TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
# U7 E( g0 x- L' E. @! Y+ s% ?from 2002 to 2008, unsustainable price increases drove
unsustainable levels of building. Our view is that house
5 f! O7 B( O$ c9 c) J4 Vprices exceeded the value of housing that was justified by
9 d/ `3 Y; a& r3 p' v6 R7 z5 D9 K, ^fundamentals by approximately 9% nationwide. This
3 [# P- l9 H) j1 ^' z$ |* D4 Uoverpricing compelled a level of residential construction
2 I" D4 ?" Y/ s$ h0 ithat exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
3 ^% X8 t; u6 r) gthree years.
By “overpricing” we mean that prices detached from
their fundamentals, as witnessed by a steep erosion of
  w* u7 H6 [* q/ g) Faffordability. The current unwinding of house prices reflects
% v/ R$ i2 k8 @8 D9 [! J/ iboth 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
0 G5 Z) `1 f+ x! X& bthat this demand cannot be sustained; and “supply-driven”
' b% J' U+ V- v8 A& b! `9 g7 r" Jwhere builders accumulate excessive inventories. Although
1 R1 Y- i0 |2 y3 K" n. mthere is evidence of both types, we contend that Canada’s
“overbuilding” was mainly of the first type, where
2 R- N  l8 B& Fhomebuyers pushed homebuilding to an unsustainable pitch
: |8 S' S: z5 E9 P0 |that is now being rapidly reined in.
/ F# N+ W) w. z6 I: s: LWhile most markets won’t face U.S.-style overhangs,
the construction of too many new homes over the boom
$ ^7 e5 O+ N2 r/ {* E* Ameans a deepened slump. This overbuilding will likely weigh
6 {4 Y8 L0 g: f$ P, h* M1 }% oon markets over the next few years. Even as Canada recovers
; D; a9 e/ h+ u* @7 J& yfrom the cyclical downturn, house price growth will
3 z8 {* x' c: b3 S- ~- y% ]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
% v, H0 r: l, e3 u125,000 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
fundamentals 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
long-run. Since homebuilders build to meet demand, we
regard housing prices and household formation as the drivers
of residential construction.
% T8 }4 d" q% K; _. xTo examine the degree of overbuilding, we employ a
  R7 _. M8 z( W“counter-factual,” asking what level of residential construction
2 ^- `4 U# Y9 S1 Ywould have occurred if housing had been priced
- q, F. t7 Z8 Moptimally. We find that actual homebuilding exceeded this
fundamental-justified level by about 12%. Although new
' y( Z; C5 J/ d( O3 [; M: }' munits were being absorbed, homebuyers simply bought too
many houses at prices that exceeded fundamentals.
* Z& Q3 e, B# {8 i" tRegionally, we see the greatest strains on the Prairies,
where housing demand will further contract under waning
0 }( D" l% M) S  Q) Z0 H1 [4 dpopulation inflows. Saskatoon, Calgary and Edmonton are
already witnessing surges in their unsold new homes at the
4 y5 @1 D. f( H1 V: B: N+ rvery time that the resale market has swung into strong
- x/ j5 ]/ Y. D8 C& _6 _4 ~6 ybuyers’ territory. Homebuilding in the Atlantic provinces
5 d- Y: r; J8 O) z* z. D3 [has been relatively balanced but, while not plagued by structural
weakness, will be singed by the downturn nonetheless.
+ M% y' y& j' f$ p: ^0 K6 |Québec shows signs of strain – especially given the
9 z* Y. E- ^( V8 N, z  zstrange accumulation of unabsorbed multiples on l’Île de
Montréal – but recent building has been relatively balanced,
  x5 [  P  y7 C7 ^$ I) |given the province’s history of under-building and low ownership
rates. While Ontario homebuilding will reel from a
# f% `) r8 Z1 G" J* D4 V1 c6 r9 Kcyclical downturn, the degree of structural weakness appears
& W7 L" ~8 z4 u5 ylimited – with the important exception of the Toronto
3 F8 Q1 p& N6 f/ k9 c# J* ucondo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
construction mean that record numbers of condos will
' k4 `) P) B. y. Yreach completion during 2009. If absorption rates fall, as
# l) D8 P0 ^$ R2 {/ r5 Ycyclical factors would indicate, condo inventories could
6 j* b/ I0 i( e' e1 ospike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
0 |  ?% }( ^& |) {- T' hanticipate that the West Coast will continue to benefit from
  v+ z' i4 f9 g) B2 Vinter-provincial and international migration over the coming
years, which, along with improvements in affordability,
will alleviate some of the pressure from overbuilding.
OVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
& j7 h& `' j$ p8 E4 ZGrant Bishop, Economist
416-982-8063
2 _; ~4 N. y. q% p/ yPascal Gauthier, Economist
416-944-5730
: u3 e; n) r) ?
http://www.td.com/economics/special/gb0409_housing_exec.pdf

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