Housing: CMHC & econ stability

The Canadian Mortgage and Housing Corp.'s (CMHC) interest-only mortgage insured with no down payment is getting a lot of attention lately.
I questioned the reasonability behind it in an earlier post. Then a Globe and Mail editorial went as far as to say, "The agency should get out now -- before the going gets tough -- and leave the Don't-Pay-a-Cent events to the private sector.” That's a pretty extreme opinion. But there's definitely something amiss and I'm not ready to let the issue die just yet (but soon, I promise).

The CMHC is exercising its right to remain competitive among the growing number of packages offered by lenders. Meanwhile, as I noted earlier, “housing wealth reduces saving by more than other kinds of financial wealth” (Sorry my source is missing). Can the CMHC compete without creating a negative effect on the economy? I believe this depends on three major things, all else being equal:
1. Asymmetry of information;
2. The expectations that borrower's have of the future; and,
3. David Dodge

I'll explain. But first some background from Globe and Mail columnist Rob Carrick (subscription required):

Interest-only products account for about 20 per cent of the U.S. mortgage market, so they're nothing new. With the Canadian version, the benefit is that you have a reduced payment comprising interest but not principal for a period of five or 10 years (you'll have some leeway to pay down the principal if you want). At the end of five years, you start paying both principal and interest at a rate pegged to a 20-year amortization period. With the 10-year interest-only option, you move into a mortgage with a 15-year amortization period.
What you're essentially doing with both these mortgages is shoveling money into interest payments that do nothing to reduce your debt. When you eventually start making blended payments of interest and principal, it'll be as if you're starting fresh in a new mortgage with a repayment schedule that's more aggressive than the traditional 25-year amortization period. Will you be able to afford the much higher payments?

First, as long borrower's know what they're getting into, as long as information is symmetric, it's more likely that borrower's and lenders will be matched appropriately. To a degree this would depend on the standards of credit that the CMCH places on borrowers. Keep in mind, they want to pull a profit.

Second, the effect of the package depends on the expectations that borrowers have of the future. If people don't expect to be moving up in the world, they'll think twice about signing up for the plan. Carrick notes that the plan could make sense for some people (ie. people who expect to be moving from one income to two); however...

...economist Benny Tal of Canadian Imperial Bank of Commerce.... said that in this environment of increasing economic globalization, wages aren't rising as much as they used to. “It's very unlikely that many of the people who cannot afford [a house] now will be able to afford it five years from now.”

And third, what does David Dodge think? It's no secret that the media likes to put a dramatic spin on things. Perhaps Dodge isn't as outraged as we're led to believe. After all, he has a job to ensure that the CMHC knows what it's doing.

Is this new package worth the risk? I wonder if we'll be seeing some adjustments in the relations between the CMHC and the Bank of Canada. Perhaps the Globe and Mail editorial wasn't so rash.