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
unsustainable levels of building. Our view is that house
' |; w' v; w( J1 {! Q$ S9 E3 y6 Hprices 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
three years.
By “overpricing” we mean that prices detached from
their fundamentals, as witnessed by a steep erosion of
% \, w$ E& b: g9 taffordability. The current unwinding of house prices reflects
both a cyclical downturn and a return of house prices
. @' ?; p/ ]- Q' w  x9 D- V5 Bto fundamentally justified levels.
We consider “overbuilding” of two forms: “demanddriven”
where homebuyers buy up too many houses and
7 H, X7 ]: [, {! Sthat this demand cannot be sustained; and “supply-driven”
where builders accumulate excessive inventories. Although
2 o# y) L' H- v9 H' [there is evidence of both types, we contend that Canada’s
% E. {% C9 M8 C# G: F: J- S7 ~“overbuilding” was mainly of the first type, where
homebuyers pushed homebuilding to an unsustainable pitch
- p6 N5 M) j) Bthat is now being rapidly reined in.
+ _  ?2 d4 R) v- T5 pWhile most markets won’t face U.S.-style overhangs,
& \' S% ~5 D2 [# \  r. sthe construction of too many new homes over the boom
/ d' {4 f* A1 _8 k8 imeans a deepened slump. This overbuilding will likely weigh
& t. H- b' g2 q, g) q7 `on markets over the next few years. Even as Canada recovers
from the cyclical downturn, house price growth will
remain choppy and new residential construction will be
dampened, owing to this structural weakness. Construction
$ l3 {6 C* x6 K1 p0 g- I7 Mis now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
, V  K+ H: o4 f( B$ {1 t# Wresidential construction will fall further to around
- o) p0 @( V2 j125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
To quantify the degree of overpricing and overbuilding,
2 N2 j% P5 }: {* l( {: t2 q- Owe first develop an empirical model, based on long-run
fundamentals 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
7 ~* B0 b0 t- S: T. ]: w, Along-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
0 ~0 f5 h8 q  s! I/ E# Fwould have occurred if housing had been priced
optimally. We find that actual homebuilding exceeded this
! i. R$ ]7 ?, E) B0 e7 Q: Xfundamental-justified level by about 12%. Although new
- h+ W" r8 T7 }2 @) I; yunits were being absorbed, homebuyers simply bought too
! r( x0 m" U6 i9 imany houses at prices that exceeded fundamentals.
5 }5 o4 v( [' \. l. _Regionally, we see the greatest strains on the Prairies,
where housing demand will further contract under waning
( L  L* ?- D6 b& Z2 A/ Z! Qpopulation inflows. Saskatoon, Calgary and Edmonton are
already witnessing surges in their unsold new homes at the
( w; b" A. ]8 P9 `) d5 k6 |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
; v5 U: R( t" k3 M5 e, jweakness, will be singed by the downturn nonetheless.
Québec shows signs of strain – especially given the
, U! s6 K" b1 k- Nstrange 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
: u* X. \& @  U6 I7 u( X3 d  g- Grates. While Ontario homebuilding will reel from a
4 ]. q) ?- I& e/ icyclical downturn, the degree of structural weakness appears
/ o+ }0 L+ ^6 X# x* Y7 plimited – with the important exception of the Toronto
condo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
, f6 x! g6 o" M# Mconstruction mean that record numbers of condos will
$ N. `" ~# C# \# o- O+ J# breach completion during 2009. If absorption rates fall, as
cyclical factors would indicate, condo inventories could
$ G) \0 ~8 P" ?2 l" i6 h$ pspike 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
& z  g+ S* P+ f8 pinter-provincial and international migration over the coming
years, which, along with improvements in affordability,
! n- j. m" _% a/ uwill alleviate some of the pressure from overbuilding.
& K6 g$ T4 Z5 f! F9 q! Q% HOVERPRICED AND OVERBUILT: CANADIAN HOUSING
! s! c; t9 F7 _" G/ [4 XMARKET RETURNS TO FUNDAMENTALS
Grant Bishop, Economist
' w8 M. H3 p& z9 D416-982-8063
Pascal Gauthier, Economist
416-944-5730
3 W' ?; P8 y; [) R: X
  f6 A1 R! r* Fhttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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