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
prices exceeded the value of housing that was justified by
$ b# F2 D5 X5 A4 D$ H; O( mfundamentals by approximately 9% nationwide. This
% {9 i$ M3 i6 L2 V1 s" N; Y5 Ioverpricing compelled a level of residential construction
that exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
" E% N+ G( ^& Q* ]& w3 mthree years.
. H3 ]6 @& _, H2 jBy “overpricing” we mean that prices detached from
" R1 }4 p; w% H5 O3 O7 h( k5 m8 gtheir fundamentals, as witnessed by a steep erosion of
affordability. The current unwinding of house prices reflects
' I4 M% {' i3 N3 r* k/ Jboth a cyclical downturn and a return of house prices
" C. v: S/ z2 c- O7 m/ qto fundamentally justified levels.
) W/ z8 ~5 I( s/ z2 o! IWe consider “overbuilding” of two forms: “demanddriven”
where homebuyers buy up too many houses and
that this demand cannot be sustained; and “supply-driven”
' z, i5 U% v. C; X1 C+ Zwhere builders accumulate excessive inventories. Although
- q7 o) O3 X# Q- u  v8 Kthere is evidence of both types, we contend that Canada’s
+ k3 z. ?, D( f6 @0 u; b7 Y/ _“overbuilding” was mainly of the first type, where
4 U! `; T2 f" ^: fhomebuyers pushed homebuilding to an unsustainable pitch
that is now being rapidly reined in.
While most markets won’t face U.S.-style overhangs,
& p; N. Y3 P9 `  G# a. Ythe construction of too many new homes over the boom
: m& w- x5 ~' w7 R+ \# W5 d# Rmeans a deepened slump. This overbuilding will likely weigh
on markets over the next few years. Even as Canada recovers
/ y4 r9 A; W9 ~( |8 Z* f/ R$ o5 y3 E; Afrom the cyclical downturn, house price growth will
9 v3 c+ [) a; u! O3 qremain choppy and new residential construction will be
dampened, owing to this structural weakness. Construction
is now undershooting fundamentals and we expect this
- I4 e# e* [2 @* N% v5 I" Mto persist over 2009 to 2011. We anticipate that nationwide
$ E: y/ V. R( C0 F( }8 e" ~0 qresidential construction will fall further to around
125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
: _6 }% }! a0 ?/ XTo quantify the degree of overpricing and overbuilding,
# y$ k% W3 p& _* v9 Ewe first develop an empirical model, based on long-run
& |4 ]7 o0 }6 c* Afundamentals of house prices and housing starts in each
province. Affordability is the key concept behind home
values since house prices should track incomes over the
2 ^% u5 L  |: n9 L8 M6 }- }long-run. Since homebuilders build to meet demand, we
- I: T+ ]- g2 d- }& Y, Pregard housing prices and household formation as the drivers
of residential construction.
To examine the degree of overbuilding, we employ a
“counter-factual,” asking what level of residential construction
3 c2 i( k/ g- ?, Q. R8 nwould have occurred if housing had been priced
0 S, T, K- n7 N+ H% [  s" Koptimally. We find that actual homebuilding exceeded this
fundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
0 C  P3 s* H5 e/ }4 d! P9 x! Qmany houses at prices that exceeded fundamentals.
Regionally, we see the greatest strains on the Prairies,
! p* x3 H4 i% W. V" U/ dwhere housing demand will further contract under waning
population 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
- m8 o  Q. ~. ?' K: K( p, Xbuyers’ territory. Homebuilding in the Atlantic provinces
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
9 |: f; G* x  P9 w% }) O3 S/ {strange accumulation of unabsorbed multiples on l’Île de
Montréal – but recent building has been relatively balanced,
( g& s( C' ]* q1 X" y9 Egiven the province’s history of under-building and low ownership
rates. While Ontario homebuilding will reel from a
* W1 K) y# B2 R  r1 Q3 Xcyclical downturn, the degree of structural weakness appears
limited – with the important exception of the Toronto
condo market. Both in Toronto and Vancouver, historically
% l" q* D, E/ U- }7 ahigh levels of apartment-style units presently under
! p/ k1 H' ^4 O) Lconstruction mean that record numbers of condos will
+ Y$ ]: Y. Q7 }: Zreach completion during 2009. If absorption rates fall, as
cyclical factors would indicate, condo inventories could
& t% H& S' g& I! m3 Q0 A0 _spike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
9 i, t- n1 b8 S2 E& p8 {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,
8 a' P) L4 \: Q2 X% R/ Ewill alleviate some of the pressure from overbuilding.
4 W6 L9 _- n6 D4 VOVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
% n0 u2 b# n1 h0 p3 r8 n( XGrant Bishop, Economist
  z7 k/ x. }/ r1 z! D- F( N/ C416-982-8063
9 y+ b6 v9 m7 Y6 ?) tPascal Gauthier, Economist
416-944-5730
9 ?2 N) {" Q1 M0 |  f5 G5 V
' J8 V8 W) _. x! G$ rhttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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