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
% h6 C; J8 m1 O! H  ^unsustainable levels of building. Our view is that house
prices exceeded the value of housing that was justified by
! p+ Q2 T0 X! K4 l7 @; V9 t3 O- dfundamentals by approximately 9% nationwide. This
6 o. B+ W3 q6 [overpricing compelled a level of residential construction
6 o0 e2 b. O! D# {0 Tthat exceeded its fundamental-justified level by approximately
# B- G: j# z" V" s- Y8 K' i, }+ X# [12%, an excess that was exaggerated in the past
! Y% w0 d$ e& n7 O  othree years.
By “overpricing” we mean that prices detached from
. s3 G8 N6 I( v1 `their fundamentals, as witnessed by a steep erosion of
8 J- R" g! @7 u* n1 a5 kaffordability. The current unwinding of house prices reflects
both a cyclical downturn and a return of house prices
. e' m$ }' v2 U/ h2 Jto fundamentally justified levels.
5 R/ `) M$ Q) \" ^- Q) y+ _& _2 ]We consider “overbuilding” of two forms: “demanddriven”
2 n; K% Z( C9 S: d- W/ a. jwhere homebuyers buy up too many houses and
that 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
“overbuilding” was mainly of the first type, where
homebuyers pushed homebuilding to an unsustainable pitch
" l, v9 U. ~, i* g8 J% [; Qthat is now being rapidly reined in.
( n$ U! a: v/ N, X6 mWhile most markets won’t face U.S.-style overhangs,
the construction of too many new homes over the boom
) X! T& M' o# U( ^6 smeans a deepened slump. This overbuilding will likely weigh
( M3 _. x3 j3 _; c7 Jon markets over the next few years. Even as Canada recovers
: d9 s; u, Y+ W# yfrom the cyclical downturn, house price growth will
remain choppy and new residential construction will be
dampened, owing to this structural weakness. Construction
: q2 `; Q0 |- Fis now undershooting fundamentals and we expect this
# Y2 R; A5 K- Tto persist over 2009 to 2011. We anticipate that nationwide
/ e, J/ V# e' k4 M% dresidential construction will fall further to around
$ n8 x4 E. \; N* O. H! N125,000 starts over 2009 with a trough around 115,000 units
" U: y7 j- p# {- u8 Y/ I; r1 Uin the fourth quarter.
To quantify the degree of overpricing and overbuilding,
" f4 O0 o5 y- X# b7 Y: }we first develop an empirical model, based on long-run
fundamentals of house prices and housing starts in each
$ J9 G- H6 F; f0 Eprovince. Affordability is the key concept behind home
2 O6 X3 F1 E# rvalues since house prices should track incomes over the
long-run. Since homebuilders build to meet demand, we
$ S+ N: z1 t  hregard housing prices and household formation as the drivers
of residential construction.
) v% u6 `' `, t6 ~6 k! _6 P7 L- xTo examine the degree of overbuilding, we employ a
“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
4 `# h/ A$ r# ^1 y) Loptimally. We find that actual homebuilding exceeded this
" F1 h7 a8 i1 {- @3 k( U+ S/ lfundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
6 v3 r) h0 ?  `& C2 Z: |many houses at prices that exceeded fundamentals.
9 U5 B3 W. h3 J" x& l" jRegionally, we see the greatest strains on the Prairies,
" U$ Q/ ?: r2 q; Pwhere housing demand will further contract under waning
( y+ Z. r7 x9 Bpopulation inflows. Saskatoon, Calgary and Edmonton are
  O6 f2 M: d$ i! w8 Y3 u" }# u# Y6 }already 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
5 U: S5 N: j# C1 \) [  C7 ehas been relatively balanced but, while not plagued by structural
- {) x3 O# n6 S% uweakness, will be singed by the downturn nonetheless.
Québec shows signs of strain – especially given the
strange accumulation of unabsorbed multiples on l’Île de
Montréal – but recent building has been relatively balanced,
0 S% }  \# X7 M* D! F6 Y7 kgiven the province’s history of under-building and low ownership
rates. While Ontario homebuilding will reel from a
1 Q7 H0 g: a0 D' tcyclical downturn, the degree of structural weakness appears
5 c& ]) S3 c1 J! R; }( _* W' Wlimited – with the important exception of the Toronto
* N( B' y1 @' d' E+ C" o. c4 i9 gcondo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
. [+ K/ q$ [3 p3 k6 N* i8 Qconstruction mean that record numbers of condos will
reach completion during 2009. If absorption rates fall, as
cyclical factors would indicate, condo inventories could
6 V  d4 y, ]! X* k1 S$ pspike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
  _% Y; j, t$ O6 E& xanticipate that the West Coast will continue to benefit from
$ B0 F, G2 o" w6 I4 f$ o7 `2 iinter-provincial and international migration over the coming
years, which, along with improvements in affordability,
will alleviate some of the pressure from overbuilding.
; s* G: u( }4 V9 x! U4 FOVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
Grant Bishop, Economist
# z, s8 K$ b6 j* s/ l416-982-8063
" c& b9 b; X/ e+ L% yPascal Gauthier, Economist
416-944-5730
$ [9 [! P" R' |4 X
0 s+ U$ L( q5 E- W* P* c# `$ Ghttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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