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
overpricing compelled a level of residential construction
* a) _  k; q! L! [8 g, }+ `that exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
; Q1 ]" G* A. pthree years.
1 h  X4 L) h  K* ABy “overpricing” we mean that prices detached from
1 F. i$ E' }7 v* C8 `their fundamentals, as witnessed by a steep erosion of
/ T% a  i( K6 j) Haffordability. The current unwinding of house prices reflects
both a cyclical downturn and a return of house prices
to fundamentally justified levels.
5 ]0 t7 b9 f5 [$ S& V) W, nWe consider “overbuilding” of two forms: “demanddriven”
where homebuyers buy up too many houses and
that this demand cannot be sustained; and “supply-driven”
3 n0 J) J8 ]+ G) o" G. [0 p$ pwhere builders accumulate excessive inventories. Although
, Y5 @/ ?" k/ N* [6 }. bthere is evidence of both types, we contend that Canada’s
% F6 R0 k9 ]* Z) {“overbuilding” was mainly of the first type, where
homebuyers pushed homebuilding to an unsustainable pitch
. Q4 Y' `1 X9 R2 y& H4 othat is now being rapidly reined in.
0 ~$ c, x- X5 `& V* y# p, [While most markets won’t face U.S.-style overhangs,
( S9 Y5 d4 {1 W% V0 Z* \& g3 Jthe construction of too many new homes over the boom
means a deepened slump. This overbuilding will likely weigh
" u  E8 K1 }( c) [# p% C" oon markets over the next few years. Even as Canada recovers
, P8 G* t' w( q' Efrom the cyclical downturn, house price growth will
; h* M/ c: t8 E  e  a9 fremain choppy and new residential construction will be
dampened, owing to this structural weakness. Construction
/ o' f6 A6 Q4 m7 J" ^9 u$ x1 xis now undershooting fundamentals and we expect this
% }, L  g/ ]8 f- cto persist over 2009 to 2011. We anticipate that nationwide
residential construction will fall further to around
125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
( ^) s; t& o1 N, r! ]) d, LTo quantify the degree of overpricing and overbuilding,
we first develop an empirical model, based on long-run
fundamentals of house prices and housing starts in each
( `7 z$ X  S+ x) A# H# z* M8 o0 Qprovince. 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+ T/ G1 ^2 @8 \regard housing prices and household formation as the drivers
of residential construction.
" F1 e0 t3 D1 ]# _6 j- JTo examine the degree of overbuilding, we employ a
“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
4 D; |9 K1 w2 t, g# u8 ^( j. ~" emany houses at prices that exceeded fundamentals.
1 J9 j$ W/ m) E; H* x$ o7 D& x  ]; tRegionally, we see the greatest strains on the Prairies,
: S# V3 U  {, k$ Kwhere housing demand will further contract under waning
3 A! X/ `+ H3 {: ]4 K" upopulation 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
9 C, B; L1 _' S: E/ c3 A* ubuyers’ territory. Homebuilding in the Atlantic provinces
; [. B' y! T4 z! i4 N: Phas 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
strange accumulation of unabsorbed multiples on l’Île de
) [# C% H3 e% \2 HMontréal – 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
cyclical downturn, the degree of structural weakness appears
limited – with the important exception of the Toronto
condo market. Both in Toronto and Vancouver, historically
" w4 Y, ?2 a* D5 }& @* ]! bhigh levels of apartment-style units presently under
% ^- I$ @: d$ {; Mconstruction mean that record numbers of condos will
% ?5 p& ^+ k- T- Y, d  Kreach completion during 2009. If absorption rates fall, as
1 s! h; Q, i! P. Hcyclical factors would indicate, condo inventories could
" R2 Z) q9 B* K, H3 S  yspike 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
, S) P* }6 J5 L7 O3 oyears, which, along with improvements in affordability,
will alleviate some of the pressure from overbuilding.
4 o1 a# z: f# J% J3 V$ B+ ]) cOVERPRICED AND OVERBUILT: CANADIAN HOUSING
8 k* F8 ^' v1 u, [7 _( w. t  CMARKET RETURNS TO FUNDAMENTALS
1 g1 C) b. l9 G$ A1 ]Grant Bishop, Economist
% O( `2 y& ]8 A416-982-8063
6 l6 D4 D& V- M6 [5 g" p* U: kPascal Gauthier, Economist
416-944-5730
$ {& c0 p* P; h+ E# \- A
http://www.td.com/economics/special/gb0409_housing_exec.pdf

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