TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
2 ]! }3 T" T+ n- D% ?- qfrom 2002 to 2008, unsustainable price increases drove
: a8 L% r3 j2 x! t7 ?unsustainable levels of building. Our view is that house
prices exceeded the value of housing that was justified by
% b3 [) t, i% e+ qfundamentals by approximately 9% nationwide. This
) \/ s" D5 W+ Y4 Goverpricing compelled a level of residential construction
that exceeded its fundamental-justified level by approximately
/ i/ l+ S( @5 m# ]- w; V) |* S12%, an excess that was exaggerated in the past
three years.
9 k' |  C- T+ I9 Y- nBy “overpricing” we mean that prices detached from
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
4 X0 U! G# N1 U2 @6 ]to fundamentally justified levels.
+ `% @9 v' t4 U) l$ `We consider “overbuilding” of two forms: “demanddriven”
- x% E; l5 _% l/ {where homebuyers buy up too many houses and
that this demand cannot be sustained; and “supply-driven”
where builders accumulate excessive inventories. Although
there is evidence of both types, we contend that Canada’s
5 y% }7 P; I+ ?“overbuilding” was mainly of the first type, where
homebuyers pushed homebuilding to an unsustainable pitch
1 _+ q, ]0 H9 o6 X4 o1 m' C. e& V4 pthat 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
means a deepened slump. This overbuilding will likely weigh
* j% @$ |0 h+ e2 Y) V, Mon markets over the next few years. Even as Canada recovers
# K+ R0 L" |1 ?) L; xfrom the cyclical downturn, house price growth will
, m7 H% k5 V& X7 i; l) gremain choppy and new residential construction will be
dampened, owing to this structural weakness. Construction
# t" c9 h$ {8 e  [5 ^/ R; C+ S! Q+ Ois now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
, G# B/ b3 a0 r5 p4 H. Jresidential construction will fall further to around
125,000 starts over 2009 with a trough around 115,000 units
9 Y) \0 G8 S6 q' ]: d" Hin the fourth quarter.
$ n5 Y/ A: j/ h. N+ Y" q; U# f( RTo quantify the degree of overpricing and overbuilding,
: w* z. a; U: a! F% M) Swe first develop an empirical model, based on long-run
. l9 I7 k$ l7 m2 p2 N! gfundamentals of house prices and housing starts in each
province. Affordability is the key concept behind home
4 M" G& @; p6 n. cvalues since house prices should track incomes over the
' e6 W& E. \; V  x; v  Xlong-run. Since homebuilders build to meet demand, we
6 V1 h) r' \5 m  d  Zregard housing prices and household formation as the drivers
  i1 U  a2 e% n4 _  H2 A+ P/ }8 kof residential construction.
To examine the degree of overbuilding, we employ a
  X; h( E. s4 p6 }  D* H* ]$ v# |6 `“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
1 M) k" m3 X. i; c8 Koptimally. We find that actual homebuilding exceeded this
3 V5 k4 M% `  L- Pfundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
many houses at prices that exceeded fundamentals.
Regionally, we see the greatest strains on the Prairies,
where housing demand will further contract under waning
2 J) @& P& m+ x' o. z  v+ xpopulation inflows. Saskatoon, Calgary and Edmonton are
already witnessing surges in their unsold new homes at the
: p) O$ l% p& I) a1 k. S1 o) }very time that the resale market has swung into strong
+ [  n$ L) }' x! k& ]' `  kbuyers’ territory. Homebuilding in the Atlantic provinces
has been relatively balanced but, while not plagued by structural
, h. m6 D9 P: o, O9 i4 |8 Iweakness, will be singed by the downturn nonetheless.
1 w& K0 o& E; S% L* `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,
given the province’s history of under-building and low ownership
; M( M; q7 W; nrates. While Ontario homebuilding will reel from a
cyclical downturn, the degree of structural weakness appears
9 T$ N4 g$ J" x. A4 climited – with the important exception of the Toronto
condo market. Both in Toronto and Vancouver, historically
/ T0 f3 L/ b  E$ d0 nhigh levels of apartment-style units presently under
construction mean that record numbers of condos will
1 K: v5 j" Y6 P& p1 u* sreach completion during 2009. If absorption rates fall, as
cyclical factors would indicate, condo inventories could
5 f9 |' g1 G% c! O7 W5 m  sspike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
: X, F( R+ k' }6 V; o+ k6 h3 Lanticipate that the West Coast will continue to benefit from
inter-provincial and international migration over the coming
! b2 a& |) p/ h# ^, N2 ryears, which, along with improvements in affordability,
* t' W2 Z- [1 ]; }3 O% Nwill alleviate some of the pressure from overbuilding.
( w3 @- E6 J" C. Z* \' V$ H; uOVERPRICED AND OVERBUILT: CANADIAN HOUSING
' v; p& A; m8 f8 _6 C' QMARKET RETURNS TO FUNDAMENTALS
Grant Bishop, Economist
+ w& [& t+ X2 w- ^( z5 l6 u8 q416-982-8063
% S: o  p9 c0 ~% a% E  u7 O5 l* [Pascal Gauthier, Economist
$ [! Q' Y# x  E& E416-944-5730

http://www.td.com/economics/special/gb0409_housing_exec.pdf

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