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
unsustainable levels of building. Our view is that house
2 V/ K( h: M2 x& a) v! }prices exceeded the value of housing that was justified by
+ J  _2 O5 m: K- zfundamentals by approximately 9% nationwide. This
overpricing compelled a level of residential construction
: Y5 y. r* _7 y* l! S9 _that exceeded its fundamental-justified level by approximately
6 F& U6 n+ _  Z! {12%, an excess that was exaggerated in the past
three years.
1 H* U' h2 G2 R) c- k' S8 ]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.
4 q, ~5 b( X% ]. GWe consider “overbuilding” of two forms: “demanddriven”
where homebuyers buy up too many houses and
. M$ p, E0 F* \* k; [& T5 Ethat this demand cannot be sustained; and “supply-driven”
  O% t6 A# u2 w: }* Rwhere builders accumulate excessive inventories. Although
there is evidence of both types, we contend that Canada’s
' ?7 |" ?1 |2 t: K0 R3 y“overbuilding” was mainly of the first type, where
homebuyers pushed homebuilding to an unsustainable pitch
that 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
, o/ b: u+ h# A, aon markets over the next few years. Even as Canada recovers
' ?- l* P, G( T  V! O9 D6 r! ufrom the cyclical downturn, house price growth will
1 l; w7 |* x0 r/ f- T/ C8 Tremain choppy and new residential construction will be
4 W, [% ^; Q: U/ T. Z) {8 Udampened, owing to this structural weakness. Construction
is now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
; B4 C& |& U( n$ S2 @! f) ?residential construction will fall further to around
9 y! ^+ h# b' o# n0 o0 h3 i125,000 starts over 2009 with a trough around 115,000 units
/ P9 W' Z% @2 {8 qin the fourth quarter.
To quantify the degree of overpricing and overbuilding,
we first develop an empirical model, based on long-run
8 s! ]3 n3 s( O6 J( X% L6 x" ?* M8 Cfundamentals of house prices and housing starts in each
0 g* v8 v. `: b. h- F* Qprovince. Affordability is the key concept behind home
+ s( w& P8 c3 ]* M, kvalues since house prices should track incomes over the
long-run. Since homebuilders build to meet demand, we
. {& d- Q3 d2 g! X, o: Y$ S1 f6 @6 f7 gregard housing prices and household formation as the drivers
of residential construction.
To examine the degree of overbuilding, we employ a
2 z: I% g; u" k2 N3 l/ v“counter-factual,” asking what level of residential construction
/ P$ l$ y" P7 R! s; @) hwould have occurred if housing had been priced
' j1 e0 D9 G5 E( i- P! _optimally. We find that actual homebuilding exceeded this
7 O0 E3 W" s( K$ D  b0 ]fundamental-justified level by about 12%. Although new
/ f# J& I. U: e0 Yunits were being absorbed, homebuyers simply bought too
many houses at prices that exceeded fundamentals.
Regionally, we see the greatest strains on the Prairies,
  ^& h8 n, y. kwhere housing demand will further contract under waning
: d2 J4 w7 y, W: S6 V. s1 Kpopulation inflows. Saskatoon, Calgary and Edmonton are
& `/ M) y7 O4 B2 Yalready witnessing surges in their unsold new homes at the
& @# i* d; i0 N, v% H/ Cvery time that the resale market has swung into strong
buyers’ territory. Homebuilding in the Atlantic provinces
7 @* b; Y& Z; N" [has 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
Montréal – but recent building has been relatively balanced,
given the province’s history of under-building and low ownership
' j6 g1 ?- X/ L2 s; B0 k/ Y4 arates. While Ontario homebuilding will reel from a
cyclical downturn, the degree of structural weakness appears
+ F8 `; U- i, S- {3 dlimited – with the important exception of the Toronto
( W$ `; M& V/ i  }7 ~  g$ mcondo market. Both in Toronto and Vancouver, historically
2 W) s: |0 @) Phigh levels of apartment-style units presently under
construction mean that record numbers of condos will
reach completion during 2009. If absorption rates fall, as
cyclical factors would indicate, condo inventories could
& M, |, ?! f. I* n, X# kspike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
! F9 C7 l* N% q) M5 W# J! Canticipate that the West Coast will continue to benefit from
8 D- J3 @+ |$ L. w0 Z  Z5 s! Tinter-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
: h  Q8 A, C; h% B+ uMARKET RETURNS TO FUNDAMENTALS
( k& s0 j7 j1 R1 bGrant Bishop, Economist
416-982-8063
Pascal Gauthier, Economist
/ M( x5 h$ o& e5 ~8 v4 L0 `8 B416-944-5730

  }9 m$ z  t/ ^3 E& u" ?3 k( n1 @4 khttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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