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
% W- e/ a0 f  [: Y) l  Dunsustainable levels of building. Our view is that house
, }$ }8 a7 a/ K' [  V  r, Lprices exceeded the value of housing that was justified by
8 A; m1 ^3 d& o' f% |fundamentals by approximately 9% nationwide. This
overpricing compelled a level of residential construction
" J2 O" c" _" S: i4 ~that exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
' E7 z- q& s( z: Wthree years.
3 Y8 F6 R$ E- HBy “overpricing” we mean that prices detached from
their fundamentals, as witnessed by a steep erosion of
5 T- A6 C6 _5 w3 k1 [. r- maffordability. The current unwinding of house prices reflects
both a cyclical downturn and a return of house prices
0 [1 K& m5 g) @to 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”
; Q. w" p& u+ m! c7 K' v6 V" ?where builders accumulate excessive inventories. Although
# _  Z# b2 }# R+ othere is evidence of both types, we contend that Canada’s
6 b/ t9 S0 G% L. `6 @% V6 W“overbuilding” was mainly of the first type, where
. r/ d0 a1 Y4 R& A3 i/ rhomebuyers pushed homebuilding to an unsustainable pitch
( e7 W$ K* m: z& Cthat is now being rapidly reined in.
7 N2 W! c. w0 B$ [5 B3 d2 ]2 W! lWhile most markets won’t face U.S.-style overhangs,
% W7 f. z- Z2 ?/ K3 E# y: y4 u6 Bthe construction of too many new homes over the boom
; `- l+ p0 {) i1 N2 bmeans a deepened slump. This overbuilding will likely weigh
on markets over the next few years. Even as Canada recovers
' K8 \) p! |* Bfrom the cyclical downturn, house price growth will
remain choppy and new residential construction will be
dampened, owing to this structural weakness. Construction
7 c  b% m& d$ D4 [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
125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
' w' m. Z! c& o: ?To quantify the degree of overpricing and overbuilding,
we first develop an empirical model, based on long-run
3 E) O* Y; X; R; 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
. s* A, t/ n  t3 Dregard housing prices and household formation as the drivers
of 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
0 j! ?$ j% D& f) @optimally. We find that actual homebuilding exceeded this
fundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
many houses at prices that exceeded fundamentals.
Regionally, we see the greatest strains on the Prairies,
, \" Z2 R0 @' B  dwhere housing demand will further contract under waning
5 v% `0 U- z) x: H7 spopulation inflows. Saskatoon, Calgary and Edmonton are
  V; |4 b9 S5 ealready witnessing surges in their unsold new homes at the
very 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
; F* H% \  E/ I7 K; T1 A( Oweakness, will be singed by the downturn nonetheless.
( \3 w# ^4 @/ cQuébec shows signs of strain – especially given the
strange accumulation of unabsorbed multiples on l’Île de
6 @7 n' a8 P7 `4 \. E9 u2 UMontréal – 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
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
cyclical factors would indicate, condo inventories could
0 `* L: H# o  J6 n1 {2 Mspike severely – particularly in Vancouver. However, while
2 j  E4 k' k6 q: q, B. W4 S8 @residential construction in B.C. will definitely droop, we
anticipate that the West Coast will continue to benefit from
5 w+ U' ^. Z9 hinter-provincial and international migration over the coming
years, which, along with improvements in affordability,
will alleviate some of the pressure from overbuilding.
OVERPRICED AND OVERBUILT: CANADIAN HOUSING
4 Z% U5 c! e2 R4 z& hMARKET RETURNS TO FUNDAMENTALS
Grant Bishop, Economist
" }; n2 t  O/ N& o, r/ @416-982-8063
Pascal Gauthier, Economist
416-944-5730

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

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