Oil and Real Estate Bubbles in Canada: What Goes up Won’t so Smoothly Come Down
Five years ago, I noted how unsustainable Canadian economic growth is fuelled by debt, which is leveraged to increase the prices–and ‘profitability’–of assets like oil holdings and real estate. It might as well be called “phantom growth,” because it’s bound to disappear in due course. When prices are high, the debt-based Ponzi scheme functions; when prices sustain lows, the scheme unravels. With Canada’s oil and real estate sectors both apparently slowing down, will it lead to a ‘Minsky moment?’
Economist Hyman Minsky studied financial instability as a result of debt accumulation, and his work was largely ignored by mainstream economists. He noted that debt-heavy capitalist economies exhibit inflations and deflations that tend to spin out of control–inflation feeds inflation and deflation feeds deflation. The ‘Minsky moment’ is the moment where our financial system begins to experience deflationary stress due to price shifts. Historically, government interventions to contain debt spirals were not terribly competent, and–other factors notwithstanding–the sheer volume of debt that has been leveraged makes the global economy poised for contraction. Canada’s recent dependence upon asset inflation makes it particularly vulnerable.
Where has all the Money Come From?
Debt has been leveraged in several investment streams, including derivatives, securities, and ordinary debt. After 2008, international quantitative easing–essentially the creation of money from nothing–has partly facilitated further investment in unconventional and costly oil production methods. As long as international prices and investment levels remain high, it is feasible for unconventional oil to achieve a return on the huge amounts of money and energy required to get it out of the ground. But the longer oil prices remain low, the longer investors will be exposed to defaults.
Investors include ordinary folks by virtue of our holdings in pension funds and RRSPs. Laricina Energyhas defaulted on financing extended by Canada’s largest pension fund, the public Canadian Pension Plan Investment Board. We can likely expect defaults to international investors as well, which should create upward pressure on interest rates as investors try to cover exposure to losses.
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