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
2 @  ^3 `. H2 Eunsustainable levels of building. Our view is that house
3 z6 J3 y  V* z, G2 N6 x, uprices exceeded the value of housing that was justified by
, W/ u7 \, J' B. U) afundamentals by approximately 9% nationwide. This
overpricing compelled a level of residential construction
# A) Z; F" R' Y6 tthat exceeded its fundamental-justified level by approximately
) }$ ]0 _/ T7 K$ A1 [7 b" \12%, an excess that was exaggerated in the past
three years.
9 Z& [; O$ F$ DBy “overpricing” we mean that prices detached from
& I) H/ Z' }& w1 n) j. `( qtheir fundamentals, as witnessed by a steep erosion of
affordability. The current unwinding of house prices reflects
both a cyclical downturn and a return of house prices
to fundamentally justified levels.
We consider “overbuilding” of two forms: “demanddriven”
where homebuyers buy up too many houses and
that this demand cannot be sustained; and “supply-driven”
; J3 A8 E+ j! @where builders accumulate excessive inventories. Although
there is evidence of both types, we contend that Canada’s
“overbuilding” was mainly of the first type, where
homebuyers pushed homebuilding to an unsustainable pitch
( v1 Z; Y% X9 j: Z: ]that is now being rapidly reined in.
While most markets won’t face U.S.-style overhangs,
5 Q1 A) b( ?/ w5 K% c7 q5 ^5 \, s( bthe construction of too many new homes over the boom
/ q5 W* D+ s; J/ B6 Wmeans a deepened slump. This overbuilding will likely weigh
on markets over the next few years. Even as Canada recovers
from the cyclical downturn, house price growth will
remain choppy and new residential construction will be
& P6 ^" G* O% S* u7 [7 e3 m% ~dampened, owing to this structural weakness. Construction
  p  o! |# t. w' A. ois now undershooting fundamentals and we expect this
- a# L  {2 o9 m7 Zto 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.
To quantify the degree of overpricing and overbuilding,
we first develop an empirical model, based on long-run
+ b' O7 ~; e3 T+ c# f  h4 wfundamentals of house prices and housing starts in each
2 ~$ f/ T' u: {province. Affordability is the key concept behind home
values since house prices should track incomes over the
long-run. Since homebuilders build to meet demand, we
+ V4 V' ^  _$ c& a: D% I/ C" U# S; v; N" dregard housing prices and household formation as the drivers
5 U+ g% A$ X0 r0 f) W2 a- Q. p, O% l) @of residential construction.
To examine the degree of overbuilding, we employ a
“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
optimally. We find that actual homebuilding exceeded this
fundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
4 [5 P4 Q2 m& q( y) @many houses at prices that exceeded fundamentals.
  B: k# w8 |& Y" nRegionally, we see the greatest strains on the Prairies,
where housing demand will further contract under waning
population inflows. Saskatoon, Calgary and Edmonton are
) z* x( U( N* ]" p1 U# d( ?. m4 Q8 galready witnessing surges in their unsold new homes at the
very time that the resale market has swung into strong
buyers’ territory. Homebuilding in the Atlantic provinces
has been relatively balanced but, while not plagued by structural
weakness, will be singed by the downturn nonetheless.
Québec shows signs of strain – especially given the
strange accumulation of unabsorbed multiples on l’Île de
% `- l4 t) I9 I- L* _5 l( k0 VMontréal – but recent building has been relatively balanced,
given the province’s history of under-building and low ownership
rates. While Ontario homebuilding will reel from a
cyclical downturn, the degree of structural weakness appears
limited – with the important exception of the Toronto
. w, ]8 x8 G/ m* M, ccondo market. Both in Toronto and Vancouver, historically
& H3 D6 S) E" s0 f7 ^( ghigh levels of apartment-style units presently under
construction mean that record numbers of condos will
; q: m5 X8 d" areach completion during 2009. If absorption rates fall, as
cyclical factors would indicate, condo inventories could
' N- ?% p0 a8 n6 W  _$ S# J3 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
inter-provincial and international migration over the coming
years, which, along with improvements in affordability,
4 n2 ]: Y- y+ \" k, N3 k& D2 Awill alleviate some of the pressure from overbuilding.
OVERPRICED AND OVERBUILT: CANADIAN HOUSING
" }1 ]; m1 M' B& o7 Y& FMARKET RETURNS TO FUNDAMENTALS
  k8 k: g( V1 I/ V) LGrant Bishop, Economist
) t! Z0 p0 g. P. Q9 B: q416-982-8063
' T0 y, U# D/ H& `  e+ WPascal Gauthier, Economist
1 R' {  n; X1 c1 w416-944-5730
, _# g* z. `' B7 {4 V4 {
http://www.td.com/economics/special/gb0409_housing_exec.pdf

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