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
% ?* s. G% I$ Hunsustainable levels of building. Our view is that house
prices exceeded the value of housing that was justified by
; v6 g. _0 d. L9 F1 m% hfundamentals by approximately 9% nationwide. This
overpricing compelled a level of residential construction
9 x/ K. [/ l5 L3 g2 f0 S6 V/ g3 Ithat exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
* f; S3 o) U' V, t& ythree years.
% h! ~6 `5 U/ X1 K. }7 u% @0 nBy “overpricing” we mean that prices detached from
their fundamentals, as witnessed by a steep erosion of
6 \* j/ _& ]; ?3 Jaffordability. The current unwinding of house prices reflects
8 `. P; T4 C9 v5 tboth a cyclical downturn and a return of house prices
to fundamentally justified levels.
$ c1 A2 U3 i& eWe consider “overbuilding” of two forms: “demanddriven”
5 r% O1 E0 ^# w% F/ ~5 L  ywhere homebuyers buy up too many houses and
that this demand cannot be sustained; and “supply-driven”
where builders accumulate excessive inventories. Although
6 X4 X5 }( [0 I  X  ^* _6 N4 _there is evidence of both types, we contend that Canada’s
“overbuilding” was mainly of the first type, where
3 J. z: `; `" \6 u7 n5 `' [homebuyers pushed homebuilding to an unsustainable pitch
that is now being rapidly reined in.
7 p  k" Q0 m: O, u7 s) S, _While most markets won’t face U.S.-style overhangs,
; q. }$ C# a: S! [. d( Mthe construction of too many new homes over the boom
2 e7 k( P! E$ V4 F3 M# a; Vmeans a deepened slump. This overbuilding will likely weigh
) D' }1 u4 [' Z$ g+ c- ron markets over the next few years. Even as Canada recovers
from the cyclical downturn, house price growth will
5 C8 B9 l+ z' F! s, Dremain choppy and new residential construction will be
% ~2 y! x; B+ M/ ]; P6 `- ^6 F* F- sdampened, owing to this structural weakness. Construction
1 _$ R0 J, y) D) _" L' u$ Nis now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
7 H$ P4 M2 u6 S' I! m" {residential construction will fall further to around
125,000 starts over 2009 with a trough around 115,000 units
. Y  K9 P; m1 s! I. iin the fourth quarter.
- Q1 Y7 n- K# \# ]To quantify the degree of overpricing and overbuilding,
we first develop an empirical model, based on long-run
+ A; N+ L9 c1 A! ^1 j- a+ S& Cfundamentals of house prices and housing starts in each
4 g5 o2 {' g6 \3 `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
regard housing prices and household formation as the drivers
1 E% N# C1 r0 y. }3 h' Dof residential construction.
To examine the degree of overbuilding, we employ a
% c! y+ y" N& u2 u5 |& o“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
0 z5 N$ Z- c1 L7 \optimally. We find that actual homebuilding exceeded this
fundamental-justified level by about 12%. Although new
$ c1 H. b: k% Vunits were being absorbed, homebuyers simply bought too
4 E& ]$ T- K% M2 p4 |many houses at prices that exceeded fundamentals.
% E" O% u1 t; z$ \# NRegionally, we see the greatest strains on the Prairies,
where housing demand will further contract under waning
. `) ~7 j! ^7 D7 |9 R" ?) @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
( \& C7 a' c! ^, I: u8 a, O5 b& [: \7 Tweakness, will be singed by the downturn nonetheless.
* Q$ L# z& L* D3 U: CQuébec shows signs of strain – especially given the
strange accumulation of unabsorbed multiples on l’Île de
' \% n' Q1 ^9 y+ zMontréal – but recent building has been relatively balanced,
; t: \7 @  @/ J/ I+ x$ ~, ggiven the province’s history of under-building and low ownership
0 Q5 G0 {( x2 H5 Vrates. While Ontario homebuilding will reel from a
% p3 a2 y$ x2 Ecyclical downturn, the degree of structural weakness appears
limited – with the important exception of the Toronto
7 @) V6 N' o+ A, \1 kcondo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
5 e! v( O8 B8 w; z4 Xconstruction mean that record numbers of condos will
: q9 O5 Y: M% t% X2 i4 |reach completion during 2009. If absorption rates fall, as
4 n& I# z6 C: h& Y- o, _cyclical factors would indicate, condo inventories could
spike severely – particularly in Vancouver. However, while
+ R5 M4 R& G4 B; U) qresidential construction in B.C. will definitely droop, we
anticipate that the West Coast will continue to benefit from
inter-provincial and international migration over the coming
years, which, along with improvements in affordability,
' ^; M2 I. e& Jwill alleviate some of the pressure from overbuilding.
OVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
  ]  G- x: @! s" \5 E6 B6 hGrant Bishop, Economist
416-982-8063
- I. @) V/ ~7 d- wPascal Gauthier, Economist
416-944-5730
( O' }/ t4 D" C4 G6 @$ d
http://www.td.com/economics/special/gb0409_housing_exec.pdf

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