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
9 u3 U, g' B4 }! t: Zunsustainable levels of building. Our view is that house
8 K1 f" y0 ]- K: o3 Zprices exceeded the value of housing that was justified by
fundamentals by approximately 9% nationwide. This
. f4 S% `) r0 G+ s7 e4 Boverpricing compelled a level of residential construction
4 s# f+ B1 Q$ K3 p7 Xthat exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
0 ^6 ?9 L5 v1 Sthree years.
By “overpricing” we mean that prices detached from
4 [( n! }- n1 i, D' A1 P1 xtheir fundamentals, as witnessed by a steep erosion of
affordability. The current unwinding of house prices reflects
3 k: Z3 {, p, A/ r  h( l3 dboth a cyclical downturn and a return of house prices
to fundamentally justified levels.
* T7 [( R( r. n8 ]. x, gWe consider “overbuilding” of two forms: “demanddriven”
, v$ p" g' {6 ]( n' Wwhere homebuyers buy up too many houses and
that this demand cannot be sustained; and “supply-driven”
where builders accumulate excessive inventories. Although
: p+ ^1 z$ Q; I% k$ H. E$ B* Lthere is evidence of both types, we contend that Canada’s
# g2 }; J; E: a7 j; A7 }% Q“overbuilding” was mainly of the first type, where
homebuyers pushed homebuilding to an unsustainable pitch
that is now being rapidly reined in.
" U: ]( g! O% V( o- xWhile most markets won’t face U.S.-style overhangs,
the construction of too many new homes over the boom
+ c6 P+ M: s5 o8 c0 D9 pmeans a deepened slump. This overbuilding will likely weigh
* A4 L' d8 k4 _+ ?3 Xon markets over the next few years. Even as Canada recovers
from the cyclical downturn, house price growth will
7 r! i/ K- ]0 D* dremain choppy and new residential construction will be
dampened, owing to this structural weakness. Construction
6 a8 Z% s% u7 D2 b! K0 K! P2 his now undershooting fundamentals and we expect this
: ~- x1 {, v* o$ F7 k: Gto persist over 2009 to 2011. We anticipate that nationwide
residential construction will fall further to around
6 U6 l. h3 X* q' r  p125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
7 R/ E1 T* A8 d% C+ iTo quantify the degree of overpricing and overbuilding,
/ i0 O+ U0 S  V1 P7 B8 o) Y4 @& mwe first develop an empirical model, based on long-run
6 G) }  u. X' k3 [. K) Z% ufundamentals of house prices and housing starts in each
province. Affordability is the key concept behind home
$ u$ C4 o0 Z. }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.
To examine the degree of overbuilding, we employ a
, U7 l' O1 a8 M! y0 u“counter-factual,” asking what level of residential construction
% h9 M7 A& J& ~7 z. P" ?+ vwould have occurred if housing had been priced
% ]9 S. C6 v# @7 U0 U! doptimally. We find that actual homebuilding exceeded this
fundamental-justified level by about 12%. Although new
' P1 [8 J4 d6 o" y6 R2 iunits were being absorbed, homebuyers simply bought too
many houses at prices that exceeded fundamentals.
Regionally, we see the greatest strains on the Prairies,
7 e0 q9 O, I7 T% Swhere 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
buyers’ territory. Homebuilding in the Atlantic provinces
has been relatively balanced but, while not plagued by structural
; m. t7 F  G* V* _2 n  cweakness, will be singed by the downturn nonetheless.
Québec shows signs of strain – especially given the
strange accumulation of unabsorbed multiples on l’Île de
Montréal – but recent building has been relatively balanced,
9 L6 k; Z! G1 V! v! k) \# ^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
% u' F% M" L5 Q! \" B6 x( M- slimited – with the important exception of the Toronto
  a: d7 y5 F" Q1 P3 f' Qcondo market. Both in Toronto and Vancouver, historically
) f& a! |. f2 m8 M$ ]; bhigh levels of apartment-style units presently under
construction mean that record numbers of condos will
reach completion during 2009. If absorption rates fall, as
cyclical factors would indicate, condo inventories could
spike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
8 T* q  j/ L. k" J) {anticipate that the West Coast will continue to benefit from
; k( _; ]+ I* f2 e3 j8 Qinter-provincial and international migration over the coming
years, which, along with improvements in affordability,
) y" l9 N# d! n9 U+ |! I  Pwill alleviate some of the pressure from overbuilding.
- ?9 h3 X. N) H2 FOVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
Grant Bishop, Economist
1 c  v) C; M6 D7 @0 H416-982-8063
Pascal Gauthier, Economist
416-944-5730
3 ?2 Q  E5 r& R# T6 y1 r
http://www.td.com/economics/special/gb0409_housing_exec.pdf

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