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
fundamentals by approximately 9% nationwide. This
& g! ?6 |2 X1 Joverpricing compelled a level of residential construction
0 y. U' e: S) P! u& J2 l9 N. uthat exceeded its fundamental-justified level by approximately
7 v, M. l) R( P0 [5 D! z12%, an excess that was exaggerated in the past
3 }/ M# B6 B: T6 ~5 G+ ]6 d2 bthree years.
By “overpricing” we mean that prices detached from
2 i0 z6 V- c' _6 g$ m, D! r. Otheir fundamentals, as witnessed by a steep erosion of
: ]" S4 W& s+ c/ i3 Faffordability. The current unwinding of house prices reflects
' W3 d% W$ F; n9 ~& e' s/ \7 Oboth a cyclical downturn and a return of house prices
) [4 @/ l  v( h2 ?to fundamentally justified levels.
6 O3 t, V" K* ~We consider “overbuilding” of two forms: “demanddriven”
  I! G9 P( o5 P  A& Nwhere homebuyers buy up too many houses and
that this demand cannot be sustained; and “supply-driven”
where builders accumulate excessive inventories. Although
. n, {9 d- o! ^5 f4 }  l$ M2 hthere is evidence of both types, we contend that Canada’s
“overbuilding” was mainly of the first type, where
6 b- s* ?2 U. O/ q: D. Phomebuyers pushed homebuilding to an unsustainable pitch
( z8 j$ T5 [( E' v3 L9 gthat 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
* Z. t5 Y9 f; @& W. A+ @' ]7 Y( emeans a deepened slump. This overbuilding will likely weigh
0 U% {3 M4 x) Ron markets over the next few years. Even as Canada recovers
from the cyclical downturn, house price growth will
remain choppy and new residential construction will be
dampened, owing to this structural weakness. Construction
/ r3 t* N. ]! Eis now undershooting fundamentals and we expect this
  L# J* S4 S0 t% w& }0 z  A* jto persist over 2009 to 2011. We anticipate that nationwide
* q7 p+ V& o# q) f* R6 sresidential construction will fall further to around
125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
! M5 G7 e7 F" W  ATo quantify the degree of overpricing and overbuilding,
we first develop an empirical model, based on long-run
0 O2 p- W7 ~' D) jfundamentals 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
# T" n& m% ]3 _' O3 m% S8 u9 e' l) jregard housing prices and household formation as the drivers
/ h8 |. W' P9 m, P+ d: H( N0 Qof residential construction.
0 C* V/ {) ^* V4 T/ NTo examine the degree of overbuilding, we employ a
+ |" e9 h# }# l9 v“counter-factual,” asking what level of residential construction
7 z; W0 g' [4 K5 ^' ]& J, ~. ~would have occurred if housing had been priced
; e2 c5 U+ K1 coptimally. We find that actual homebuilding exceeded this
fundamental-justified level by about 12%. Although new
! j1 n" p( h( zunits were being absorbed, homebuyers simply bought too
many houses at prices that exceeded fundamentals.
Regionally, we see the greatest strains on the Prairies,
where housing demand will further contract under waning
population inflows. Saskatoon, Calgary and Edmonton are
already witnessing surges in their unsold new homes at the
6 U7 f! n4 ]6 p, F1 z. qvery time that the resale market has swung into strong
buyers’ territory. Homebuilding in the Atlantic provinces
has been relatively balanced but, while not plagued by structural
" ]" Q" V. v  ?7 {& Rweakness, will be singed by the downturn nonetheless.
7 y" h$ U& Z* {5 g2 z( a8 i; J$ s9 XQuébec shows signs of strain – especially given the
# @; l. q' P: o: R8 [# e# i& C% Fstrange accumulation of unabsorbed multiples on l’Île de
# v5 ?" h$ v) Q3 M+ T1 VMontréal – but recent building has been relatively balanced,
given the province’s history of under-building and low ownership
3 ~% c: c! ]5 r- E" T  grates. While Ontario homebuilding will reel from a
cyclical downturn, the degree of structural weakness appears
limited – with the important exception of the Toronto
1 O% ?7 z' T8 p7 U& I- [. Acondo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
construction mean that record numbers of condos will
reach completion during 2009. If absorption rates fall, as
$ ]+ L6 \+ k( x, bcyclical factors would indicate, condo inventories could
spike severely – particularly in Vancouver. However, while
7 O  N" C, _2 m4 e" eresidential construction in B.C. will definitely droop, we
anticipate that the West Coast will continue to benefit from
9 h7 R& S" H1 [' j( A7 ginter-provincial and international migration over the coming
! |% [9 h8 i0 L8 r+ }years, which, along with improvements in affordability,
will alleviate some of the pressure from overbuilding.
8 c" Y. N* v- H) tOVERPRICED AND OVERBUILT: CANADIAN HOUSING
2 f" l, E* D2 B* `MARKET RETURNS TO FUNDAMENTALS
3 y3 `: _0 ?. E9 P" _( SGrant Bishop, Economist
416-982-8063
* Z8 P2 A, W: }/ R3 C* _Pascal Gauthier, Economist
416-944-5730
" ~; |3 M  w5 x- e8 i
http://www.td.com/economics/special/gb0409_housing_exec.pdf

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