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
unsustainable levels of building. Our view is that house
$ D( H, i: W6 C& `4 Jprices exceeded the value of housing that was justified by
; q0 P2 a+ x6 L/ Y4 `fundamentals by approximately 9% nationwide. This
9 K: s, R  H0 k. @overpricing compelled a level of residential construction
1 N* e: b5 ?6 n. l$ Jthat exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
three years.
) ?" Z$ R4 G0 V" xBy “overpricing” we mean that prices detached from
$ d& b4 L9 x" _3 atheir fundamentals, as witnessed by a steep erosion of
$ [1 w5 K* W+ Laffordability. The current unwinding of house prices reflects
both a cyclical downturn and a return of house prices
* @$ ^+ s/ \( \+ Hto fundamentally justified levels.
) _1 n4 t5 {5 L2 S2 w- E2 n; q8 @; z# {We consider “overbuilding” of two forms: “demanddriven”
0 Z) B% t9 A. U* _0 S: i8 ~where homebuyers buy up too many houses and
that this demand cannot be sustained; and “supply-driven”
where builders accumulate excessive inventories. Although
+ y) [5 F" c5 Vthere is evidence of both types, we contend that Canada’s
  s) E! k) M4 o4 _. z“overbuilding” was mainly of the first type, where
8 M! h+ z9 h$ Whomebuyers pushed homebuilding to an unsustainable pitch
9 C, C+ {. n1 R7 D$ x* J1 Z/ x7 Tthat is now being rapidly reined in.
While most markets won’t face U.S.-style overhangs,
6 O3 ~1 E' u+ D6 j% D4 ythe construction of too many new homes over the boom
: I0 X$ x" U/ D6 k5 dmeans a deepened slump. This overbuilding will likely weigh
on markets over the next few years. Even as Canada recovers
" q- _) a% e" q4 d" Cfrom the cyclical downturn, house price growth will
2 X4 L" ^: J2 `! X" nremain choppy and new residential construction will be
dampened, owing to this structural weakness. Construction
) o0 O% i4 i& S3 Xis now undershooting fundamentals and we expect this
  _" h. p+ F, U; N6 Yto persist over 2009 to 2011. We anticipate that nationwide
residential construction will fall further to around
/ s' }, r5 X) {$ H* h- P1 h* T125,000 starts over 2009 with a trough around 115,000 units
1 @/ {" k5 Y. ~in the fourth quarter.
To quantify the degree of overpricing and overbuilding,
" l2 ?, B4 j8 Awe first develop an empirical model, based on long-run
" j- Y' T( m- Z$ b  X: ifundamentals of house prices and housing starts in each
( }) t8 j# W0 r6 E8 a$ |province. Affordability is the key concept behind home
9 f. ~+ S  O+ j9 kvalues 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.
0 G( a; j7 [6 L' ?* XTo examine the degree of overbuilding, we employ a
“counter-factual,” asking what level of residential construction
% q, S; g: L# s/ O8 t6 W7 `would have occurred if housing had been priced
optimally. We find that actual homebuilding exceeded this
3 @5 V9 M$ i! M. lfundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
many houses at prices that exceeded fundamentals.
# F5 E: x2 Y& c7 f7 \4 F& J& a9 {$ BRegionally, we see the greatest strains on the Prairies,
( u* z* m  X( n+ dwhere housing demand will further contract under waning
+ Y! u, W+ w: _, B9 s! {population inflows. Saskatoon, Calgary and Edmonton are
already witnessing surges in their unsold new homes at the
: _6 o. }, U) E1 ^3 A3 jvery time that the resale market has swung into strong
buyers’ territory. Homebuilding in the Atlantic provinces
has been relatively balanced but, while not plagued by structural
: n- I8 y% j: O0 gweakness, will be singed by the downturn nonetheless.
Québec shows signs of strain – especially given the
) T( n3 B- [( T; Z1 L0 nstrange accumulation of unabsorbed multiples on l’Île de
( t: }& \2 U# ^# QMontréal – but recent building has been relatively balanced,
2 ?# s( w& R' k' ^given the province’s history of under-building and low ownership
rates. While Ontario homebuilding will reel from a
$ N  K  ^& U6 I+ Y6 |/ l& G! hcyclical downturn, the degree of structural weakness appears
limited – with the important exception of the Toronto
6 }# C. Z+ f7 U4 n" G5 Econdo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
# S3 i1 z# L) E! C( lconstruction mean that record numbers of condos will
reach completion during 2009. If absorption rates fall, as
2 y* D+ S" C# h3 tcyclical factors would indicate, condo inventories could
spike severely – particularly in Vancouver. However, while
" w7 ]1 t, B+ s! U1 Zresidential construction in B.C. will definitely droop, we
anticipate that the West Coast will continue to benefit from
- }5 o0 q$ j! g1 Sinter-provincial and international migration over the coming
; i7 u! C; t9 r! }" T  b+ r5 @6 iyears, which, along with improvements in affordability,
3 W1 U5 v4 f6 K8 S2 Nwill alleviate some of the pressure from overbuilding.
OVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
. Z6 n6 ]9 [- ~5 JGrant Bishop, Economist
416-982-8063
Pascal Gauthier, Economist
/ U/ W, P; d# K0 E  C# r416-944-5730

/ j! ]" {- k" z) a' T  U* K2 vhttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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