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
- c0 Y5 i. @% }! v  Lprices exceeded the value of housing that was justified by
0 t' Z/ _, {/ [; y! @; u3 @fundamentals by approximately 9% nationwide. This
0 a( q. \! s1 h" u. h' c6 foverpricing compelled a level of residential construction
that exceeded its fundamental-justified level by approximately
" t9 H, e; t. x12%, an excess that was exaggerated in the past
three years.
: D' i5 w4 R! W/ U1 O0 {9 n8 yBy “overpricing” we mean that prices detached from
their fundamentals, as witnessed by a steep erosion of
affordability. The current unwinding of house prices reflects
2 Q- \. w$ R+ v1 a2 J; A) W' x$ @both a cyclical downturn and a return of house prices
to fundamentally justified levels.
We consider “overbuilding” of two forms: “demanddriven”
+ P) }7 R! T  z' D; i  Dwhere homebuyers buy up too many houses and
" E- r, R( n$ mthat this demand cannot be sustained; and “supply-driven”
where builders accumulate excessive inventories. Although
7 M/ p2 S) q! d+ I0 fthere is evidence of both types, we contend that Canada’s
“overbuilding” was mainly of the first type, where
8 ]4 H* R( e9 P1 Fhomebuyers pushed homebuilding to an unsustainable pitch
) k0 Y8 E6 p- hthat is now being rapidly reined in.
& x& x1 \3 K" h, X$ c. FWhile most markets won’t face U.S.-style overhangs,
the construction of too many new homes over the boom
# ^5 p3 ~! G# i5 q% D$ s7 kmeans a deepened slump. This overbuilding will likely weigh
: I1 ~& q$ v8 ^3 h# X8 }. ron markets over the next few years. Even as Canada recovers
" j. {/ Z( ]  c! J/ D) M, nfrom the cyclical downturn, house price growth will
6 N2 k; v3 b9 g6 xremain choppy and new residential construction will be
/ O! ?( y8 {; a/ _" ldampened, owing to this structural weakness. Construction
is now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
% \9 R9 ]& A/ E% G! ?3 i# m& |residential construction will fall further to around
$ ^* k8 Z+ G! ^8 ~125,000 starts over 2009 with a trough around 115,000 units
" {6 q/ D3 }) C. A5 ~8 [' Y% G5 ~in the fourth quarter.
To quantify the degree of overpricing and overbuilding,
we first develop an empirical model, based on long-run
/ p% y" y/ U. ?3 e, g! w) U* x8 u7 Cfundamentals of house prices and housing starts in each
province. Affordability is the key concept behind home
7 s  b" ^4 P" _; M+ [" mvalues since house prices should track incomes over the
5 o4 \( S5 A9 Xlong-run. Since homebuilders build to meet demand, we
regard housing prices and household formation as the drivers
# U& n5 w9 @! gof residential construction.
To examine the degree of overbuilding, we employ a
9 D1 v/ b" C( x. @% k$ a! @6 E# e& n“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
, z3 g3 [) k+ l$ Poptimally. We find that actual homebuilding exceeded this
5 `' r( \2 b" z! pfundamental-justified level by about 12%. Although new
: r% i' k/ V2 U# A- g, y6 Vunits were being absorbed, homebuyers simply bought too
many houses at prices that exceeded fundamentals.
Regionally, we see the greatest strains on the Prairies,
where housing demand will further contract under waning
1 \7 K9 W- Z- [) v& ^2 {population inflows. Saskatoon, Calgary and Edmonton are
already witnessing surges in their unsold new homes at the
4 o9 w& w9 q* s" ivery time that the resale market has swung into strong
  k9 R; r' V8 D/ W0 `5 O, `# Xbuyers’ territory. Homebuilding in the Atlantic provinces
. [4 m+ E/ W6 `8 X( O" ghas been relatively balanced but, while not plagued by structural
weakness, will be singed by the downturn nonetheless.
, c. E. a) `, B8 @Québec shows signs of strain – especially given the
# p" V* {6 C+ l8 s" h* Ustrange accumulation of unabsorbed multiples on l’Île de
Montréal – but recent building has been relatively balanced,
$ v1 X9 m/ G! l( \given the province’s history of under-building and low ownership
8 i; b' i; X- U; d6 f+ Srates. While Ontario homebuilding will reel from a
cyclical downturn, the degree of structural weakness appears
limited – with the important exception of the Toronto
: w/ j0 C! k% T$ g- y! ]4 ^4 Fcondo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
construction mean that record numbers of condos will
reach completion during 2009. If absorption rates fall, as
+ V* X: ^3 a1 \4 v# P: Ccyclical factors would indicate, condo inventories could
  r! \# D' N- g: l( i6 }spike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
# c9 i" ^: B4 V3 t/ L3 danticipate that the West Coast will continue to benefit from
8 Z1 }9 ]8 n: y  y- `4 cinter-provincial and international migration over the coming
( T/ k8 M$ R7 Z& r- \) W/ w7 _years, which, along with improvements in affordability,
will alleviate some of the pressure from overbuilding.
OVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
Grant Bishop, Economist
" T% L( F) f& C! W' D$ P+ T416-982-8063
; b! T; a2 l! t/ ]Pascal Gauthier, Economist
416-944-5730
1 G4 t# t" ]7 W5 v8 Y
( Q' C. m# X3 d  P/ ehttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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