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
. ^. x' u; k+ Xunsustainable levels of building. Our view is that house
prices exceeded the value of housing that was justified by
fundamentals by approximately 9% nationwide. This
overpricing compelled a level of residential construction
: t' @" R& v& y' \that exceeded its fundamental-justified level by approximately
: `. s4 ], M( ?, D2 t12%, 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.
We consider “overbuilding” of two forms: “demanddriven”
  A  x4 g- h7 X8 {+ f2 Qwhere homebuyers buy up too many houses and
5 A- I3 b% v+ |* `. R6 othat this demand cannot be sustained; and “supply-driven”
* `- Q5 V1 g2 Z5 J1 F) a' Kwhere builders accumulate excessive inventories. Although
4 v. ]' F/ y; l. Y; sthere is evidence of both types, we contend that Canada’s
/ M" g  u- q1 z+ A4 W“overbuilding” was mainly of the first type, where
homebuyers pushed homebuilding to an unsustainable pitch
3 q1 D9 @" M1 y+ z! b4 Bthat is now being rapidly reined in.
While most markets won’t face U.S.-style overhangs,
6 A4 f$ k& E; X) A% k; d2 nthe 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
# x- o: K# B9 {) i: j9 M3 K) {from the cyclical downturn, house price growth will
remain choppy and new residential construction will be
dampened, owing to this structural weakness. Construction
% p7 }1 l' n1 I! k0 Uis now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
$ [7 a% }' V0 v5 Rresidential construction will fall further to around
125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
$ B4 l4 q/ B+ S$ o3 t, k) H9 PTo quantify the degree of overpricing and overbuilding,
) [% v2 V( u4 ]& o* awe first develop an empirical model, based on long-run
fundamentals of house prices and housing starts in each
1 K7 P$ E/ P- x& Uprovince. Affordability is the key concept behind home
: @* S3 P9 v  {1 F6 _; }2 Evalues since house prices should track incomes over the
- @$ x: ~  u( p. F9 ~long-run. Since homebuilders build to meet demand, we
regard housing prices and household formation as the drivers
of residential construction.
6 t0 X# {+ G3 N: MTo examine the degree of overbuilding, we employ a
) w1 A% Y5 C# ^, \8 e& {“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
# ~  a. L$ [. z* X. h" Ooptimally. We find that actual homebuilding exceeded this
fundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
many houses at prices that exceeded fundamentals.
, T! l' d9 Q4 P% L1 ]Regionally, we see the greatest strains on the Prairies,
0 I, l! L* c& H: @- zwhere housing demand will further contract under waning
8 `% w1 o2 A* Q2 gpopulation 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
" k1 }% |; g1 Q9 O5 j- ^5 e& xbuyers’ territory. Homebuilding in the Atlantic provinces
$ T: H/ I7 ~) a+ `) r7 v5 bhas 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
strange accumulation of unabsorbed multiples on l’Île de
1 V6 i) w" H9 G) GMontréal – but recent building has been relatively balanced,
given the province’s history of under-building and low ownership
rates. While Ontario homebuilding will reel from a
cyclical downturn, the degree of structural weakness appears
6 g8 q; J% Q$ ?/ `; }. p, Klimited – with the important exception of the Toronto
. A+ e1 T  C" r( {, Y: H  \condo market. Both in Toronto and Vancouver, historically
5 {: ?: ?4 X) a7 t0 J& l% F9 E- chigh levels of apartment-style units presently under
construction mean that record numbers of condos will
reach completion during 2009. If absorption rates fall, as
# f8 y2 i8 R& Ocyclical factors would indicate, condo inventories could
spike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
9 o4 Q6 t) w/ }9 p+ }5 m3 zanticipate that the West Coast will continue to benefit from
inter-provincial and international migration over the coming
years, which, along with improvements in affordability,
will alleviate some of the pressure from overbuilding.
8 E3 ^( A4 Z4 _" v+ l% ^3 hOVERPRICED AND OVERBUILT: CANADIAN HOUSING
) N6 W3 n! [! }2 ^' D2 JMARKET RETURNS TO FUNDAMENTALS
Grant Bishop, Economist
416-982-8063
Pascal Gauthier, Economist
416-944-5730

# b/ a% U/ T3 _5 K/ Khttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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