TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
, A, X+ U7 j2 p8 `6 a* w  I2 Hfrom 2002 to 2008, unsustainable price increases drove
unsustainable levels of building. Our view is that house
0 ^8 t' U8 r2 I  H0 H- Kprices exceeded the value of housing that was justified by
2 P! c4 L% p" A! q* n# q% L" Kfundamentals by approximately 9% nationwide. This
) ^/ l! p# X! I7 z8 xoverpricing compelled a level of residential construction
that exceeded its fundamental-justified level by approximately
( i7 t8 K- @7 L. Y6 T; g12%, an excess that was exaggerated in the past
7 H& {! u9 Z; d" b0 y1 M1 G/ jthree years.
1 r  b- s' s' m2 pBy “overpricing” we mean that prices detached from
their fundamentals, as witnessed by a steep erosion of
affordability. The current unwinding of house prices reflects
1 A+ a3 M2 g1 O0 J( g3 Z6 P1 gboth a cyclical downturn and a return of house prices
' M( L3 U# z4 L2 B" g5 w0 Cto fundamentally justified levels.
* a/ D1 Y; L/ sWe consider “overbuilding” of two forms: “demanddriven”
  O, {5 P7 O2 owhere homebuyers buy up too many houses and
that this demand cannot be sustained; and “supply-driven”
where builders accumulate excessive inventories. Although
! b7 [0 {. P" g2 K0 hthere is evidence of both types, we contend that Canada’s
6 B3 p1 u- k" x“overbuilding” was mainly of the first type, where
6 E  |. g/ m$ ehomebuyers pushed homebuilding to an unsustainable pitch
+ |5 S1 m$ n: s! v1 [# I$ h! b) sthat is now being rapidly reined in.
While most markets won’t face U.S.-style overhangs,
the 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
remain 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
! s1 d3 _1 p- _# \% m3 d6 tresidential construction will fall further to around
125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
, o/ j0 `% C$ l- [' WTo quantify the degree of overpricing and overbuilding,
we first develop an empirical model, based on long-run
' i8 c* a" F" R8 Ffundamentals of house prices and housing starts in each
, Y# u/ H% f6 T! H. Y! Vprovince. 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
of residential construction.
9 E- q, a9 Z+ {To examine the degree of overbuilding, we employ a
" o* f( O5 o" G; u7 Q) F+ P“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
8 \4 @4 h" r: f- B. U' q5 {' D5 ~+ n, Koptimally. We find that actual homebuilding exceeded this
fundamental-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,
9 z( q$ m* r9 ~0 Uwhere housing demand will further contract under waning
, N: l. ?6 _) n; K, z  o/ H: lpopulation inflows. Saskatoon, Calgary and Edmonton are
already witnessing surges in their unsold new homes at the
7 d' x1 ]9 y  x4 M; L' H1 g7 Yvery time that the resale market has swung into strong
buyers’ territory. Homebuilding in the Atlantic provinces
: {) h4 C/ J2 Y: u" ^/ Phas 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
strange accumulation of unabsorbed multiples on l’Île de
6 k7 X) e; e2 G$ t% i* yMontréal – but recent building has been relatively balanced,
7 S& z" }1 a3 P$ rgiven the province’s history of under-building and low ownership
* Y* h; _+ Y/ k$ Lrates. While Ontario homebuilding will reel from a
cyclical downturn, the degree of structural weakness appears
limited – with the important exception of the Toronto
, l) Y& q0 c: r  T; }( s9 l1 gcondo market. Both in Toronto and Vancouver, historically
5 c2 l5 s6 i4 w: Thigh levels of apartment-style units presently under
7 s6 l1 ~% N' C4 Zconstruction mean that record numbers of condos will
8 Z7 e3 l) X2 T6 c, G; P3 B  {reach completion during 2009. If absorption rates fall, as
cyclical factors would indicate, condo inventories could
% L/ Q  Y. c( i( aspike severely – particularly in Vancouver. However, while
6 d3 {: Z5 o2 ]residential construction in B.C. will definitely droop, we
anticipate that the West Coast will continue to benefit from
; |' W  R* y& v/ xinter-provincial and international migration over the coming
years, which, along with improvements in affordability,
will alleviate some of the pressure from overbuilding.
( V# t- g2 A% ~! W  QOVERPRICED AND OVERBUILT: CANADIAN HOUSING
5 `( |* z0 g4 B) S1 IMARKET RETURNS TO FUNDAMENTALS
6 n! Q5 b/ r# GGrant Bishop, Economist
8 u9 B+ t% S' ?2 V2 O416-982-8063
Pascal Gauthier, Economist
416-944-5730

+ q- n7 e8 T, Zhttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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