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
prices exceeded the value of housing that was justified by
$ I4 E. _  x2 F; W- D/ Xfundamentals by approximately 9% nationwide. This
overpricing compelled a level of residential construction
# p! t& N! k3 H0 [% dthat exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
three years.
+ v& _: Z! h) M5 W7 g/ wBy “overpricing” we mean that prices detached from
# p! i; F( C  }their fundamentals, as witnessed by a steep erosion of
affordability. The current unwinding of house prices reflects
both a cyclical downturn and a return of house prices
to fundamentally justified levels.
We consider “overbuilding” of two forms: “demanddriven”
7 s6 E& c4 o7 g9 L+ X; @  r  ewhere homebuyers buy up too many houses and
that this demand cannot be sustained; and “supply-driven”
3 f, A& R. N/ P1 j  \5 o6 ~where builders accumulate excessive inventories. Although
% A% [: U+ v% W6 \there is evidence of both types, we contend that Canada’s
“overbuilding” was mainly of the first type, where
: Q$ N6 F% o  k7 ohomebuyers pushed homebuilding to an unsustainable pitch
+ c$ {6 q7 K/ D9 f; k; l& Y/ I: C8 z1 C1 nthat 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
: N& R! X9 u% Vmeans a deepened slump. This overbuilding will likely weigh
3 `. C& R* q3 r. x1 j: L2 Q. u! Qon markets over the next few years. Even as Canada recovers
+ q& d# z( w$ ^; ]5 Z: d8 f7 ^% Lfrom the cyclical downturn, house price growth will
remain choppy and new residential construction will be
9 `9 q+ x( ^: r" Y$ s& \1 edampened, owing to this structural weakness. Construction
0 e; Z6 j/ w: A5 e1 z1 ]+ e2 eis now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
! t8 ?7 h6 g9 M/ i: kresidential construction will fall further to around
125,000 starts over 2009 with a trough around 115,000 units
; s1 |$ s$ b" }) Ein the fourth quarter.
) ~1 J8 g3 M% aTo quantify the degree of overpricing and overbuilding,
- i' k& [* g5 p* N" W4 c8 R! Fwe first develop an empirical model, based on long-run
fundamentals of house prices and housing starts in each
0 d4 y6 H5 p# c& o+ Kprovince. Affordability is the key concept behind home
; }* ?0 ]/ l% d; E* ^% Z+ _) h/ Rvalues since house prices should track incomes over the
long-run. Since homebuilders build to meet demand, we
8 M& r1 |6 ~! N1 ~- Aregard housing prices and household formation as the drivers
of residential construction.
4 ~' \- d/ `9 Y4 ]) }* P0 I, D* YTo 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
2 C0 [0 |( N: o8 f9 |0 Ifundamental-justified level by about 12%. Although new
: t7 ]; T; l( c$ n( g! [; Zunits were being absorbed, homebuyers simply bought too
) E! ^6 l4 E- |/ @3 ]many houses at prices that exceeded fundamentals.
0 s; e+ L( G9 z* NRegionally, we see the greatest strains on the Prairies,
where housing demand will further contract under waning
population inflows. Saskatoon, Calgary and Edmonton are
) }  I* m( ?8 L1 `already witnessing surges in their unsold new homes at the
very 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
+ D1 X. M7 n9 z& b% q' B$ j7 mweakness, will be singed by the downturn nonetheless.
Québec shows signs of strain – especially given the
strange accumulation of unabsorbed multiples on l’Île de
* M: Y; e& E0 z& {Montréal – but recent building has been relatively balanced,
given 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
limited – with the important exception of the Toronto
condo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
  N$ V2 z2 o. K7 D) n$ e: r: v1 econstruction mean that record numbers of condos will
reach completion during 2009. If absorption rates fall, as
, H- \5 I' e- J& G' s+ k$ Dcyclical factors would indicate, condo inventories could
, P9 t- t; K6 A$ L2 v3 ?spike severely – particularly in Vancouver. However, while
' c% n3 ~/ K# x; J' A# c) y8 Aresidential construction in B.C. will definitely droop, we
) j! Z9 X, p) A/ Wanticipate that the West Coast will continue to benefit from
) n, U' U6 i, ~; \2 i. x7 @+ Qinter-provincial and international migration over the coming
3 T3 w, X- y, o& J1 d+ L0 fyears, which, along with improvements in affordability,
3 S/ e/ V" `5 m. Ywill alleviate some of the pressure from overbuilding.
9 v; D7 `$ V7 H3 E( POVERPRICED AND OVERBUILT: CANADIAN HOUSING
1 Z6 @+ l6 \2 M7 h( F# cMARKET RETURNS TO FUNDAMENTALS
Grant Bishop, Economist
416-982-8063
# V# `2 E* m: ?8 A7 R7 jPascal Gauthier, Economist
. M: N+ ]/ g0 w1 V416-944-5730

/ W( h9 t! g  ~# t1 @/ ohttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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