TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
% x* @. E/ R9 I7 H9 mfrom 2002 to 2008, unsustainable price increases drove
- @1 u( ?" C8 A+ O  y& Bunsustainable levels of building. Our view is that house
! E' L4 Y. f, y3 f1 Xprices exceeded the value of housing that was justified by
# O0 c& F. i9 C. v& v6 m. z! \fundamentals by approximately 9% nationwide. This
0 g% R: |& ^4 @) o% a" h6 I8 voverpricing compelled a level of residential construction
. f- \. U/ N9 a( c/ b' V3 xthat exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
1 x0 }# R4 L/ K8 ]three years.
1 O) c6 [% o/ _( UBy “overpricing” we mean that prices detached from
their fundamentals, as witnessed by a steep erosion of
! s& x% K7 x. q# M8 t+ [affordability. The current unwinding of house prices reflects
both a cyclical downturn and a return of house prices
! ^. S! H- A% M' E/ G3 s/ Tto fundamentally justified levels.
% T: C+ f. X! @; w+ ^We consider “overbuilding” of two forms: “demanddriven”
7 f# q' ?7 f; n: B% s5 qwhere homebuyers buy up too many houses and
4 i7 T8 \2 G9 W- p# |& L# H& Kthat this demand cannot be sustained; and “supply-driven”
  T& }- N; B( Ewhere builders accumulate excessive inventories. Although
there is evidence of both types, we contend that Canada’s
' @2 U& v. Y$ U6 o, x“overbuilding” was mainly of the first type, where
5 d* }+ e' t% V5 D! L5 N! Ghomebuyers pushed homebuilding to an unsustainable pitch
that is now being rapidly reined in.
While most markets won’t face U.S.-style overhangs,
the construction of too many new homes over the boom
/ H! h' j. u, i( M6 C; omeans a deepened slump. This overbuilding will likely weigh
on markets over the next few years. Even as Canada recovers
5 Z- b# }( O% ~6 X0 m5 q. p) k3 lfrom the cyclical downturn, house price growth will
remain choppy and new residential construction will be
dampened, owing to this structural weakness. Construction
is now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
residential construction will fall further to around
2 ^  T6 U" n3 Y9 `+ p  O125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
' l: U% m' {( \7 t8 @0 ?To quantify the degree of overpricing and overbuilding,
/ ^2 |) k( g6 W) Jwe first develop an empirical model, based on long-run
% C) [4 N" `: M( efundamentals of house prices and housing starts in each
7 E- N8 j9 l0 B6 \province. Affordability is the key concept behind home
6 C) w5 ~3 X- A( r3 H' ~' Tvalues since house prices should track incomes over the
long-run. Since homebuilders build to meet demand, we
regard housing prices and household formation as the drivers
of residential construction.
8 n4 Q( M7 W% `! ]6 r7 oTo examine the degree of overbuilding, we employ a
“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
( A8 w+ W! K4 }: s# }6 uoptimally. We find that actual homebuilding exceeded this
! z- o. Y" W. R3 k: n. @fundamental-justified level by about 12%. Although new
8 J: H) l: X, N1 g5 Wunits were being absorbed, homebuyers simply bought too
8 E+ H) D& l  H; r; Z$ V* Q* Ymany houses at prices that exceeded fundamentals.
Regionally, we see the greatest strains on the Prairies,
where housing demand will further contract under waning
( L& c( b6 h, F$ w+ Opopulation inflows. Saskatoon, Calgary and Edmonton are
% _) B5 P; ~+ V2 W' a! xalready witnessing surges in their unsold new homes at the
very time that the resale market has swung into strong
$ m) A; L& t5 D$ S- fbuyers’ territory. Homebuilding in the Atlantic provinces
1 o) v, G% S! ~  Y: _; ghas been relatively balanced but, while not plagued by structural
: _. M6 h# r% E) B# W4 rweakness, will be singed by the downturn nonetheless.
. K& x* @% m* `$ ~& b0 H" X1 qQuébec shows signs of strain – especially given the
3 C' |9 g: m# ?1 v; [strange accumulation of unabsorbed multiples on l’Île de
Montréal – but recent building has been relatively balanced,
given the province’s history of under-building and low ownership
4 A0 N: I1 A7 U( r- @( Frates. While Ontario homebuilding will reel from a
cyclical downturn, the degree of structural weakness appears
limited – with the important exception of the Toronto
2 W' f8 P$ {0 A" Z# m7 Rcondo market. Both in Toronto and Vancouver, historically
. Y" R: L6 Y% ^  k' Hhigh levels of apartment-style units presently under
% V+ ^7 p$ Z6 [, C2 u: h* oconstruction mean that record numbers of condos will
( z; r1 S( R9 X% d  Treach completion during 2009. If absorption rates fall, as
7 S9 w0 o. s2 W9 d, _- N% Ccyclical factors would indicate, condo inventories could
spike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
, ?* T, O& z2 f2 Q$ ~0 c4 panticipate that the West Coast will continue to benefit from
inter-provincial and international migration over the coming
1 O" [% J  F% ryears, which, along with improvements in affordability,
7 D, b. [3 @* A) W# A9 w& Fwill alleviate some of the pressure from overbuilding.
OVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
! B$ o3 D5 @$ s# Z2 Z5 bGrant Bishop, Economist
7 u& T' S! P8 C$ Q' H2 Q416-982-8063
# `6 a9 I8 Q1 k4 tPascal Gauthier, Economist
' v% m: i6 Q# K7 o5 V416-944-5730

" [* G/ Z; A( G/ b, Mhttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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