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
; e. t4 z: n9 P9 @prices exceeded the value of housing that was justified by
4 G. H' D- ?4 U0 x& _' W5 tfundamentals by approximately 9% nationwide. This
overpricing compelled a level of residential construction
8 _1 W! o- I0 R& x. ]8 F2 ythat 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
5 _: h% Y4 ^$ a. i1 n& ztheir fundamentals, as witnessed by a steep erosion of
  }5 Q5 D: _5 \7 Waffordability. The current unwinding of house prices reflects
, H$ P$ e" \! }, ]both a cyclical downturn and a return of house prices
to fundamentally justified levels.
2 P. ~" X0 P, y' L& j9 c3 BWe consider “overbuilding” of two forms: “demanddriven”
- r2 t! y$ j+ B: J4 ^( k4 Owhere homebuyers buy up too many houses and
/ B& l$ Z( J1 e0 S: y7 s* L5 mthat this demand cannot be sustained; and “supply-driven”
/ m4 I6 p1 A! {3 x) U6 e1 P3 v1 qwhere builders accumulate excessive inventories. Although
; C7 ?# v+ j+ u( othere is evidence of both types, we contend that Canada’s
% f0 D% V* E) `7 _8 Y7 N" e“overbuilding” was mainly of the first type, where
homebuyers pushed homebuilding to an unsustainable pitch
( i; m! V% [- ?that is now being rapidly reined in.
# F- |% K: x4 K5 HWhile most markets won’t face U.S.-style overhangs,
6 O9 c6 d. H5 Tthe construction of too many new homes over the boom
means a deepened slump. This overbuilding will likely weigh
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
  d6 n% G2 B" S6 W) N0 ris now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
residential construction will fall further to around
125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
  X$ v6 J! [" t! k+ B' w. k: ?To quantify the degree of overpricing and overbuilding,
6 R' g9 I& O  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
+ x! F. i. ^. R4 ?- Pvalues since house prices should track incomes over the
long-run. Since homebuilders build to meet demand, we
! Q" H. e* F. p1 V1 m6 Yregard housing prices and household formation as the drivers
/ o7 @( g0 |6 S+ Y8 j0 pof residential construction.
To examine the degree of overbuilding, we employ a
' T$ k. ?3 p9 \/ K0 ~“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
optimally. We find that actual homebuilding exceeded this
fundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
many houses at prices that exceeded fundamentals.
7 A7 ~5 Y5 c1 z5 {Regionally, we see the greatest strains on the Prairies,
where 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
9 a7 y. H6 ]: ?! b2 f6 kbuyers’ territory. Homebuilding in the Atlantic provinces
has been relatively balanced but, while not plagued by structural
weakness, will be singed by the downturn nonetheless.
& x3 M  ~7 T2 ~" X/ }/ P! ]) PQuébec shows signs of strain – especially given the
4 T* I, D( e- O" g& V0 g) zstrange accumulation of unabsorbed multiples on l’Île de
Montréal – but recent building has been relatively balanced,
! u$ c. X6 z" c% Ygiven the province’s history of under-building and low ownership
- r4 L+ ^( i8 v- }rates. While Ontario homebuilding will reel from a
cyclical downturn, the degree of structural weakness appears
' C1 ~3 y& Z4 d8 C3 o( Elimited – with the important exception of the Toronto
, A( j- s4 c) o$ X9 acondo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
  M, r# c. ~2 B+ b8 e2 G& Bconstruction mean that record numbers of condos will
# b4 I# d# G2 s' {/ n, _2 sreach completion during 2009. If absorption rates fall, as
cyclical factors would indicate, condo inventories could
: Q2 x) q; w& s# H' g8 c" Xspike severely – particularly in Vancouver. However, while
/ i% `$ Y( d: v$ o/ u" _7 {8 q" n0 }residential construction in B.C. will definitely droop, we
anticipate that the West Coast will continue to benefit from
" w6 h# [  u! Uinter-provincial and international migration over the coming
' S/ O- W* B( c% O( e# _% uyears, which, along with improvements in affordability,
will alleviate some of the pressure from overbuilding.
OVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
4 l9 a: w, Q, o9 o2 hGrant Bishop, Economist
0 O) R0 m. c1 X! L416-982-8063
Pascal Gauthier, Economist
416-944-5730

  J* F+ \6 [% ?! g4 Z9 i" Chttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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