TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
6 @7 y1 l5 \9 bfrom 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
fundamentals by approximately 9% nationwide. This
overpricing compelled a level of residential construction
that exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
' ^1 a9 I2 L+ ~5 D# N6 P0 b8 \three years.
% G: A) z/ n$ L8 }+ Q+ R* uBy “overpricing” we mean that prices detached from
their fundamentals, as witnessed by a steep erosion of
) z9 n* [2 ?3 l" `affordability. The current unwinding of house prices reflects
* G; l2 [! s# P+ M& p- r/ H) Vboth a cyclical downturn and a return of house prices
1 l- C; y! s  l% T) r7 {6 Bto fundamentally justified levels.
( j- S* p0 K! x4 I4 t0 N6 ]# F! pWe consider “overbuilding” of two forms: “demanddriven”
5 F5 r' o- ^# g8 X! N& ~% E9 Uwhere homebuyers buy up too many houses and
' D& a0 V3 \/ J$ F2 ]; Rthat this demand cannot be sustained; and “supply-driven”
" `; {9 u8 k$ C1 n! rwhere builders accumulate excessive inventories. Although
4 y0 X# H# ?$ @1 B* S4 rthere is evidence of both types, we contend that Canada’s
“overbuilding” was mainly of the first type, where
homebuyers pushed homebuilding to an unsustainable pitch
that 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* ?6 P9 Q# e7 s# {, c# Lmeans a deepened slump. This overbuilding will likely weigh
  N2 ^# \* ]" `. a/ con markets over the next few years. Even as Canada recovers
from the cyclical downturn, house price growth will
! B5 ^" L8 B+ ?$ u* tremain choppy and new residential construction will be
dampened, owing to this structural weakness. Construction
3 B% r  i/ b) R% r0 j* Gis now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
4 B2 l" z7 E9 g4 K& @residential construction will fall further to around
125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
To quantify the degree of overpricing and overbuilding,
1 }8 w; q' O& Xwe first develop an empirical model, based on long-run
* H8 b8 V" R, Kfundamentals of house prices and housing starts in each
' E% s/ p* D/ a; A- D$ v3 uprovince. Affordability is the key concept behind home
9 \$ s* A3 p$ p. a! \$ v8 O% Tvalues 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
“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
4 i4 E: J8 A5 d& G! P* y! W$ uoptimally. We find that actual homebuilding exceeded this
/ o7 h+ v6 M2 G" M7 i. c! wfundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
2 h4 M8 s0 i+ [( E+ Hmany houses at prices that exceeded fundamentals.
+ k  R/ Y3 F" P/ f5 K: PRegionally, we see the greatest strains on the Prairies,
3 w8 Q2 i( L& q0 e7 v9 X* j# q" L" iwhere housing demand will further contract under waning
1 Q! y* N+ g% I  ^  Fpopulation inflows. Saskatoon, Calgary and Edmonton are
already witnessing surges in their unsold new homes at the
# ]0 X1 s+ U9 j7 Kvery time that the resale market has swung into strong
8 H, m' r4 `3 P* Z0 [buyers’ territory. Homebuilding in the Atlantic provinces
, e% q% T2 E7 n$ n! k: n% ]7 A$ i" Xhas 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
" D2 i3 t1 O6 kstrange accumulation of unabsorbed multiples on l’Île de
' H7 ]- x6 a. b* I3 `Montréal – but recent building has been relatively balanced,
2 e% V  C; M% E  H' Pgiven the province’s history of under-building and low ownership
1 x( i. H3 G+ k/ U/ Z0 Qrates. While Ontario homebuilding will reel from a
cyclical downturn, the degree of structural weakness appears
0 O" _; h3 C* [limited – with the important exception of the Toronto
) |7 z" `, G9 l- ?) w( \condo market. Both in Toronto and Vancouver, historically
  t/ g$ [: C6 rhigh levels of apartment-style units presently under
construction mean that record numbers of condos will
4 p$ O$ E0 Y% i& K6 X6 H7 S: Hreach 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
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,
2 j+ e+ J+ _  r5 Z$ m7 Pwill alleviate some of the pressure from overbuilding.
OVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
7 ~$ s+ s3 K/ H# @Grant Bishop, Economist
416-982-8063
) f( Y; i; r& t# I# _8 o! C# `Pascal Gauthier, Economist
( b" |  [" `) t) ?9 ]# W: b416-944-5730
( S& W7 u( j5 J1 a+ z( N/ {
http://www.td.com/economics/special/gb0409_housing_exec.pdf

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