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
" D  _- u* L2 Y/ `/ e5 A, q1 Q5 Y  Aunsustainable levels of building. Our view is that house
, @, }! N' K- @0 m) t4 M8 W4 B7 s0 qprices exceeded the value of housing that was justified by
fundamentals by approximately 9% nationwide. This
overpricing compelled a level of residential construction
! O, \' p  g2 q9 m8 Ithat exceeded its fundamental-justified level by approximately
( }- ]! j/ f  G- Y9 X12%, an excess that was exaggerated in the past
three years.
By “overpricing” we mean that prices detached from
their 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.
) A4 [; M6 B1 T- n# b: W% M3 \2 rWe consider “overbuilding” of two forms: “demanddriven”
2 N# t$ T8 \8 Z* k1 xwhere homebuyers buy up too many houses and
" ]0 ?; c3 H8 P# qthat 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
homebuyers pushed homebuilding to an unsustainable pitch
" F. l6 }5 j0 athat 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
- h) T. G) s( smeans a deepened slump. This overbuilding will likely weigh
, O7 X! I8 v' q$ ?on markets over the next few years. Even as Canada recovers
9 ]: V" ?2 }) r9 L" D7 I; F! jfrom the cyclical downturn, house price growth will
: R+ y  _" Q) y4 D0 N; c( |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
4 B5 t6 s1 r. Q  ?residential construction will fall further to around
1 `2 n! p1 Y7 H7 m125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
- O( E; ?% U) C. vTo quantify the degree of overpricing and overbuilding,
/ U  x: k4 D% ?2 L7 e. X, l8 ]we first develop an empirical model, based on long-run
3 k( e; n! u1 l0 K& A0 tfundamentals of house prices and housing starts in each
province. Affordability is the key concept behind home
values since house prices should track incomes over the
/ D! `+ `( b/ o& u. Vlong-run. Since homebuilders build to meet demand, we
7 K. s7 D# @4 B9 U; O5 R' N: D% Jregard housing prices and household formation as the drivers
6 t1 p# n4 u* ^of residential construction.
% v$ _4 c3 X! |' X0 MTo examine the degree of overbuilding, we employ a
3 e- N' c8 ?" Z. R& l“counter-factual,” asking what level of residential construction
5 S) ^% j: e% T5 ]would have occurred if housing had been priced
optimally. We find that actual homebuilding exceeded this
$ [; _  V: r9 P% y' i2 K2 Y+ F4 tfundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
+ \% D/ R) e5 Q  t  i/ v- H7 q$ Omany houses at prices that exceeded fundamentals.
1 U% V9 @5 L: ], M' MRegionally, we see the greatest strains on the Prairies,
( r' D) L6 K! C  p7 [* twhere housing demand will further contract under waning
population inflows. Saskatoon, Calgary and Edmonton are
5 Y: b" A" K' P5 T3 [' }* g1 \already witnessing surges in their unsold new homes at the
2 \: q3 p# C8 o  D* f, z( \very time that the resale market has swung into strong
buyers’ territory. Homebuilding in the Atlantic provinces
- ^8 k4 U  z1 S- }  A! xhas been relatively balanced but, while not plagued by structural
$ w9 b3 b2 b, O; vweakness, 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
5 y/ t" P8 k5 ^5 vrates. While Ontario homebuilding will reel from a
4 @$ c: i8 ^7 @: H: m' kcyclical downturn, the degree of structural weakness appears
1 \# p: n6 y) W2 Ulimited – with the important exception of the Toronto
condo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
* ]& P4 S$ r: M5 O: e- a6 E% nconstruction mean that record numbers of condos will
reach completion during 2009. If absorption rates fall, as
cyclical factors would indicate, condo inventories could
spike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
% L! o/ z4 V5 i0 kanticipate that the West Coast will continue to benefit from
inter-provincial and international migration over the coming
  a- x* L3 l+ M0 b8 ~. Dyears, which, along with improvements in affordability,
, q! c  E. z7 _# [1 I; dwill alleviate some of the pressure from overbuilding.
) Q0 i/ P+ w) R* W7 T+ I4 C( Y2 ]  WOVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
1 J" v( b: M0 x/ O7 Y4 RGrant Bishop, Economist
: Y2 G, K$ R6 d2 \416-982-8063
, c$ Y: @$ z7 b' \# l8 cPascal Gauthier, Economist
. I( k. I) M  q# b1 j416-944-5730

% n0 b: v1 d0 bhttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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