TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
from 2002 to 2008, unsustainable price increases drove
unsustainable levels of building. Our view is that house
prices exceeded the value of housing that was justified by
( A% [2 }4 y- M' ^% ^# Ofundamentals by approximately 9% nationwide. This
: [9 i- f7 d6 G% O# roverpricing compelled a level of residential construction
  w" O7 s0 L' L0 J( B" uthat exceeded its fundamental-justified level by approximately
9 t' N# T( n: a1 ~7 `- u( L. m12%, an excess that was exaggerated in the past
three years.
By “overpricing” we mean that prices detached from
, V6 t# S  \% Ktheir fundamentals, as witnessed by a steep erosion of
affordability. The current unwinding of house prices reflects
. Y. a9 Y6 y$ i/ m5 Zboth a cyclical downturn and a return of house prices
; |& G9 E1 h! q+ Mto fundamentally justified levels.
; t* ^6 Z* [; w0 pWe consider “overbuilding” of two forms: “demanddriven”
where homebuyers buy up too many houses and
! _9 Y8 D: {$ Z  ]% [- g! bthat this demand cannot be sustained; and “supply-driven”
where builders accumulate excessive inventories. Although
1 H7 C% ?3 V. N! \9 H: hthere is evidence of both types, we contend that Canada’s
“overbuilding” was mainly of the first type, where
- {' V& ~/ ]; C) z4 _; whomebuyers pushed homebuilding to an unsustainable pitch
that is now being rapidly reined in.
4 }/ X* X: t3 v9 c6 @While most markets won’t face U.S.-style overhangs,
the construction of too many new homes over the boom
6 B4 e1 g0 w! D& ]! S2 z( jmeans a deepened slump. This overbuilding will likely weigh
) L* Y( P2 m( L8 won markets over the next few years. Even as Canada recovers
' B+ f+ R* k' }) ~9 N: ~from 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
125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
( H/ ~- I$ q# P9 |/ |( hTo quantify the degree of overpricing and overbuilding,
" u' ^4 ^0 L' Owe first develop an empirical model, based on long-run
fundamentals of house prices and housing starts in each
6 H$ F1 V8 Y; ~province. Affordability is the key concept behind home
" w6 B  l5 Y) R0 V6 A- @values since house prices should track incomes over the
/ X  w8 v6 d/ a) zlong-run. Since homebuilders build to meet demand, we
regard housing prices and household formation as the drivers
of residential construction.
To examine the degree of overbuilding, we employ a
“counter-factual,” asking what level of residential construction
. {7 H* y0 H2 h- c" Bwould have occurred if housing had been priced
optimally. We find that actual homebuilding exceeded this
fundamental-justified level by about 12%. Although new
* s% Y) f; o) iunits were being absorbed, homebuyers simply bought too
! b& f" c* Z/ ?! ]8 q6 Nmany houses at prices that exceeded fundamentals.
Regionally, we see the greatest strains on the Prairies,
where housing demand will further contract under waning
population inflows. Saskatoon, Calgary and Edmonton are
already witnessing surges in their unsold new homes at the
very time that the resale market has swung into strong
" o1 b' A3 q5 ?0 ~buyers’ territory. Homebuilding in the Atlantic provinces
/ K  r: m2 w. r. ~1 P# z0 V2 W6 g+ Zhas been relatively balanced but, while not plagued by structural
; e) v: S" f* Zweakness, will be singed by the downturn nonetheless.
1 d* k0 a1 Y! P. jQuébec shows signs of strain – especially given the
4 |5 ?/ J9 j" [) Ustrange accumulation of unabsorbed multiples on l’Île de
Montréal – but recent building has been relatively balanced,
, c* s# t" w" G8 r0 {/ b  Mgiven the province’s history of under-building and low ownership
  c$ T3 x: S9 h( xrates. While Ontario homebuilding will reel from a
cyclical downturn, the degree of structural weakness appears
5 Y/ r$ O3 m5 `! F: T, [limited – with the important exception of the Toronto
condo market. Both in Toronto and Vancouver, historically
2 f) R& m$ }2 Y/ }! H8 N$ x" zhigh levels of apartment-style units presently under
construction mean that record numbers of condos will
* L- s9 ~  d$ `6 w- T9 breach completion during 2009. If absorption rates fall, as
cyclical factors would indicate, condo inventories could
. x; {* J% s' H! F3 S  w7 Gspike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
anticipate that the West Coast will continue to benefit from
6 _- u& H4 W7 ?' @7 Ointer-provincial and international migration over the coming
years, which, along with improvements in affordability,
: L7 L6 b0 `& k# ewill alleviate some of the pressure from overbuilding.
* Z8 p1 w. A% |OVERPRICED AND OVERBUILT: CANADIAN HOUSING
) Q$ c7 K. U. A9 e+ ~3 x" p, XMARKET RETURNS TO FUNDAMENTALS
0 V* k$ f- t( ?9 M7 bGrant Bishop, Economist
416-982-8063
Pascal Gauthier, Economist
4 E  k$ P5 n$ `( N* W$ [416-944-5730
( }$ ]2 F. T7 C
; o4 ?! h6 P$ ^: T7 Ghttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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