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 j, p" W% G0 A2 I% G# X, N5 funsustainable levels of building. Our view is that house
. V; f& u$ f0 {  k9 y5 Jprices exceeded the value of housing that was justified by
fundamentals by approximately 9% nationwide. This
overpricing compelled a level of residential construction
, w' S9 c6 m; Y$ n8 A) J8 Jthat exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
three years.
By “overpricing” we mean that prices detached from
/ [8 C6 `( q9 J5 Y  C; i, E1 s# Ztheir 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
. @6 j7 d% E3 [, O1 ?6 T9 r0 o0 |2 D* |to fundamentally justified levels.
% e  p8 j% L/ x+ W3 IWe consider “overbuilding” of two forms: “demanddriven”
where homebuyers buy up too many houses and
; ?( g0 R- d4 I% T8 {that this demand cannot be sustained; and “supply-driven”
( m; ?" Z4 b/ E& E( H4 z% p( ?6 ?where builders accumulate excessive inventories. Although
9 a% I! p/ f  C9 Q( R  Tthere is evidence of both types, we contend that Canada’s
“overbuilding” was mainly of the first type, where
3 ?  {7 w+ e" Shomebuyers pushed homebuilding to an unsustainable pitch
2 M( a' f: ]" k5 R/ U! S6 t" `! x" nthat is now being rapidly reined in.
While most markets won’t face U.S.-style overhangs,
$ v' r) D  g( U- C% Ithe construction of too many new homes over the boom
means a deepened slump. This overbuilding will likely weigh
8 Y: M& Y1 y+ J5 [, b2 U& ion markets over the next few years. Even as Canada recovers
. J' M0 Y" J' U  [3 {from the cyclical downturn, house price growth will
: W" `! R. b, b* premain choppy and new residential construction will be
dampened, owing to this structural weakness. Construction
8 b2 h* ~7 i& u# I8 e2 t- A  i% Gis now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
residential construction will fall further to around
% W  s8 l' F4 W' B125,000 starts over 2009 with a trough around 115,000 units
7 k& v9 N$ Z* L/ q- W) B( ]in the fourth quarter.
" \! S- M5 x1 S6 H: ~To quantify the degree of overpricing and overbuilding,
we first develop an empirical model, based on long-run
8 S: g" \4 W/ Q9 Yfundamentals of house prices and housing starts in each
% q3 U4 ?8 [$ `5 _province. Affordability is the key concept behind home
2 R+ @5 h9 p5 v& j- evalues since house prices should track incomes over the
long-run. Since homebuilders build to meet demand, we
: j; A' c) {' _" o/ z3 ]- \regard housing prices and household formation as the drivers
# N2 T; g, Z6 H) d5 D. dof residential construction.
. q% c) X' h6 I5 n0 G8 zTo examine the degree of overbuilding, we employ a
“counter-factual,” asking what level of residential construction
* R  w. W, }9 @% K/ Nwould have occurred if housing had been priced
optimally. We find that actual homebuilding exceeded this
4 X* E3 K# K7 i- Q' Cfundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
many houses at prices that exceeded fundamentals.
( |6 R: C4 Z  @* qRegionally, we see the greatest strains on the Prairies,
9 z5 D: Q" S5 B6 h7 e4 f1 I& k0 q7 \# a$ Nwhere housing demand will further contract under waning
population inflows. Saskatoon, Calgary and Edmonton are
/ {; ~' y1 L+ P* N! b# ^" U& o/ ?already 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
  x: T" B& _1 R1 y- P" H/ Bhas been relatively balanced but, while not plagued by structural
& p7 I) C8 g7 j! bweakness, will be singed by the downturn nonetheless.
Québec shows signs of strain – especially given the
strange accumulation of unabsorbed multiples on l’Île de
Montréal – but recent building has been relatively balanced,
: {$ d2 z2 G7 I  ~, S" ?& |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
' u8 @" T  e1 f" C) _- P- zcondo market. Both in Toronto and Vancouver, historically
& r( l" Z, V3 w9 L. Rhigh levels of apartment-style units presently under
construction mean that record numbers of condos will
reach completion during 2009. If absorption rates fall, as
! t' s3 L! l3 [7 ccyclical factors would indicate, condo inventories could
! ^2 D9 X4 X$ @1 |7 ~6 Wspike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
4 _: w9 ~1 y& H$ p" janticipate that the West Coast will continue to benefit from
inter-provincial and international migration over the coming
years, which, along with improvements in affordability,
will alleviate some of the pressure from overbuilding.
: w/ O; m7 L# k. O) {. K- yOVERPRICED AND OVERBUILT: CANADIAN HOUSING
8 _% F0 j/ c% W4 k' x) L1 N5 @# e4 iMARKET RETURNS TO FUNDAMENTALS
/ p. Z/ o8 ?0 K( sGrant Bishop, Economist
416-982-8063
5 Z; V3 f* `2 V' N  N, Y+ [# T( P* ]9 ]Pascal Gauthier, Economist
$ w; R) x2 ?% b8 ^9 g/ E; l5 b; O416-944-5730

* `* ~0 T. p5 b: a# I% Z* n7 ~# yhttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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