TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
, ]3 U/ _( z0 n  `+ T( ~from 2002 to 2008, unsustainable price increases drove
$ v- c) J4 {9 h5 H9 U8 xunsustainable levels of building. Our view is that house
- A) o( \9 b0 A3 e! @! X6 P8 _prices exceeded the value of housing that was justified by
7 p7 X% `/ H9 zfundamentals by approximately 9% nationwide. This
6 n/ S  s7 f/ toverpricing compelled a level of residential construction
" S5 d2 m) [" E. Q5 u9 b1 X& S& @that exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
three years.
# X' L' j3 [2 B& S1 _  d2 J4 K0 w, ]By “overpricing” we mean that prices detached from
! ]; ^+ S# q; O/ Y: rtheir fundamentals, as witnessed by a steep erosion of
$ O! V  c; w6 c3 @+ a  ~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
4 B1 s) g' R- \$ V) M( G$ @that this demand cannot be sustained; and “supply-driven”
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
: [' a/ T: W9 c  v! X, t$ z- L) |0 Yhomebuyers pushed homebuilding to an unsustainable pitch
! @& F" k. k! }4 H2 `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
means a deepened slump. This overbuilding will likely weigh
- O4 d2 M5 X$ l& gon markets over the next few years. Even as Canada recovers
) @3 D! u% P6 s' mfrom the cyclical downturn, house price growth will
0 C0 [' q1 G# r4 g7 s3 rremain choppy and new residential construction will be
' i% L6 ]- u% f9 `dampened, owing to this structural weakness. Construction
is now undershooting fundamentals and we expect this
3 @% X$ m- i; F  ]to persist over 2009 to 2011. We anticipate that nationwide
residential construction will fall further to around
4 Y( N$ A8 n% u+ k125,000 starts over 2009 with a trough around 115,000 units
0 a, x& O) C2 w# }" v; ?6 Lin the fourth quarter.
* k1 ^8 k  i3 N/ {9 X  oTo quantify the degree of overpricing and overbuilding,
we first develop an empirical model, based on long-run
$ W6 R7 Q; C# q7 V; Sfundamentals of house prices and housing starts in each
+ Q4 c' [0 L. D8 B$ E: Sprovince. Affordability is the key concept behind home
values since house prices should track incomes over the
) s  _5 g$ [: olong-run. Since homebuilders build to meet demand, we
regard housing prices and household formation as the drivers
' Y# T$ \$ U& H9 J! Cof residential construction.
To examine the degree of overbuilding, we employ a
% u4 |4 E- a/ U$ w# C$ n! n“counter-factual,” asking what level of residential construction
: }% n5 K9 H  ?* B6 Swould have occurred if housing had been priced
( _# s: p7 J7 M" foptimally. We find that actual homebuilding exceeded this
fundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
many houses at prices that exceeded fundamentals.
, X: y8 B: p/ T; _# nRegionally, we see the greatest strains on the Prairies,
" S( W0 I. b2 B! Mwhere housing demand will further contract under waning
population inflows. Saskatoon, Calgary and Edmonton are
0 f) ]2 M* }" b) w+ \) {. ]1 Halready witnessing surges in their unsold new homes at the
8 V! L7 R: S5 P1 y9 B( ~' c1 w0 gvery time that the resale market has swung into strong
buyers’ territory. Homebuilding in the Atlantic provinces
. h) z" x$ c! q/ n6 e6 O9 whas 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
Montréal – 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
condo market. Both in Toronto and Vancouver, historically
3 H& P0 [  y3 j  n0 a  \high levels of apartment-style units presently under
6 ~6 O" u6 C! i" Qconstruction mean that record numbers of condos will
reach completion during 2009. If absorption rates fall, as
cyclical factors would indicate, condo inventories could
* C) A6 \3 I3 [spike 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
/ H% a( }/ q9 L9 R& Hinter-provincial and international migration over the coming
) I( D1 s0 o6 z) v1 A2 _years, which, along with improvements in affordability,
' e* q* J2 B7 _) ]will alleviate some of the pressure from overbuilding.
OVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
Grant Bishop, Economist
416-982-8063
Pascal Gauthier, Economist
7 c1 [) c. D* n) X8 x: v416-944-5730
/ w) u6 h* M+ w2 v( Q0 y. C! Y7 p
http://www.td.com/economics/special/gb0409_housing_exec.pdf

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