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
: A' S0 B' M. D5 A7 i8 funsustainable levels of building. Our view is that house
( R% `7 ^1 @, qprices exceeded the value of housing that was justified by
6 b+ \; m9 R* X  [& {$ K+ V  afundamentals by approximately 9% nationwide. This
- H$ O6 }2 e- b! l% ioverpricing compelled a level of residential construction
; b- F7 a1 ^& I  Nthat exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
1 w" t5 S3 i4 n9 A# f4 Uthree years.
By “overpricing” we mean that prices detached from
# R# X. |( E6 \5 J1 h0 Ftheir 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.
  g  L1 O+ Y5 v7 }We consider “overbuilding” of two forms: “demanddriven”
where homebuyers buy up too many houses and
% S' y5 y; S$ t; b/ X& mthat this demand cannot be sustained; and “supply-driven”
4 w$ l8 b4 `+ w% vwhere builders accumulate excessive inventories. Although
( O1 r' x3 w' f: J* T. v( A! ^, \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
3 q% }, o0 G4 I) I3 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
: S2 ~3 V) [+ J: s3 K# }! L/ s) [7 Vmeans a deepened slump. This overbuilding will likely weigh
$ C$ O% z# z! H9 {on markets over the next few years. Even as Canada recovers
2 @& M, w1 N7 o! ffrom the cyclical downturn, house price growth will
, {# e" w7 x$ C/ ?$ w/ I# z) T; Aremain choppy and new residential construction will be
dampened, owing to this structural weakness. Construction
) c7 ^1 |' n' c7 l0 B9 q8 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
/ M2 a2 E& f! u5 z8 k$ U125,000 starts over 2009 with a trough around 115,000 units
1 Y7 m5 x6 i  G: \4 Min the fourth quarter.
To quantify the degree of overpricing and overbuilding,
we first develop an empirical model, based on long-run
fundamentals of house prices and housing starts in each
, Q  |% L- E' g* }province. Affordability is the key concept behind home
values since house prices should track incomes over the
* a8 |8 T* U) m" ?) B. w  U& jlong-run. Since homebuilders build to meet demand, we
regard housing prices and household formation as the drivers
of residential construction.
To examine the degree of overbuilding, we employ a
+ h8 O; t  h  ]7 x. {# q' s: U“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
optimally. We find that actual homebuilding exceeded this
fundamental-justified level by about 12%. Although new
4 J1 p7 A+ @; [' {units were being absorbed, homebuyers simply bought too
; p! L, A+ l# n# Cmany houses at prices that exceeded fundamentals.
Regionally, we see the greatest strains on the Prairies,
where housing demand will further contract under waning
6 j5 O& r. C; r/ m5 d; u0 }population inflows. Saskatoon, Calgary and Edmonton are
already witnessing surges in their unsold new homes at the
very time that the resale market has swung into strong
: Q/ \; s8 q; Q0 r2 s8 Xbuyers’ territory. Homebuilding in the Atlantic provinces
has been relatively balanced but, while not plagued by structural
weakness, will be singed by the downturn nonetheless.
, V) x6 F' c4 W: L: aQuébec 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
3 t0 J8 K1 q# @# `1 E, Arates. While Ontario homebuilding will reel from a
cyclical downturn, the degree of structural weakness appears
* s3 ?2 l4 m0 w. k8 Z+ I3 u2 k7 G/ Flimited – with the important exception of the Toronto
condo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
construction mean that record numbers of condos will
, U! L+ u. i! b* |reach completion during 2009. If absorption rates fall, as
, q$ S  x& {$ R( h+ a8 acyclical factors would indicate, condo inventories could
! T0 O. f8 V- }# F7 aspike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
& P# Q7 G5 ^; v( b4 kanticipate that the West Coast will continue to benefit from
inter-provincial and international migration over the coming
) O  v8 i+ H- ^years, which, along with improvements in affordability,
* I2 V) Q# u' D& Z& p: H' N# zwill alleviate some of the pressure from overbuilding.
4 |- H" R; P7 V" q: ?8 D) `7 a" oOVERPRICED AND OVERBUILT: CANADIAN HOUSING
3 Q7 \) x' e* q1 R2 ^" o1 H# X9 ]MARKET RETURNS TO FUNDAMENTALS
Grant Bishop, Economist
416-982-8063
Pascal Gauthier, Economist
416-944-5730

http://www.td.com/economics/special/gb0409_housing_exec.pdf

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