TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
' q, I3 j5 O/ [9 ~  P! T# W( sfrom 2002 to 2008, unsustainable price increases drove
unsustainable levels of building. Our view is that house
* _* |; ^+ h" d/ ^5 i% R- pprices exceeded the value of housing that was justified by
4 m/ z" G0 q. efundamentals by approximately 9% nationwide. This
overpricing compelled a level of residential construction
6 H0 P+ ?% D$ d6 n0 Athat exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
; S! n0 p! g1 Y8 D' [' vthree years.
" H3 X- q: v6 J% J, U; V0 O) L: |8 jBy “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”
where homebuyers buy up too many houses and
& Y% o( v* ?( p7 ~& R$ c+ kthat this demand cannot be sustained; and “supply-driven”
" K7 }; u, q: j. _! Z1 a1 u( Mwhere builders accumulate excessive inventories. Although
there is evidence of both types, we contend that Canada’s
“overbuilding” was mainly of the first type, where
8 j# C9 D) R: Rhomebuyers pushed homebuilding to an unsustainable pitch
  }! P" g0 ?2 }  Y" }that is now being rapidly reined in.
While most markets won’t face U.S.-style overhangs,
+ H5 W1 L- P5 k+ Y  qthe 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
! O& b% F7 g' E% |9 n9 afrom the cyclical downturn, house price growth will
7 j' U- ]- D3 {0 dremain choppy and new residential construction will be
. Y2 R) l. Q4 d; _dampened, owing to this structural weakness. Construction
. H0 Q& O7 C( ?+ Q: x1 F5 S0 Q, bis now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
residential construction will fall further to around
* c* Y7 m+ k3 t/ d- l/ Q% R125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
* b8 f1 ]  I- P5 L# B5 xTo quantify the degree of overpricing and overbuilding,
- P) Y0 u  V% U. u' Pwe first develop an empirical model, based on long-run
9 H4 A7 g( o# a6 u& Hfundamentals of house prices and housing starts in each
province. Affordability is the key concept behind home
) W$ m/ h3 }' p+ `6 m5 fvalues 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.
To examine the degree of overbuilding, we employ a
& S1 T( I/ @9 n  v“counter-factual,” asking what level of residential construction
would 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
many houses at prices that exceeded fundamentals.
5 _0 T% }3 o% L% [- f8 xRegionally, we see the greatest strains on the Prairies,
where housing demand will further contract under waning
! F# ^: |9 p/ X+ f: xpopulation 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
2 D; J5 \+ j% b/ t: F/ \) O+ Yhas been relatively balanced but, while not plagued by structural
weakness, will be singed by the downturn nonetheless.
! O9 J5 E4 d9 v. Y3 B$ A9 s2 b1 KQuébec shows signs of strain – especially given the
9 i, \+ A' u- \8 e, K9 Zstrange accumulation of unabsorbed multiples on l’Île de
Montréal – but recent building has been relatively balanced,
% o5 j- B' X) |3 a; b" _given the province’s history of under-building and low ownership
4 X6 |* B2 l. d: {7 |. D2 @( Crates. While Ontario homebuilding will reel from a
cyclical downturn, the degree of structural weakness appears
limited – with the important exception of the Toronto
# Y  S( P+ u' X" j7 n! _$ M$ Vcondo market. Both in Toronto and Vancouver, historically
/ d& y3 v3 ]. f8 c. V0 vhigh levels of apartment-style units presently under
construction mean that record numbers of condos will
' Q3 c! S+ b: N; I" i0 rreach 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
anticipate that the West Coast will continue to benefit from
inter-provincial and international migration over the coming
years, which, along with improvements in affordability,
4 _, E' L- S" e" ~  B8 }will alleviate some of the pressure from overbuilding.
1 t$ C. \0 H' y; f4 WOVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
3 s0 S2 a$ ~" W- g; I; vGrant Bishop, Economist
416-982-8063
( k( a3 I3 r+ Q) z( A5 W2 jPascal Gauthier, Economist
416-944-5730
" n' i) U- a0 s/ V+ D7 ]
http://www.td.com/economics/special/gb0409_housing_exec.pdf

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