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
% g$ h% R! F; {, c/ D) \! Fprices exceeded the value of housing that was justified by
fundamentals by approximately 9% nationwide. This
overpricing compelled a level of residential construction
that exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
2 L7 r5 k) b$ V3 Fthree years.
. g1 N# A7 @% z8 @By “overpricing” we mean that prices detached from
% g( m7 B: K8 X! d  ]; Gtheir fundamentals, as witnessed by a steep erosion of
affordability. The current unwinding of house prices reflects
: r2 q/ ]0 m* O0 `& eboth a cyclical downturn and a return of house prices
2 d" z& V7 U4 S& P$ pto fundamentally justified levels.
We consider “overbuilding” of two forms: “demanddriven”
where homebuyers buy up too many houses and
that this demand cannot be sustained; and “supply-driven”
where builders accumulate excessive inventories. Although
4 ^) o+ J9 r) y# A8 p3 j, p7 E  ~there is evidence of both types, we contend that Canada’s
& K3 z6 S! |' K“overbuilding” was mainly of the first type, where
homebuyers pushed homebuilding to an unsustainable pitch
- Y# i; u+ a. K5 d( C  vthat is now being rapidly reined in.
# {5 ]6 }& J$ v9 f  {While most markets won’t face U.S.-style overhangs,
- P% Q; a) L2 h. Wthe construction of too many new homes over the boom
( |+ J: O6 a- a. k- b, rmeans a deepened slump. This overbuilding will likely weigh
on 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
# O, A; N0 i3 g! ndampened, 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
! R: J9 u8 Q7 {% {6 Y+ \# |125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
To quantify the degree of overpricing and overbuilding,
" V1 Y8 {! j( G7 C. |we first develop an empirical model, based on long-run
+ [0 J2 n) @, f* rfundamentals of house prices and housing starts in each
; X/ r# G, h; R4 u! F2 Y7 Kprovince. Affordability is the key concept behind home
values since house prices should track incomes over the
5 b3 D# P# \% R4 K" z/ }long-run. Since homebuilders build to meet demand, we
regard housing prices and household formation as the drivers
of residential construction.
+ Y) e0 X# U% T% [" X6 nTo examine the degree of overbuilding, we employ a
“counter-factual,” asking what level of residential construction
8 a* H7 G: c. G, ?! n( vwould have occurred if housing had been priced
! c4 E0 b' z" s0 L2 y. K! _7 f, eoptimally. We find that actual homebuilding exceeded this
fundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
7 h9 m) H, G& B! w" O  Ymany 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
5 J$ D+ S% |( T" g9 halready witnessing surges in their unsold new homes at the
# b9 U! ~1 T: A$ U7 avery 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
weakness, will be singed by the downturn nonetheless.
; E+ G/ F1 |5 f4 fQuébec shows signs of strain – especially given the
2 J3 M- Z' D+ F6 sstrange accumulation of unabsorbed multiples on l’Île de
! S; ?, I% x" h  t; z: b% ^Montréal – but recent building has been relatively balanced,
given the province’s history of under-building and low ownership
# N6 S: s2 K& y' y$ g/ ?rates. While Ontario homebuilding will reel from a
4 @/ m7 ~5 n+ o0 f' s3 hcyclical downturn, the degree of structural weakness appears
limited – with the important exception of the Toronto
* ^8 U" _. M& p0 ^condo market. Both in Toronto and Vancouver, historically
2 p) ]& `5 x) L' Z* {- E' ohigh levels of apartment-style units presently under
' t1 s* i- V2 ]" T' Zconstruction mean that record numbers of condos will
reach completion during 2009. If absorption rates fall, as
/ q  g# ?4 d9 o) {, }4 ^, @cyclical factors would indicate, condo inventories could
spike severely – particularly in Vancouver. However, while
$ K# n2 F* n  M$ H# Qresidential construction in B.C. will definitely droop, we
2 F3 S" s& L' v& {6 F% @anticipate that the West Coast will continue to benefit from
  @2 ?4 i, ?1 F; O7 yinter-provincial and international migration over the coming
' w6 ~$ _: U2 a( w6 X) }years, which, along with improvements in affordability,
) G7 L: a# L& N6 O# p0 l  Owill alleviate some of the pressure from overbuilding.
+ ~& H: W1 l% A# q  QOVERPRICED AND OVERBUILT: CANADIAN HOUSING
: b1 L* J9 `: _9 \$ g4 M) ~MARKET RETURNS TO FUNDAMENTALS
Grant Bishop, Economist
& F5 _$ G$ x, R! ^416-982-8063
# J* A* |2 a* p5 f" C+ MPascal Gauthier, Economist
# }2 H/ l8 ?) z  o/ a416-944-5730

http://www.td.com/economics/special/gb0409_housing_exec.pdf

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