TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
& i7 ?2 C1 d9 K2 ]from 2002 to 2008, unsustainable price increases drove
7 m7 j  k7 e+ p0 n1 e2 Q6 wunsustainable levels of building. Our view is that house
. A2 n  i5 d+ @6 c% qprices exceeded the value of housing that was justified by
fundamentals by approximately 9% nationwide. This
9 y# X. L( Y0 X0 Yoverpricing compelled a level of residential construction
; {2 R2 h9 ~% |/ {& athat exceeded its fundamental-justified level by approximately
: d) O8 Y, u) B1 J  D" y12%, an excess that was exaggerated in the past
2 ~, F8 s" A/ n' Tthree 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
  H7 x4 ]* E1 A* G& }, Pboth a cyclical downturn and a return of house prices
" m& i2 [+ n. _  kto fundamentally justified levels.
We consider “overbuilding” of two forms: “demanddriven”
where homebuyers buy up too many houses and
that this demand cannot be sustained; and “supply-driven”
  F- J0 R5 E  E$ Zwhere builders accumulate excessive inventories. Although
there is evidence of both types, we contend that Canada’s
) M0 x2 M: H9 |* D* x' ]“overbuilding” was mainly of the first type, where
( T4 j" j+ A  q0 d5 l7 Q0 c4 J& Bhomebuyers pushed homebuilding to an unsustainable pitch
  `- w+ d# I& r  |. _that is now being rapidly reined in.
% a: \# [# U3 R" J5 k4 `5 s6 ^6 s$ aWhile most markets won’t face U.S.-style overhangs,
) }* l0 {& V" tthe construction of too many new homes over the boom
8 a2 A" ~  p5 `! l! Zmeans a deepened slump. This overbuilding will likely weigh
$ L0 `* q. ]. [& F( Kon markets over the next few years. Even as Canada recovers
from the cyclical downturn, house price growth will
! n  V. J5 U; o, l: d) Uremain choppy and new residential construction will be
- ^0 V$ y. Q$ m, j9 Q3 m/ @9 jdampened, owing to this structural weakness. Construction
$ |) U) }- E( i( Uis now undershooting fundamentals and we expect this
: l( G, I0 n1 \. Jto 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.
- J* u% }. X3 mTo quantify the degree of overpricing and overbuilding,
5 |8 x* U+ k# m3 d# v- O" m: k- swe first develop an empirical model, based on long-run
" ^$ Z9 P. f" Q* @' r9 f4 R1 G/ Ufundamentals of house prices and housing starts in each
1 R" `' _1 C2 R& P4 Q: ^+ ^( L3 Nprovince. Affordability is the key concept behind home
* i; A! P: X* p' q& B6 ?values since house prices should track incomes over the
long-run. Since homebuilders build to meet demand, we
* r! v2 D" \. b' eregard housing prices and household formation as the drivers
of residential construction.
To examine the degree of overbuilding, we employ a
3 A3 A8 o9 U+ n, j: P  I- G1 v“counter-factual,” asking what level of residential construction
: e# d. t, y: J8 P" awould have occurred if housing had been priced
+ O8 l; o: z& coptimally. We find that actual homebuilding exceeded this
0 x0 o+ N; R( O& k5 A7 q0 J  pfundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
2 a/ u" M2 y' m. p! @. A5 J) Amany houses at prices that exceeded fundamentals.
Regionally, we see the greatest strains on the Prairies,
where housing demand will further contract under waning
2 }. B! `1 b( B% ~2 q7 p1 b$ o9 W9 qpopulation 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
buyers’ territory. Homebuilding in the Atlantic provinces
. {; i" [- |- x! @3 c, B3 g3 D* q+ T4 Shas been relatively balanced but, while not plagued by structural
& K" h, r* W% Z, S; V# H, j* z6 vweakness, will be singed by the downturn nonetheless.
5 j$ x; G( F: M8 F% \Québec shows signs of strain – especially given the
strange accumulation of unabsorbed multiples on l’Île de
) d1 e, l" f- B. j9 y5 B  W- D% i- GMontréal – but recent building has been relatively balanced,
% E  ^, o" s1 x4 k3 Pgiven the province’s history of under-building and low ownership
+ z6 b) d, E- l; U3 ^rates. While Ontario homebuilding will reel from a
$ f" x9 p9 _4 v, icyclical downturn, the degree of structural weakness appears
4 a9 Q' t$ \" Jlimited – with the important exception of the Toronto
condo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
( `4 [& u( [4 f, Uconstruction mean that record numbers of condos will
3 o( B& V/ L% U/ M5 V9 b1 Kreach completion during 2009. If absorption rates fall, as
cyclical factors would indicate, condo inventories could
spike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
( j$ i1 j2 a- J& Fanticipate that the West Coast will continue to benefit from
inter-provincial and international migration over the coming
years, which, along with improvements in affordability,
# [  V4 e4 o, K/ z5 W8 hwill alleviate some of the pressure from overbuilding.
% y+ e+ B, _% V: fOVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
5 I* x- U2 [2 X, b& e7 W/ lGrant Bishop, Economist
2 A4 M0 r+ w' s( j416-982-8063
Pascal Gauthier, Economist
5 `+ A/ _3 Y0 W) T7 X1 f, w416-944-5730

$ A% b7 J( X6 dhttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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