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
& {3 r% S9 J. o  T: V1 h" f! {3 }unsustainable levels of building. Our view is that house
! X* o. b3 i! ?prices exceeded the value of housing that was justified by
. ], h; H2 R8 f& vfundamentals by approximately 9% nationwide. This
overpricing compelled a level of residential construction
! {2 y. _& S3 O/ ]' J! Ythat exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
* r3 D" p. Y3 B% e. Pthree years.
By “overpricing” we mean that prices detached from
their fundamentals, as witnessed by a steep erosion of
, O) ?. Q  o% n6 Caffordability. The current unwinding of house prices reflects
both a cyclical downturn and a return of house prices
: v& s! b. y2 rto fundamentally justified levels.
$ G" _: W) n# y- |8 m. p6 }! sWe consider “overbuilding” of two forms: “demanddriven”
) ?6 _4 |: f( z% \% bwhere homebuyers buy up too many houses and
that this demand cannot be sustained; and “supply-driven”
where builders accumulate excessive inventories. Although
  O( u3 \- \% I& fthere is evidence of both types, we contend that Canada’s
' z: |& H) q  c“overbuilding” was mainly of the first type, where
& a) o) a5 H" zhomebuyers pushed homebuilding to an unsustainable pitch
' R9 v6 w- R8 }$ n2 z$ c& x" M6 Qthat 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
# ^, e* _. _7 z. U3 Tmeans a deepened slump. This overbuilding will likely weigh
: A7 N6 U' `# U3 [: l. @on markets over the next few years. Even as Canada recovers
5 x# @, m2 t7 z; f; ^from the cyclical downturn, house price growth will
* `# ~9 H) M  ~% t9 \remain choppy and new residential construction will be
% h( u8 e; I! V( x, Zdampened, owing to this structural weakness. Construction
9 a' l! t% F2 v* V- Tis now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
: b: \/ b) d* Y2 G* _residential construction will fall further to around
* K* f) F8 M* x1 u, R8 `' ]6 J/ T125,000 starts over 2009 with a trough around 115,000 units
1 C( Y- M3 K- c. C0 z# I8 _2 Fin the fourth quarter.
# B3 F6 O( [2 STo quantify the degree of overpricing and overbuilding,
we first develop an empirical model, based on long-run
( v" k/ W: T* X' j2 j5 J  B5 `! Wfundamentals 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
* }; T! x- ^: c! u( A4 z8 Vregard housing prices and household formation as the drivers
of residential construction.
To examine the degree of overbuilding, we employ a
“counter-factual,” asking what level of residential construction
! A1 C, l. ~, ^3 Q# H; p  O" Pwould have occurred if housing had been priced
7 `- y* h2 p8 a2 Poptimally. We find that actual homebuilding exceeded this
fundamental-justified level by about 12%. Although new
# a1 U+ U  w9 d  d6 aunits were being absorbed, homebuyers simply bought too
many houses at prices that exceeded fundamentals.
Regionally, we see the greatest strains on the Prairies,
2 A) ?& L6 l! A* X7 Rwhere housing demand will further contract under waning
population inflows. Saskatoon, Calgary and Edmonton are
: p3 k+ {9 Y" C( ]+ j  falready witnessing surges in their unsold new homes at the
" O% B4 z; A, M3 Svery 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
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
9 R7 L8 w9 G, x$ i4 ^Montréal – but recent building has been relatively balanced,
- A- J* E* I9 o& {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
$ p% `" H" D# ]( A' N0 U; Alimited – with the important exception of the Toronto
0 _, Z8 n' g9 o6 D7 scondo market. Both in Toronto and Vancouver, historically
, j. j8 ]7 p/ _3 g( v5 f6 i2 ^high levels of apartment-style units presently under
construction mean that record numbers of condos will
reach completion during 2009. If absorption rates fall, as
6 p+ p8 B. t: F% c3 lcyclical factors would indicate, condo inventories could
- e3 }5 _7 h, X" c( Zspike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
6 j# B. ~4 m7 F/ D# a& aanticipate that the West Coast will continue to benefit from
5 N1 t9 ^6 W, S$ Tinter-provincial and international migration over the coming
years, which, along with improvements in affordability,
' K7 |! ?! b. E; hwill alleviate some of the pressure from overbuilding.
( A" [3 ]: U. c7 iOVERPRICED AND OVERBUILT: CANADIAN HOUSING
, v/ s" k; m9 Z3 {* pMARKET RETURNS TO FUNDAMENTALS
Grant Bishop, Economist
416-982-8063
Pascal Gauthier, Economist
416-944-5730
* |% S9 i, h; a, i! J% O: Q
! Y8 }8 a1 w  A" ?1 Vhttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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