TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
  y0 {: y0 `; B+ b: `' m5 B# G' Gfrom 2002 to 2008, unsustainable price increases drove
unsustainable levels of building. Our view is that house
  `$ @! {' M, W2 r7 Mprices exceeded the value of housing that was justified by
fundamentals by approximately 9% nationwide. This
% d, s: {! z$ i: i# R0 qoverpricing compelled a level of residential construction
that exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
three years.
By “overpricing” we mean that prices detached from
; Y4 j( L/ E. N% Itheir fundamentals, as witnessed by a steep erosion of
' Q, I1 y" q3 o% Oaffordability. The current unwinding of house prices reflects
both a cyclical downturn and a return of house prices
  ?3 y9 [: q- R' f8 Wto fundamentally justified levels.
- W1 c* u4 R4 @* aWe consider “overbuilding” of two forms: “demanddriven”
7 i0 z# ]1 j7 l6 Q1 X! C& q1 qwhere homebuyers buy up too many houses and
; q3 L: C& P2 S, c- r0 W7 Dthat this demand cannot be sustained; and “supply-driven”
where builders accumulate excessive inventories. Although
; W& y1 m) d( H. J3 M, G  `there is evidence of both types, we contend that Canada’s
“overbuilding” was mainly of the first type, where
: j2 @; h6 q% ]) q! J  uhomebuyers pushed homebuilding to an unsustainable pitch
( C& O+ y4 Q$ y) H7 l: ]7 L# sthat 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
means a deepened slump. This overbuilding will likely weigh
on markets over the next few years. Even as Canada recovers
9 F6 b, C: `4 T& R4 @8 nfrom the cyclical downturn, house price growth will
remain choppy and new residential construction will be
* H" i; b' A1 R% W3 T0 C. cdampened, owing to this structural weakness. Construction
is now undershooting fundamentals and we expect this
7 u8 P& s" B8 c0 M0 |/ yto 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,
- N0 ?9 T5 A5 d: Q. @we first develop an empirical model, based on long-run
fundamentals of house prices and housing starts in each
$ S" L  {. L: Q8 }, ~; n) w' hprovince. Affordability is the key concept behind home
/ F/ p4 l' K% U& J0 g! F8 U. uvalues 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.
; b5 \* I& f( f+ {To examine the degree of overbuilding, we employ a
“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
& n& D/ [1 o/ D1 s4 N. ]2 poptimally. We find that actual homebuilding exceeded this
  X8 F. w$ z; N% O+ g1 s; c7 t8 @& rfundamental-justified level by about 12%. Although new
0 r( S/ Z5 L5 y9 munits were being absorbed, homebuyers simply bought too
many houses at prices that exceeded fundamentals.
- F" x2 ^- w* p( bRegionally, we see the greatest strains on the Prairies,
$ u: w' N5 Q% }! H$ ?6 V0 b5 swhere housing demand will further contract under waning
, a* C8 q+ @$ Spopulation inflows. Saskatoon, Calgary and Edmonton are
- }3 Q: U; {" H! ^/ ]already witnessing surges in their unsold new homes at the
very time that the resale market has swung into strong
( G  l% e' K! ~0 I& p  b6 ubuyers’ territory. Homebuilding in the Atlantic provinces
$ l6 @, z$ O8 |1 r: T: J6 q4 q0 Zhas been relatively balanced but, while not plagued by structural
weakness, will be singed by the downturn nonetheless.
7 X: p( X& o: S, tQuébec shows signs of strain – especially given the
strange accumulation of unabsorbed multiples on l’Île de
) v9 u& N' z9 R2 a3 r  R2 HMontréal – but recent building has been relatively balanced,
given the province’s history of under-building and low ownership
4 @% K1 i7 y7 N2 g, `4 Y1 a  {( Nrates. While Ontario homebuilding will reel from a
' z, l* W& j  g' i" _cyclical downturn, the degree of structural weakness appears
limited – with the important exception of the Toronto
condo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
) A, l( |: [: m$ i4 _( D  M- Mconstruction mean that record numbers of condos will
+ W) E1 B& I6 b5 v* Creach completion during 2009. If absorption rates fall, as
cyclical factors would indicate, condo inventories could
spike severely – particularly in Vancouver. However, while
8 Q, Q$ s( i3 r  {residential construction in B.C. will definitely droop, we
anticipate that the West Coast will continue to benefit from
2 F' @  L* x) p! T: {inter-provincial and international migration over the coming
: j7 l" j4 E0 m6 v( ?years, which, along with improvements in affordability,
will alleviate some of the pressure from overbuilding.
  U2 `; n* X2 E0 rOVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
Grant Bishop, Economist
# ^; `0 ]1 N8 G" j5 y4 x3 {416-982-8063
Pascal Gauthier, Economist
416-944-5730

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

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