TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
6 i( k$ |- R- Bfrom 2002 to 2008, unsustainable price increases drove
5 o' [" o$ ^6 [  @! W* \, wunsustainable levels of building. Our view is that house
prices exceeded the value of housing that was justified by
fundamentals by approximately 9% nationwide. This
& Y+ V4 N" d9 f3 ooverpricing compelled a level of residential construction
, Y3 s+ f$ m- Z- Kthat exceeded its fundamental-justified level by approximately
! Y" m, p; V0 `! @2 n! F6 S1 M2 N3 c+ A12%, an excess that was exaggerated in the past
! D2 L8 T5 Q, y# i/ b5 rthree 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
: `% _0 s5 w+ z* f+ Pto fundamentally justified levels.
9 X- k' S' N% q0 V/ IWe consider “overbuilding” of two forms: “demanddriven”
( R+ P, s  i; lwhere homebuyers buy up too many houses and
that this demand cannot be sustained; and “supply-driven”
where builders accumulate excessive inventories. Although
4 {3 Z' \9 q  W( ethere is evidence of both types, we contend that Canada’s
$ C4 o; |4 H# ~  I  W( q& q8 b“overbuilding” was mainly of the first type, where
homebuyers pushed homebuilding to an unsustainable pitch
+ i) F+ X" o/ [7 bthat is now being rapidly reined in.
0 }$ s* ?' w9 v5 T/ yWhile most markets won’t face U.S.-style overhangs,
9 a$ ?$ G$ t% w6 l1 F+ n* Hthe construction of too many new homes over the boom
% M$ T4 _0 v3 k+ m0 b$ m2 Imeans 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
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
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
' n2 q, b7 N+ N% P: w: A, g: tfundamentals of house prices and housing starts in each
. X0 P+ t0 w. b4 v# M" Rprovince. Affordability is the key concept behind home
values since house prices should track incomes over the
/ c7 ^% L. M  |long-run. Since homebuilders build to meet demand, we
regard housing prices and household formation as the drivers
+ q/ ?' g6 g- N" ?* e; w- ?3 B* aof residential construction.
# I, R* V# X+ i3 B$ h0 u: B3 TTo examine the degree of overbuilding, we employ a
“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
! e, u4 B0 N5 s2 l4 Voptimally. We find that actual homebuilding exceeded this
- \/ T% C/ K5 b5 W8 Dfundamental-justified level by about 12%. Although new
$ L' Y& I& Y& M. c) F0 W' ]+ Ounits were being absorbed, homebuyers simply bought too
many houses at prices that exceeded fundamentals.
& E* R1 {6 h# K% G+ I& N4 }* m: XRegionally, we see the greatest strains on the Prairies,
9 F! m5 d4 I+ N1 m- B& M6 jwhere housing demand will further contract under waning
population inflows. Saskatoon, Calgary and Edmonton are
6 E1 v& i5 n% A: Y9 ialready witnessing surges in their unsold new homes at the
very time that the resale market has swung into strong
  e7 r& I( o5 U7 W7 p  t2 Qbuyers’ 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
- ^9 `( ^0 R* P% i: s& Zstrange accumulation of unabsorbed multiples on l’Île de
; I, O. O8 z( U: Z0 [' ]. AMontréal – but recent building has been relatively balanced,
* u! z1 j- j* O6 O% W" M& U8 Hgiven the province’s history of under-building and low ownership
3 Z! t  c, N9 s7 Z3 k7 k8 x' O5 n9 trates. While Ontario homebuilding will reel from a
' \/ h" B3 B( j3 |cyclical downturn, the degree of structural weakness appears
% {& N  N8 Q) v" ~3 I2 u! a! p& ilimited – with the important exception of the Toronto
6 b9 o* x# H2 X: Ocondo market. Both in Toronto and Vancouver, historically
: e8 s3 B; y- \high levels of apartment-style units presently under
# v/ s. r* N$ A& C9 g! Z7 H, \5 X; `construction mean that record numbers of condos will
1 e0 d5 C' Y( \- e! kreach completion during 2009. If absorption rates fall, as
1 @9 Z6 p# `8 o! ~& s  O( Ycyclical factors would indicate, condo inventories could
spike severely – particularly in Vancouver. However, while
+ Q- P/ G# w, V+ n0 `residential construction in B.C. will definitely droop, we
! B$ S/ `0 Q' `. k+ I$ _* a2 aanticipate that the West Coast will continue to benefit from
inter-provincial and international migration over the coming
* p/ i  i  g/ }/ o( Dyears, which, along with improvements in affordability,
2 v! o5 [: s  Z: t% Bwill alleviate some of the pressure from overbuilding.
OVERPRICED AND OVERBUILT: CANADIAN HOUSING
2 H4 b  \7 a  XMARKET RETURNS TO FUNDAMENTALS
Grant Bishop, Economist
% A9 b) a& D6 `' _416-982-8063
Pascal Gauthier, Economist
$ x( I% I: s* V& l2 M416-944-5730
  q( ]+ ?8 z: o/ @; j; d$ ^! f
http://www.td.com/economics/special/gb0409_housing_exec.pdf

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