TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
4 H7 R% v. j! g$ V1 D. q# L0 Q' Ifrom 2002 to 2008, unsustainable price increases drove
unsustainable levels of building. Our view is that house
prices exceeded the value of housing that was justified by
fundamentals by approximately 9% nationwide. This
# M1 {1 `, Y! N3 l9 f' noverpricing compelled a level of residential construction
8 m) z, M$ X& z9 z$ v4 u. |* fthat exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
+ d* H7 m5 r  \" j5 R. B4 }three years.
8 E( j; P. A% r7 g* _% zBy “overpricing” we mean that prices detached from
their fundamentals, as witnessed by a steep erosion of
3 }" b8 G5 E" Y" qaffordability. The current unwinding of house prices reflects
both a cyclical downturn and a return of house prices
2 ^& h' @2 V# X: `to fundamentally justified levels.
4 g( R9 P/ 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”
$ W0 R7 a; b. M9 |) w8 j, g+ D6 r* ]where builders accumulate excessive inventories. Although
there is evidence of both types, we contend that Canada’s
5 @/ |, E& C+ j4 x4 a1 |% x“overbuilding” was mainly of the first type, where
homebuyers pushed homebuilding to an unsustainable pitch
that is now being rapidly reined in.
5 h$ P4 e7 F/ ^0 `1 q" s$ wWhile most markets won’t face U.S.-style overhangs,
6 U* n7 p$ @& }" h4 v# O0 rthe 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
* ?( a9 |! X/ P  x3 Ffrom the cyclical downturn, house price growth will
remain choppy and new residential construction will be
) v3 M( Z! T" idampened, owing to this structural weakness. Construction
3 n& D- ^6 f) Eis now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
residential construction will fall further to around
, A- F* L+ C  g' ?2 T- B0 [125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
To quantify the degree of overpricing and overbuilding,
we first develop an empirical model, based on long-run
% ~; ]3 M3 C" g; o' ~8 Sfundamentals of house prices and housing starts in each
: G: A% Y8 M& H  n/ m- Yprovince. Affordability is the key concept behind home
values since house prices should track incomes over the
- ~; T( c( H* W* t) p; u. y1 Blong-run. Since homebuilders build to meet demand, we
$ T, i1 m) K8 r8 @& |2 oregard housing prices and household formation as the drivers
of residential construction.
/ t) n" Z. j' h" |3 o, |. ^To examine the degree of overbuilding, we employ a
“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
optimally. We find that actual homebuilding exceeded this
fundamental-justified level by about 12%. Although new
8 `. M, t* x1 tunits were being absorbed, homebuyers simply bought too
) c0 E, i1 R: l$ v8 hmany houses at prices that exceeded fundamentals.
Regionally, we see the greatest strains on the Prairies,
+ [1 G; Z7 C$ \9 T+ C' Z( n. awhere housing demand will further contract under waning
5 @  B9 u# S% w# B/ r8 mpopulation inflows. Saskatoon, Calgary and Edmonton are
already witnessing surges in their unsold new homes at the
, j' y; E1 Z8 J5 R( `very time that the resale market has swung into strong
0 ^7 w3 J! ^3 H$ C5 Sbuyers’ territory. Homebuilding in the Atlantic provinces
has been relatively balanced but, while not plagued by structural
weakness, will be singed by the downturn nonetheless.
: h. H$ h) y' I8 ~( y& bQuébec shows signs of strain – especially given the
strange accumulation of unabsorbed multiples on l’Île de
: O/ b& ?' c$ @$ X" l' RMontréal – but recent building has been relatively balanced,
( y9 D0 d1 l' K. D( y: {1 Igiven the province’s history of under-building and low ownership
rates. While Ontario homebuilding will reel from a
cyclical downturn, the degree of structural weakness appears
& @. Z' ]) Z9 f; O. J: z1 S+ nlimited – with the important exception of the Toronto
condo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
, e  o7 }& D' O: k6 p5 |2 Vconstruction mean that record numbers of condos will
reach completion during 2009. If absorption rates fall, as
cyclical factors would indicate, condo inventories could
. }* J0 N  t+ Q$ Q7 ~+ C% qspike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
anticipate that the West Coast will continue to benefit from
" L8 u# d: n$ |" r+ p2 f2 i1 cinter-provincial and international migration over the coming
years, which, along with improvements in affordability,
will alleviate some of the pressure from overbuilding.
, e& D! E, r9 V7 {- U8 H+ D9 x: X+ lOVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
Grant Bishop, Economist
$ f1 d: \% Z5 N5 u- @416-982-8063
1 n) t0 q( e. t' ]) p# NPascal Gauthier, Economist
2 [2 E7 p9 a7 i' ~8 o1 L9 [- ]416-944-5730
7 Q7 D; u# L  k& e  [% |
3 n' [/ L+ S! @5 Rhttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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