TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
/ Q' C) q# G* N- M- y8 n9 Gfrom 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
: L! B, V  ~  w7 [8 z. Efundamentals by approximately 9% nationwide. This
( e# K! g: [8 T, Zoverpricing compelled a level of residential construction
that exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
3 l5 Y( J" K5 Kthree years.
. r8 H! l; R9 F8 k5 B- SBy “overpricing” we mean that prices detached from
9 J% K) ~+ }- z& Q- n* A% |their fundamentals, as witnessed by a steep erosion of
7 l4 n  L6 Q: t, K  j8 c- baffordability. The current unwinding of house prices reflects
( z1 R# T+ G3 u2 u4 ~both a cyclical downturn and a return of house prices
to fundamentally justified levels.
We consider “overbuilding” of two forms: “demanddriven”
- z6 _8 S# H2 r$ awhere homebuyers buy up too many houses and
3 u- M8 I, W( X9 Wthat this demand cannot be sustained; and “supply-driven”
5 Z: Q" s3 r! j0 n2 M% hwhere builders accumulate excessive inventories. Although
. c: I. ~, e) l/ a7 N* fthere is evidence of both types, we contend that Canada’s
“overbuilding” was mainly of the first type, where
; a4 y% B! ~  T. G# o& S9 nhomebuyers pushed homebuilding to an unsustainable pitch
that is now being rapidly reined in.
  G  D3 @. C9 f! u& j% X1 |While most markets won’t face U.S.-style overhangs,
  Z$ j  R) l2 W  O1 \( @& ^the construction of too many new homes over the boom
: L8 [2 J- T7 m  R( `$ d  Ameans a deepened slump. This overbuilding will likely weigh
( @9 \* F' S8 \" l! oon markets over the next few years. Even as Canada recovers
/ P6 U. ]  e% q8 zfrom the cyclical downturn, house price growth will
/ j- u' `0 b$ L! {5 H4 ?remain choppy and new residential construction will be
% j1 b8 w! o' k' s% H" \- fdampened, owing to this structural weakness. Construction
is now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
residential construction will fall further to around
! M7 U. K7 y, k% M! C0 V125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
- ~( u, V$ g( B9 [/ s/ \6 ZTo quantify the degree of overpricing and overbuilding,
we first develop an empirical model, based on long-run
# q: H7 U- f( @1 n5 r2 b- Cfundamentals 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
long-run. Since homebuilders build to meet demand, we
/ A3 m0 J/ Y( a9 qregard housing prices and household formation as the drivers
% m' g1 ?8 @: |3 g. cof residential construction.
To examine the degree of overbuilding, we employ a
“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
9 K0 r) {! d& K( S7 Koptimally. We find that actual homebuilding exceeded this
" M& G& a+ t4 T0 p$ Xfundamental-justified level by about 12%. Although new
. \; e( C( v: x# u$ V9 Sunits were being absorbed, homebuyers simply bought too
many houses at prices that exceeded fundamentals.
Regionally, we see the greatest strains on the Prairies,
* P+ Z8 r: K4 E2 v# m: mwhere housing demand will further contract under waning
population inflows. Saskatoon, Calgary and Edmonton are
already witnessing surges in their unsold new homes at the
: P- Z5 W) |6 Q$ c, |2 M& ~very time that the resale market has swung into strong
) n+ M& `3 o/ E9 t- Z9 K! mbuyers’ territory. Homebuilding in the Atlantic provinces
& s' l) _) x; z. l$ Ehas been relatively balanced but, while not plagued by structural
; @$ u1 b2 R) b1 dweakness, will be singed by the downturn nonetheless.
Québec shows signs of strain – especially given the
# V+ k  K8 a0 E9 Ystrange accumulation of unabsorbed multiples on l’Île de
% P4 J8 G! S4 r* f3 Q+ _, ~Montréal – but recent building has been relatively balanced,
1 s9 W- E. D, J8 c( X; u  K8 Ngiven the province’s history of under-building and low ownership
rates. While Ontario homebuilding will reel from a
& N# h% d- w2 \1 i9 @cyclical downturn, the degree of structural weakness appears
$ Z# b) s+ K3 ^; w- j/ T9 Ilimited – with the important exception of the Toronto
condo market. Both in Toronto and Vancouver, historically
& p2 V/ G) P6 ^) ihigh levels of apartment-style units presently under
construction mean that record numbers of condos will
reach completion during 2009. If absorption rates fall, as
4 h  x6 L- M$ k, }) lcyclical factors would indicate, condo inventories could
8 [* K8 H2 p) lspike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
, V. F; t" O2 }$ B7 K  ^anticipate that the West Coast will continue to benefit from
  m9 D1 f# Q9 w% R1 ninter-provincial and international migration over the coming
$ E/ b; \) r9 G2 I& cyears, which, along with improvements in affordability,
. T2 t3 t  C4 j/ \9 @; jwill alleviate some of the pressure from overbuilding.
! v: Z) q3 h* _, k$ Q+ L& H; Z; [OVERPRICED AND OVERBUILT: CANADIAN HOUSING
6 r. C/ J+ t' ^( ?% }MARKET RETURNS TO FUNDAMENTALS
5 X! i& n9 J& \Grant Bishop, Economist
6 F; @( \0 |5 M+ ^" I; ?) T416-982-8063
: A7 _/ Y7 C4 SPascal Gauthier, Economist
' ~( r" ]7 Y. {# `0 u6 P* U416-944-5730

# r+ j5 Q3 R4 @1 Qhttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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