TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
6 x; t, {9 M* e, A$ sfrom 2002 to 2008, unsustainable price increases drove
0 O! r! ^4 g7 N/ F% j, s, ?unsustainable levels of building. Our view is that house
! ?! V  _1 [& x' }: R. B0 K  oprices exceeded the value of housing that was justified by
" n/ n/ \3 O, N5 K" I# Wfundamentals by approximately 9% nationwide. This
4 ?  b2 p: I. Z! [. Foverpricing 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
$ n7 R" o- \' P0 r$ s% Atheir fundamentals, as witnessed by a steep erosion of
' n" `+ r& x/ O; c# vaffordability. The current unwinding of house prices reflects
both a cyclical downturn and a return of house prices
3 N9 h8 D) T9 O. O8 X+ \+ bto fundamentally justified levels.
We consider “overbuilding” of two forms: “demanddriven”
where homebuyers buy up too many houses and
2 W% z. H( {4 N# q# [5 zthat this demand cannot be sustained; and “supply-driven”
( m  E$ D$ r1 L( N" v& @$ bwhere builders accumulate excessive inventories. Although
  g6 v) z$ J+ ythere is evidence of both types, we contend that Canada’s
) P; o, s) ~. n" o6 Z8 F“overbuilding” was mainly of the first type, where
homebuyers pushed homebuilding to an unsustainable pitch
that is now being rapidly reined in.
% {! u. ?3 A. U: ~/ }" P. |1 DWhile most markets won’t face U.S.-style overhangs,
8 p/ k8 e1 H7 P3 h+ i1 I/ K' k5 bthe construction of too many new homes over the boom
/ R4 F! w# F- t. fmeans a deepened slump. This overbuilding will likely weigh
# l# a1 B1 O: W4 P6 x8 }on markets over the next few years. Even as Canada recovers
3 H; z" s( c/ n' S/ `3 H0 cfrom the cyclical downturn, house price growth will
remain choppy and new residential construction will be
dampened, owing to this structural weakness. Construction
is now undershooting fundamentals and we expect this
+ `! B$ ]- |2 m2 Q6 y* zto persist over 2009 to 2011. We anticipate that nationwide
( e4 |! ?0 |( Fresidential construction will fall further to around
2 t9 P3 U6 S+ z6 i8 `- c125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
To quantify the degree of overpricing and overbuilding,
) Q( r4 P! E$ x5 d; uwe first develop an empirical model, based on long-run
$ Q$ b. C9 C/ J) Xfundamentals of house prices and housing starts in each
province. Affordability is the key concept behind home
8 d9 G* L( p* W' K- r% Hvalues 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.
! ~9 c2 k' G9 Y/ BTo examine the degree of overbuilding, we employ a
, i  L1 {5 I$ h, J“counter-factual,” asking what level of residential construction
+ B" f6 t1 [3 Q& ?: Q' Owould have occurred if housing had been priced
optimally. We find that actual homebuilding exceeded this
  V& y1 W3 {! t* I9 J2 T) T$ ]- l; ^fundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
. k0 p1 K1 e2 {% v) k) cmany houses at prices that exceeded fundamentals.
Regionally, we see the greatest strains on the Prairies,
where housing demand will further contract under waning
% W+ [0 O% e! J' u! Opopulation inflows. Saskatoon, Calgary and Edmonton are
5 X/ `3 P3 U2 v5 l) 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
, {4 Y. m; W5 E: @has been relatively balanced but, while not plagued by structural
+ }9 ]' A: d- k. x2 |weakness, will be singed by the downturn nonetheless.
Québec shows signs of strain – especially given the
" p/ J* S1 V" S- I8 @0 D5 \1 o$ Qstrange accumulation of unabsorbed multiples on l’Île de
Montréal – but recent building has been relatively balanced,
  M7 j$ a. m3 Y' Y& `- vgiven the province’s history of under-building and low ownership
+ s- m. F% N/ g$ [! U2 F& {rates. While Ontario homebuilding will reel from a
cyclical downturn, the degree of structural weakness appears
# F5 \' H* Y) ^5 M+ zlimited – with the important exception of the Toronto
condo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
0 M* J% s9 ]) u) t; ~construction mean that record numbers of condos will
reach completion during 2009. If absorption rates fall, as
5 @. C& x0 Q9 _. ]cyclical factors would indicate, condo inventories could
- \+ O+ s: t- x4 yspike severely – particularly in Vancouver. However, while
- \# M, l% u, ?; a  Oresidential construction in B.C. will definitely droop, we
anticipate that the West Coast will continue to benefit from
# g* v% u' O! L& Yinter-provincial and international migration over the coming
9 |. L% i' r0 R- Y' y- oyears, which, along with improvements in affordability,
will alleviate some of the pressure from overbuilding.
6 @. i. |( b2 j+ ?OVERPRICED AND OVERBUILT: CANADIAN HOUSING
# `# Q0 @  D5 nMARKET RETURNS TO FUNDAMENTALS
; Z' v& \8 d0 e9 pGrant Bishop, Economist
416-982-8063
4 T6 O" s# S7 \4 u7 D, RPascal Gauthier, Economist
0 K2 F$ o+ X0 f2 B; \4 _5 z416-944-5730

3 v, _: @" t: d/ Uhttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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