TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
* R/ H5 o4 l1 j: v" R( gfrom 2002 to 2008, unsustainable price increases drove
unsustainable levels of building. Our view is that house
7 {, k1 b% D, M  y" W1 c9 Eprices exceeded the value of housing that was justified by
/ h  {7 p8 G6 P9 O1 Mfundamentals by approximately 9% nationwide. This
overpricing compelled a level of residential construction
that exceeded its fundamental-justified level by approximately
5 F8 M$ B9 B5 ^; j4 q$ j12%, an excess that was exaggerated in the past
three years.
# |/ I0 z- H: T: d# d0 @( O" \1 ~$ gBy “overpricing” we mean that prices detached from
4 u/ d- s+ C1 U* {5 f' B9 ltheir 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”
+ v3 |+ n& ^3 |, b% C* bwhere homebuyers buy up too many houses and
& ~# _! ]6 p/ q3 A; n. V4 Lthat 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
9 S' t" \  z1 C/ d$ C# Q! z“overbuilding” was mainly of the first type, where
) |! b5 p! D  g5 Q- N2 e- xhomebuyers pushed homebuilding to an unsustainable pitch
that is now being rapidly reined in.
7 y# _1 g# T" w% B5 T. E/ h9 V$ WWhile most markets won’t face U.S.-style overhangs,
/ _# G1 r# n+ z$ q: xthe construction of too many new homes over the boom
means 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
: w% w9 B! {8 _" b# E( z2 eremain choppy and new residential construction will be
dampened, owing to this structural weakness. Construction
is now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
! g! `  S6 v- s  I6 ~/ iresidential construction will fall further to around
/ Z8 a" v" u& c125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
4 F2 c; V! G3 _' }% c+ {: KTo quantify the degree of overpricing and overbuilding,
we first develop an empirical model, based on long-run
7 N5 n# {$ y- D: s' h& J0 D$ \( tfundamentals of house prices and housing starts in each
0 g  U" l9 I" Hprovince. Affordability is the key concept behind home
3 c. i# W2 E* Z8 j: ]/ v& E" Gvalues since house prices should track incomes over the
* a& D5 [3 A& A: Y; S. \  h$ Ulong-run. Since homebuilders build to meet demand, we
regard housing prices and household formation as the drivers
of residential construction.
2 j/ ~; M2 Z" k9 J0 d# ]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
5 W/ W( k/ a" p% r. I& j& a1 toptimally. We find that actual homebuilding exceeded this
5 ?( `7 u4 F8 Rfundamental-justified level by about 12%. Although new
6 D( m& j3 f( V0 x' xunits were being absorbed, homebuyers simply bought too
/ j' {3 `% {  I# j/ Q5 n. lmany houses at prices that exceeded fundamentals.
Regionally, we see the greatest strains on the Prairies,
where housing demand will further contract under waning
/ M) s( D, |1 Q+ n2 j) o$ Opopulation inflows. Saskatoon, Calgary and Edmonton are
already witnessing surges in their unsold new homes at the
very time that the resale market has swung into strong
0 S- o( n! i& {; x# {" mbuyers’ territory. Homebuilding in the Atlantic provinces
/ L6 _. n5 h, Q$ w& Ehas been relatively balanced but, while not plagued by structural
$ e. [9 O& q5 @weakness, will be singed by the downturn nonetheless.
7 a/ R  ]# i. ]2 M. y* J" Q" f/ L2 {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,
given the province’s history of under-building and low ownership
rates. While Ontario homebuilding will reel from a
  A+ y4 h1 Z+ Y# p0 hcyclical downturn, the degree of structural weakness appears
; I4 b# _8 k/ plimited – with the important exception of the Toronto
condo market. Both in Toronto and Vancouver, historically
4 Q, K! ]; i& g! R# J, ]! F; fhigh levels of apartment-style units presently under
& D$ h* [' x& q( t! Gconstruction mean that record numbers of condos will
3 B/ ~5 y2 Y+ ~/ F8 Treach completion during 2009. If absorption rates fall, as
cyclical factors would indicate, condo inventories could
7 q! M( z! d9 h" c3 U& Aspike 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
inter-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
7 W  O7 U# y" P5 ?6 hMARKET RETURNS TO FUNDAMENTALS
Grant Bishop, Economist
$ H% @9 d/ w( U! T8 M  {$ m( u" E. L416-982-8063
/ }" h6 r$ }/ [1 {% s# ZPascal Gauthier, Economist
416-944-5730

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

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