TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
8 X1 T) h( P! M+ s) b' \$ Yfrom 2002 to 2008, unsustainable price increases drove
unsustainable levels of building. Our view is that house
. W( D; x. R7 ?+ n+ g0 X! jprices 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
three years.
By “overpricing” we mean that prices detached from
3 r% w1 I8 Y$ F" Q2 E2 a6 Xtheir fundamentals, as witnessed by a steep erosion of
affordability. The current unwinding of house prices reflects
both a cyclical downturn and a return of house prices
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”
9 r% Q, A$ q! `& L1 q8 z0 X, c2 rwhere builders accumulate excessive inventories. Although
there is evidence of both types, we contend that Canada’s
4 G5 B) K  F4 t% K“overbuilding” was mainly of the first type, where
; q1 I/ ]5 ~  }1 D( bhomebuyers pushed homebuilding to an unsustainable pitch
% o; g  _9 g* G( }: sthat is now being rapidly reined in.
5 w0 P; z/ l" P2 `6 k6 \/ W" ]While most markets won’t face U.S.-style overhangs,
. T1 o- Z0 |+ C1 Q3 q9 c8 [( O  [2 xthe construction of too many new homes over the boom
& E! w2 T  o: o/ ]3 \means a deepened slump. This overbuilding will likely weigh
, V- Z+ a( H0 W* D+ ion markets over the next few years. Even as Canada recovers
% h  Q. u  ^8 R" w7 [from the cyclical downturn, house price growth will
5 x: q, T3 x7 T9 h0 p7 x1 _, m0 Gremain choppy and new residential construction will be
dampened, owing to this structural weakness. Construction
0 l* D4 [8 x3 Bis now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
4 U, g) l; S( ?0 hresidential construction will fall further to around
125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
  n2 b8 r7 f# t6 S8 U; `# n8 D, ^To quantify the degree of overpricing and overbuilding,
8 P" f  Z8 Q  P+ Z) Zwe first develop an empirical model, based on long-run
fundamentals of house prices and housing starts in each
! n' q0 l+ b: B/ C: Z  v8 Dprovince. Affordability is the key concept behind home
- G2 G7 b3 Q* p8 W! vvalues since house prices should track incomes over the
long-run. Since homebuilders build to meet demand, we
regard 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
9 x" d5 [/ q  p9 s+ Loptimally. 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.
7 o3 o8 [# {( L" V4 Z8 d, yRegionally, we see the greatest strains on the Prairies,
where housing demand will further contract under waning
  R% B/ {8 m& Z  u# F( Mpopulation inflows. Saskatoon, Calgary and Edmonton are
* a! c( Q( l, \. P( Dalready witnessing surges in their unsold new homes at the
$ Y1 C7 P7 h  every time that the resale market has swung into strong
% Q- [% x8 ?4 C  f5 g) |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.
) A$ u4 }* ], l, D  L7 H8 tQuébec shows signs of strain – especially given the
strange accumulation of unabsorbed multiples on l’Île de
5 l8 z: ~2 T  J( |Montréal – but recent building has been relatively balanced,
; C4 W9 y  U( F' N& {0 ~7 \- F; P3 Rgiven the province’s history of under-building and low ownership
( G6 B: m; ]1 crates. While Ontario homebuilding will reel from a
% H+ S0 s8 S1 E# y7 W9 {cyclical downturn, the degree of structural weakness appears
. W9 i- h2 A. p. B7 l4 B( Glimited – 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
8 G. l. F, }) |cyclical factors would indicate, condo inventories could
spike 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
5 D8 }( ?0 q- y3 winter-provincial and international migration over the coming
' E& z5 Q% v4 L: B9 y" cyears, which, along with improvements in affordability,
+ N; ~5 u$ }! a( v2 zwill alleviate some of the pressure from overbuilding.
4 t: n1 N& y  N0 ^OVERPRICED AND OVERBUILT: CANADIAN HOUSING
2 o* o8 `; B6 G( U; x6 _MARKET RETURNS TO FUNDAMENTALS
Grant Bishop, Economist
1 j  I- I7 h- d$ `: @6 B416-982-8063
8 i1 w( ^# A& l( h, ?. A# ^9 X, f" iPascal Gauthier, Economist
- m! c! o. p4 Y1 B3 W416-944-5730

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

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