Good morning. Senior Deputy Governor Carolyn Rogers and I are here to discuss the Bank of Canada’s Financial Stability Report (FSR). The Bank's mandate includes preserving and promoting the stability of the Canadian financial system. A stable and resilient financial system allows people to access credit and manage their assets safely and predictably, reducing the need for authorities to intervene during periods of financial stress. A stable financial system is critical to Canada’s economic well-being.
The Bank publishes this Report annually to assess the stability of Canada’s financial system and highlight risks that could threaten that stability. We've renamed it from the Financial System Review to the Financial Stability Report for clarity.
Our financial system is highly interconnected; stress in one sector can spread to others. The FSR emphasizes risks that could affect the broader financial system and threaten its stability. It particularly focuses on risks evolving with economic developments, which could lead to system-wide stress in four key sectors: households, businesses, banks, and non-bank financial institutions—such as pension funds, insurance companies, and fund managers.
We also consider operational or structural risks like cyber attacks and climate change-related risks, typically discussed on the Bank’s Financial System Hub. However, they may appear in the FSR when major developments arise.
So what are today's FSR key messages?
Firstly, Canada’s financial system remains resilient. Over the past year, households, businesses, banks, and other financial institutions have proactively adjusted to higher interest rates and weathered economic shocks.
Secondly, this adjustment continues presenting risks to financial stability.
Over the past year, recession risk has diminished in Canada and globally. Inflation in most economies has come down with inflation targets within sight. However, market volatility might occur as expectations shift about central banks' policy rate adjustments. Important geopolitical and economic risks remain on the horizon.
Against this backdrop, households and businesses continue adjusting to past interest rate increases. Some indicators of financial stress have risen, and some financial assets' valuations appear stretched. This increases the risk of a sharp correction that could generate system-wide stress. The recent rise in leverage use in the non-bank financial sector could amplify such a correction's effects.
Proper risk management requires financial system participants to remain proactive and financial authorities vigilant.
I'll now pass things over to Carolyn.
Thank you, Governor.
In the FSR, we cover each sector starting with households. Most households have proven resilient against higher interest rates and inflation, adjusting to higher debt-servicing costs. However, this doesn't mean the adjustment has been easy for everyone.
We're evaluating overall stress indicators in the system. Some household financial stress indicators that fell during the pandemic are back to or above normal levels. Renters seem to be experiencing the biggest increase in financial stress. After hitting historical lows during the pandemic, the share of households without a mortgage behind on credit card and auto loan payments has come back up to—or surpassed—typical levels. Over the past year, borrowers without a mortgage carrying a credit card balance of at least 80% of their credit limit continues climbing.
Among mortgage holders, financial stress indicators have remained relatively low even as many cope with higher mortgage payments.
Since March 2022 when the Bank began raising its policy rate, payments have increased for roughly half of all outstanding mortgages. Over the next two and a half years, most remaining mortgages will renew likely facing larger payment increases. Meanwhile, many mortgage holders have seen wage increases. Some have proactively adjusted their spending to offset higher debt payments and report higher savings levels available to offset increased payments.
Overall evidence suggests households can continue servicing their debt at higher rates. We'll closely watch data for signs of increased financial strain among both mortgage holders and non-mortgage holders and monitor labor market evolution since stable income is key for debt servicing ability.
Higher interest rates also affect businesses by slowing demand for their goods and services and increasing their financing costs. Large businesses' financial health appears solid, but smaller businesses show more signs of financial stress. Insolvency filings by smaller firms have recently jumped after several years of below-average filings. This increase could be a catch-up or normalization, partly driven by the expiry of pandemic-related government support programs.
Turning to Canadian banks, overall credit performance remains strong. Banks are proactively contacting customers facing payment increases at renewal and working with them on a payment plan. They've also been setting aside more money to cover future loan losses and continue maintaining healthy capital and liquidity buffers. This means that even if financial conditions and credit performance deteriorate, banks can absorb losses and continue providing credit.
In the non-bank financial sector, recent frequent volatility in financial markets has led to increased focus on liquidity risks. Some firms are increasingly using leverage to fund trading activities, making them more vulnerable to large market swings.
Let me close by reiterating an important point the Governor made: the connections in the financial system mean that if risks materialize in one sector, they can spread quickly. This puts a premium on preparedness. The proactive steps taken by financial system participants have been positive, and they need to continue. A stable and resilient financial system benefits all Canadians.
The Governor and I will now be happy to take your questions.