TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
' L) p7 ~6 t+ M  ^$ h0 P2 ?- q; Xfrom 2002 to 2008, unsustainable price increases drove
7 O3 s4 b8 ]4 t. B3 i9 L$ Q7 l3 nunsustainable levels of building. Our view is that house
prices exceeded the value of housing that was justified by
: e7 Q7 ^& s# x0 c7 Z& {( afundamentals by approximately 9% nationwide. This
) I* z/ q8 A4 Z% |1 Yoverpricing compelled a level of residential construction
( u4 z3 z. ^/ P* {/ {  E' Hthat exceeded its fundamental-justified level by approximately
3 I+ T6 R( S" g7 h12%, an excess that was exaggerated in the past
: w3 Y' u0 f" y; Lthree years.
: q6 ^7 V+ i$ y: w0 ]1 e& ]+ KBy “overpricing” we mean that prices detached from
their fundamentals, as witnessed by a steep erosion of
affordability. The current unwinding of house prices reflects
* p/ S) R/ h: j5 K" Yboth a cyclical downturn and a return of house prices
to fundamentally justified levels.
8 c$ @8 |! B  L% `We 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
there is evidence of both types, we contend that Canada’s
“overbuilding” was mainly of the first type, where
5 L3 X% x. v" {homebuyers pushed homebuilding to an unsustainable pitch
' t) F' G( M8 U( _that is now being rapidly reined in.
+ o4 O' V! x0 I6 G  n2 CWhile most markets won’t face U.S.-style overhangs,
! q0 l% l7 b  @the construction of too many new homes over the boom
means a deepened slump. This overbuilding will likely weigh
! s! ?! Y( O; g" N/ `on markets over the next few years. Even as Canada recovers
' L' e2 m2 L# G" E# }5 lfrom 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
+ Y* w6 \+ K' A3 C+ J' p0 y5 \to persist over 2009 to 2011. We anticipate that nationwide
# D% E; i2 ^- J  n* aresidential construction will fall further to around
125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
To quantify the degree of overpricing and overbuilding,
" \- s. \) f1 mwe first develop an empirical model, based on long-run
. R6 c. R) d, C* \, r4 V4 Jfundamentals 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
long-run. Since homebuilders build to meet demand, we
regard housing prices and household formation as the drivers
3 c3 e9 w8 _! b/ Y2 K! gof residential construction.
; c- q/ |- Y* R3 n: kTo examine the degree of overbuilding, we employ a
5 b! {0 ^- X  p# k( Z( p“counter-factual,” asking what level of residential construction
4 l* a1 ~* i9 i8 M3 [* |would have occurred if housing had been priced
optimally. We find that actual homebuilding exceeded this
1 u% _" C4 m* ^3 M' u" V7 mfundamental-justified level by about 12%. Although new
1 ]! v+ z4 a# V! aunits were being absorbed, homebuyers simply bought too
" q( k! h3 y# W1 m; t7 ]many houses at prices that exceeded fundamentals.
% Q$ m8 n. w  A; ?Regionally, we see the greatest strains on the Prairies,
. @" K, L# h( q/ o1 D5 \where housing demand will further contract under waning
population 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
+ K/ I# B$ {& y# n! dbuyers’ territory. Homebuilding in the Atlantic provinces
5 S# P/ k$ C+ }' G( Uhas 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
* {# d3 \" \  V- u, Q3 t" ]# dstrange accumulation of unabsorbed multiples on l’Île de
6 g% o8 I) g& P3 t  B. }' SMontréal – but recent building has been relatively balanced,
% @$ |; Y- Z! tgiven the province’s history of under-building and low ownership
rates. While Ontario homebuilding will reel from a
- @" A% C* C) qcyclical downturn, the degree of structural weakness appears
2 _$ y6 C: c  m7 u$ Q6 g, E1 h7 f" llimited – with the important exception of the Toronto
condo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
construction mean that record numbers of condos will
' o- r/ ]5 h' L& L0 `5 p5 Greach completion during 2009. If absorption rates fall, as
& c0 N- f; {! c3 ~: y0 }9 Icyclical factors would indicate, condo inventories could
8 x# E6 Q) X7 y1 y% t4 ?( nspike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
+ W3 v( Q5 l1 V1 xanticipate that the West Coast will continue to benefit from
" B" o; H" n+ H( S" @7 |8 Z0 Uinter-provincial and international migration over the coming
! o/ L& ~0 D; b- W5 ^! j. \' ayears, which, along with improvements in affordability,
7 W, n: U+ J6 J: d' uwill alleviate some of the pressure from overbuilding.
# P; u: U3 ~! k( }+ {3 R' rOVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
Grant Bishop, Economist
416-982-8063
$ o3 o7 E3 s5 h6 |0 BPascal Gauthier, Economist
416-944-5730
+ r7 J! B! I- ?3 R1 b; P& W
! K8 V9 ^$ Z% _6 }! T( [http://www.td.com/economics/special/gb0409_housing_exec.pdf

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