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
: K  ?. c2 [8 k2 |1 Q: \9 F) funsustainable levels of building. Our view is that house
prices exceeded the value of housing that was justified by
/ F/ [4 W; B( R0 k* Gfundamentals by approximately 9% nationwide. This
overpricing compelled a level of residential construction
3 q8 Q5 C, m5 O5 ]& nthat exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
three years.
: n1 a0 A4 `7 v3 _By “overpricing” we mean that prices detached from
their fundamentals, as witnessed by a steep erosion of
8 }; {4 W4 c* V9 \affordability. The current unwinding of house prices reflects
both a cyclical downturn and a return of house prices
6 }2 ?+ @, k# V9 L/ u8 Uto fundamentally justified levels.
3 U) r! G: k0 p& [0 ?7 h& oWe consider “overbuilding” of two forms: “demanddriven”
; ~* ?* u9 ~9 y- d" Ewhere homebuyers buy up too many houses and
that this demand cannot be sustained; and “supply-driven”
: u. k+ {( g4 r! \+ x# \* @where builders accumulate excessive inventories. Although
there is evidence of both types, we contend that Canada’s
/ s; K+ k7 V& m' l: s“overbuilding” was mainly of the first type, where
homebuyers pushed homebuilding to an unsustainable pitch
that is now being rapidly reined in.
" _* t. @8 |, U1 `: ?* fWhile most markets won’t face U.S.-style overhangs,
the construction of too many new homes over the boom
  ?* X' z% B" S2 C5 [% S! }means a deepened slump. This overbuilding will likely weigh
" ]1 N( e( n4 X1 B, N- o3 bon markets over the next few years. Even as Canada recovers
; S* v, P" G) D/ R% d1 Vfrom the cyclical downturn, house price growth will
remain choppy and new residential construction will be
dampened, owing to this structural weakness. Construction
4 w4 C4 U; Z5 d9 Ois now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
residential construction will fall further to around
" ]" G, ^( O1 W1 q125,000 starts over 2009 with a trough around 115,000 units
2 ?7 ^) c- F$ p# Yin the fourth quarter.
  e( c* W& X1 gTo quantify the degree of overpricing and overbuilding,
we first develop an empirical model, based on long-run
4 a! u+ s6 a4 B+ ~5 Yfundamentals of house prices and housing starts in each
province. Affordability is the key concept behind home
values since house prices should track incomes over the
/ u, _' H" {: Z) qlong-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
4 F, ~& }6 B1 d5 U9 V( G“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
optimally. We find that actual homebuilding exceeded this
: c8 ?/ i; T) sfundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
many houses at prices that exceeded fundamentals.
Regionally, we see the greatest strains on the Prairies,
) F+ j9 s  ]: j( p8 d& Awhere housing demand will further contract under waning
population inflows. Saskatoon, Calgary and Edmonton are
* `/ ^+ u1 T% X4 v1 Ialready witnessing surges in their unsold new homes at the
6 m- W! m1 R, {" v" X* P* t* Jvery time that the resale market has swung into strong
! P8 i5 L+ c. l1 D4 ubuyers’ territory. Homebuilding in the Atlantic provinces
- d/ [$ l( P# p" ^" Qhas been relatively balanced but, while not plagued by structural
6 b" s$ ?4 w5 U; ]) {- k* Dweakness, will be singed by the downturn nonetheless.
' `% n4 @6 \, ^) A1 o) J* nQuébec shows signs of strain – especially given the
" Z7 c& D8 x- Y- \6 j) Qstrange accumulation of unabsorbed multiples on l’Île de
1 F$ I/ z. z3 t  w) ?7 OMontréal – but recent building has been relatively balanced,
- ?3 g% ]: P' [, }' d2 bgiven the province’s history of under-building and low ownership
6 z7 Q" P$ B  h4 c* o& srates. While Ontario homebuilding will reel from a
7 o/ C  f' Y5 s, o  {5 Bcyclical downturn, the degree of structural weakness appears
limited – with the important exception of the Toronto
condo market. Both in Toronto and Vancouver, historically
( h, y6 R+ @% \+ L1 t- W' rhigh levels of apartment-style units presently under
construction mean that record numbers of condos will
reach completion during 2009. If absorption rates fall, as
cyclical factors would indicate, condo inventories could
spike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
& A7 p' m1 C( `6 _, y, aanticipate that the West Coast will continue to benefit from
5 r0 L( G' m6 N$ j- N' Jinter-provincial and international migration over the coming
years, which, along with improvements in affordability,
will alleviate some of the pressure from overbuilding.
8 Q+ B! Q: ?) a0 o& n3 V" \OVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
8 W8 s) E; B. Q/ ?2 F1 rGrant Bishop, Economist
6 t# h* e# y0 l" f4 Y) n+ Q416-982-8063
Pascal Gauthier, Economist
416-944-5730
* g( \9 F! A! Y! E4 m: E# B) l
http://www.td.com/economics/special/gb0409_housing_exec.pdf

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