TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
6 s7 P* j$ H4 p4 K" ofrom 2002 to 2008, unsustainable price increases drove
" M* Z" _! V0 l; Z0 U1 aunsustainable levels of building. Our view is that house
3 s  E4 Z- b' t- m; h( x) x4 F4 @prices exceeded the value of housing that was justified by
2 z; m" X- ]  s  yfundamentals by approximately 9% nationwide. This
overpricing compelled a level of residential construction
that exceeded its fundamental-justified level by approximately
  ]  b# s% Y! X# |+ _12%, an excess that was exaggerated in the past
) r, m, Y" a& A9 R0 L% Jthree years.
By “overpricing” we mean that prices detached from
+ r: w6 b0 J7 }, A( R( F' \their fundamentals, as witnessed by a steep erosion of
' c6 p) I1 U7 i  |affordability. The current unwinding of house prices reflects
both a cyclical downturn and a return of house prices
8 B3 j7 \5 H9 |to fundamentally justified levels.
/ Q9 h" e9 ?" VWe consider “overbuilding” of two forms: “demanddriven”
where homebuyers buy up too many houses and
that this demand cannot be sustained; and “supply-driven”
where builders accumulate excessive inventories. Although
6 Z" u  y! x  ~there is evidence of both types, we contend that Canada’s
: f1 y+ C  [/ |5 ~. x“overbuilding” was mainly of the first type, where
/ B; l' z* W  D; P( C2 Bhomebuyers pushed homebuilding to an unsustainable pitch
that is now being rapidly reined in.
( E$ I- O4 q' r) M% YWhile most markets won’t face U.S.-style overhangs,
) Q  t" \: D, q4 i- y; m: {# ^- }the construction of too many new homes over the boom
1 m6 M/ p- y4 l& Dmeans a deepened slump. This overbuilding will likely weigh
on markets over the next few years. Even as Canada recovers
. E( m) j0 o* Wfrom the cyclical downturn, house price growth will
2 e% @  v! D% f0 ^" D2 ~% Kremain choppy and new residential construction will be
dampened, owing to this structural weakness. Construction
is now undershooting fundamentals and we expect this
! u4 J9 e5 \& H% N$ {to persist over 2009 to 2011. We anticipate that nationwide
residential construction will fall further to around
% }4 k/ s% B3 @& S; U$ [% V) L) |125,000 starts over 2009 with a trough around 115,000 units
1 |( d  V( {7 Q; a9 a5 R8 ?$ K! |in the fourth quarter.
To quantify the degree of overpricing and overbuilding,
: N- x) j6 z, F+ R0 ?  C! {we first develop an empirical model, based on long-run
fundamentals of house prices and housing starts in each
; Y8 Q% B9 R( B* W2 W. u# U/ v: n  pprovince. Affordability is the key concept behind home
values since house prices should track incomes over the
5 a0 r" W( _# {* ?! ~long-run. Since homebuilders build to meet demand, we
; y$ b+ I9 f* H8 d* wregard housing prices and household formation as the drivers
of residential construction.
' Q" H; m* v, ?+ ]9 U+ c3 vTo examine the degree of overbuilding, we employ a
& ~; g. [  |  B“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
& V$ V: U: g2 g$ Ooptimally. We find that actual homebuilding exceeded this
- u& L" H# e/ T1 gfundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
/ _' V8 O+ O1 R2 qmany houses at prices that exceeded fundamentals.
* t, h# [) N/ ~- S1 iRegionally, we see the greatest strains on the Prairies,
where housing demand will further contract under waning
population inflows. Saskatoon, Calgary and Edmonton are
7 l3 g3 L. [& {already witnessing surges in their unsold new homes at the
very time that the resale market has swung into strong
3 q: ]. S! r6 K7 R# D# Kbuyers’ territory. Homebuilding in the Atlantic provinces
  @% R1 E0 E- X* c9 I* H8 @has been relatively balanced but, while not plagued by structural
weakness, will be singed by the downturn nonetheless.
Québec shows signs of strain – especially given the
  K7 w' }7 ?& C3 u7 N: Qstrange accumulation of unabsorbed multiples on l’Île de
Montréal – but recent building has been relatively balanced,
/ l& F6 Q1 W. n- Y* {3 lgiven the province’s history of under-building and low ownership
rates. While Ontario homebuilding will reel from a
6 ~+ E9 \; m* v/ F4 n! w9 ncyclical downturn, the degree of structural weakness appears
. E' G2 e; Z( F0 j5 [: e& mlimited – with the important exception of the Toronto
condo market. Both in Toronto and Vancouver, historically
* C& W" P7 ^2 j0 n( S" Rhigh levels of apartment-style units presently under
0 v$ M& K- g2 y% I. ?construction mean that record numbers of condos will
7 K7 T: m- Q/ nreach completion during 2009. If absorption rates fall, as
. y; d: V. T0 e& e' V4 X- bcyclical factors would indicate, condo inventories could
spike severely – particularly in Vancouver. However, while
8 U- X2 q2 w4 mresidential construction in B.C. will definitely droop, we
/ C! [; f$ T: s  G3 \; \0 Lanticipate that the West Coast will continue to benefit from
% {0 M) D3 w2 I, minter-provincial and international migration over the coming
, X$ [4 P$ y( F, Gyears, which, along with improvements in affordability,
# Y3 l/ o- _' i8 Q! K8 Uwill alleviate some of the pressure from overbuilding.
OVERPRICED AND OVERBUILT: CANADIAN HOUSING
% V. a2 u* j# `) z% T/ mMARKET RETURNS TO FUNDAMENTALS
% W% C; {; ~2 e2 M  bGrant Bishop, Economist
416-982-8063
Pascal Gauthier, Economist
416-944-5730
! u0 _' p  r; I: p( e& A
http://www.td.com/economics/special/gb0409_housing_exec.pdf

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