, the lack of affordability may lead to a shortage of key public sector workers.
  • Potential for House Price Crash. It is argued that rises in house price to incomes ratios are unsustainable and could lead to a future crash in house prices.
  • Encourages Risky Mortgages. To get on the property ladder, first time buyers are having to take out increasingly risky mortgages such as interest only, self-certification; these mortgages can increase the likelihood of mortgage defaults and home repossessions.
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