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
% m) L4 n4 c5 [unsustainable levels of building. Our view is that house
6 f6 j, w2 h8 Q# N- ]prices exceeded the value of housing that was justified by
! c+ z/ A6 Q2 Q/ U& e4 [9 L6 wfundamentals by approximately 9% nationwide. This
- A# g$ J3 V' E% Goverpricing compelled a level of residential construction
that exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
5 d* ^* t; e$ j' 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 ]8 @! y  r" {both a cyclical downturn and a return of house prices
to fundamentally justified levels.
1 M1 j' k& l# u/ T6 }$ a# {- Q, C$ |We consider “overbuilding” of two forms: “demanddriven”
where homebuyers buy up too many houses and
that this demand cannot be sustained; and “supply-driven”
% Y9 Z$ L* |3 _6 J8 Nwhere builders accumulate excessive inventories. Although
there is evidence of both types, we contend that Canada’s
, g; D! Q& }* d) Q) Z0 v. S“overbuilding” was mainly of the first type, where
homebuyers pushed homebuilding to an unsustainable pitch
& u5 G% J7 {  ]9 D" M/ Zthat is now being rapidly reined in.
5 U* `  q! ~& Z" qWhile 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
$ G! m; l/ j; S/ S2 d7 C/ d5 U+ `from the cyclical downturn, house price growth will
! a/ e: I* I3 Q: D% N) Dremain choppy and new residential construction will be
dampened, owing to this structural weakness. Construction
9 y% b) a1 D2 l& L8 k( ois now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
residential construction will fall further to around
5 i4 f3 N5 P) U! e' z* b0 j+ R125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
To quantify the degree of overpricing and overbuilding,
4 ?! Z7 E" |- g+ E8 F0 F  xwe first develop an empirical model, based on long-run
fundamentals of house prices and housing starts in each
/ M" r! o# T+ i2 X. |5 _" q. O3 rprovince. Affordability is the key concept behind home
values since house prices should track incomes over the
2 k6 I% t6 d' @5 f& D) Clong-run. Since homebuilders build to meet demand, we
regard housing prices and household formation as the drivers
7 c' U& A+ \# A- C* o4 k) ^0 h* fof residential construction.
To examine the degree of overbuilding, we employ a
“counter-factual,” asking what level of residential construction
2 [5 F5 a& h* ]5 Twould have occurred if housing had been priced
optimally. We find that actual homebuilding exceeded this
fundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
, Y8 k, }: a) e6 H1 ^5 Y9 _- Amany houses at prices that exceeded fundamentals.
7 o* d1 {3 _+ g/ Z+ SRegionally, we see the greatest strains on the Prairies,
where housing demand will further contract under waning
population inflows. Saskatoon, Calgary and Edmonton are
1 j$ J  {1 O3 s4 e$ nalready witnessing surges in their unsold new homes at the
& \# O" g! y. D# v, o' u/ avery time that the resale market has swung into strong
; S: W0 l+ L( K" j" b2 \% Abuyers’ territory. Homebuilding in the Atlantic provinces
has been relatively balanced but, while not plagued by structural
( T6 Z- q/ V: \" l% ?$ w8 F' t! Hweakness, will be singed by the downturn nonetheless.
1 x; s. M2 P" p$ m4 WQuébec shows signs of strain – especially given the
8 f( g1 Z' R, S# ostrange accumulation of unabsorbed multiples on l’Île de
+ }4 f& f- j6 ?" k% V( ], Q2 }Montréal – 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
' W: C; k; n9 R" dcyclical downturn, the degree of structural weakness appears
limited – with the important exception of the Toronto
condo market. Both in Toronto and Vancouver, historically
4 r1 `2 Q- M1 h3 T, M! Fhigh levels of apartment-style units presently under
; m* p; \$ ?, ^6 _3 O3 jconstruction mean that record numbers of condos will
# M1 _) m& L& z; E8 d5 j1 q8 U" Zreach completion during 2009. If absorption rates fall, as
* B- ~" `/ E' l/ W6 Ccyclical factors would indicate, condo inventories could
7 n: i* F: w, h+ E$ Hspike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
anticipate that the West Coast will continue to benefit from
) E5 g4 Z  b/ j: E; Cinter-provincial and international migration over the coming
years, which, along with improvements in affordability,
( W8 v/ i6 R% \( j7 ywill alleviate some of the pressure from overbuilding.
" f9 F; x, L0 G) M7 k% [5 POVERPRICED AND OVERBUILT: CANADIAN HOUSING
4 h5 }' B- A; |0 [9 H( `MARKET RETURNS TO FUNDAMENTALS
. ^- `- i" c, }# }' G& T- oGrant Bishop, Economist
# q+ B8 A; Z" m' e1 E$ m$ ?416-982-8063
& a1 s& \7 h0 N# e  j$ h9 yPascal Gauthier, Economist
416-944-5730
" q0 L! N6 B# \6 b& H2 A
5 p# Q9 V; s0 Q5 Z- o$ m$ bhttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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