TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
7 r' `, H4 ^% @6 `6 ?from 2002 to 2008, unsustainable price increases drove
$ K& `8 s5 I, s) L3 cunsustainable levels of building. Our view is that house
5 p3 Z, s6 K! n3 S! T* [# wprices exceeded the value of housing that was justified by
' v5 i; U3 \* p  Xfundamentals by approximately 9% nationwide. This
; K$ x1 |3 u5 roverpricing compelled a level of residential construction
) j6 `8 z, o7 v, K6 ^2 ?- hthat exceeded its fundamental-justified level by approximately
: t# L! [; \& j" T; n. U& R% A12%, an excess that was exaggerated in the past
/ O, [' t. z% P# }: |1 e* wthree years.
9 a. Z1 o3 U6 e) e( ~- d3 aBy “overpricing” we mean that prices detached from
their fundamentals, as witnessed by a steep erosion of
affordability. The current unwinding of house prices reflects
9 A8 {) Q& m6 S. W/ z& ^8 \# ^both a cyclical downturn and a return of house prices
+ |% p8 |8 \5 h4 ]7 n( l4 z0 ^6 B- Y$ ]to fundamentally justified levels.
  @% K2 p: ?) r4 n0 B3 `) NWe consider “overbuilding” of two forms: “demanddriven”
where homebuyers buy up too many houses and
7 ]1 Q5 P; i' a& y5 u; Bthat this demand cannot be sustained; and “supply-driven”
where builders accumulate excessive inventories. Although
there is evidence of both types, we contend that Canada’s
* q+ P2 E) ^/ w7 l+ s“overbuilding” was mainly of the first type, where
6 m; i& m# `& t6 M0 M4 Ehomebuyers pushed homebuilding to an unsustainable pitch
# ^+ v. m1 T3 i6 g# Othat is now being rapidly reined in.
# v  J5 Q- s+ u& wWhile most markets won’t face U.S.-style overhangs,
& Q/ Q2 a* C2 E5 Ithe construction of too many new homes over the boom
: b- R; h. D" A# D/ Umeans a deepened slump. This overbuilding will likely weigh
5 R' C) w! ^' Q7 X; r3 Con markets over the next few years. Even as Canada recovers
' M0 O6 {$ y. ^9 Z/ cfrom the cyclical downturn, house price growth will
remain choppy and new residential construction will be
dampened, owing to this structural weakness. Construction
. G9 }$ J, Y+ u. X8 w% B) zis now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
% v, e( H& u  |# ?' n' a( nresidential construction will fall further to around
125,000 starts over 2009 with a trough around 115,000 units
  p& h$ K* }+ b: oin the fourth quarter.
To 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
0 o7 N0 p) u# O# o" rprovince. Affordability is the key concept behind home
; P8 f! A/ W8 ]7 {6 t+ ^values since house prices should track incomes over the
( B/ ^8 l4 p, m$ b+ a2 B! }2 clong-run. Since homebuilders build to meet demand, we
( d! Z2 q6 d( K0 U" j1 kregard housing prices and household formation as the drivers
of residential construction.
8 I. L" ?6 D! s+ _" P$ ?, |) ^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
optimally. We find that actual homebuilding exceeded this
fundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
7 m4 f$ {& N; _; h/ g% l/ t; Umany houses at prices that exceeded fundamentals.
Regionally, we see the greatest strains on the Prairies,
7 b8 m, y. T" L4 O8 q4 Qwhere housing demand will further contract under waning
population inflows. Saskatoon, Calgary and Edmonton are
already witnessing surges in their unsold new homes at the
) s  ]1 o, r$ T' J/ Zvery time that the resale market has swung into strong
buyers’ territory. Homebuilding in the Atlantic provinces
* D: D9 |( _( W% x3 s: Qhas been relatively balanced but, while not plagued by structural
' V5 S$ K0 g# H/ j9 |0 F3 e: J5 Pweakness, will be singed by the downturn nonetheless.
) g. T. X( D4 d  _; X: _* j9 RQuébec shows signs of strain – especially given the
. u4 p/ ]$ P! [1 Z. W' v. ystrange accumulation of unabsorbed multiples on l’Île de
& b) ?1 |& u8 W2 o' `Montréal – but recent building has been relatively balanced,
# g1 \8 \! w' K& Ugiven the province’s history of under-building and low ownership
$ q- V/ N0 G  N# g6 Brates. While Ontario homebuilding will reel from a
+ I# r# C1 r. Y+ m: a$ R% ocyclical downturn, the degree of structural weakness appears
limited – with the important exception of the Toronto
( y9 P' C# B$ h( u0 S3 lcondo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
2 Q! O) t. T- E" J6 M8 j5 ~: D8 Kconstruction mean that record numbers of condos will
8 _0 o& p1 v$ v' ~' y  L/ x. Creach completion during 2009. If absorption rates fall, as
cyclical factors would indicate, condo inventories could
9 }9 @- i: P/ Y# G, O+ ospike severely – particularly in Vancouver. However, while
5 n! K  v4 C1 v5 p9 Cresidential 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
. e6 l% K+ r) tyears, which, along with improvements in affordability,
& N) N4 }+ w' x" s) f) }will alleviate some of the pressure from overbuilding.
OVERPRICED AND OVERBUILT: CANADIAN HOUSING
4 c5 z" n" v! X/ J* r/ @MARKET RETURNS TO FUNDAMENTALS
% ~5 }  @/ i" H- N6 aGrant Bishop, Economist
416-982-8063
1 ~$ m( k* D3 `3 k/ s0 jPascal Gauthier, Economist
416-944-5730
( j& h' q: V: N- ?
% b% v% Z" x2 K! Q. B/ Ihttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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