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
$ O8 Q+ B+ K" `; h/ Funsustainable levels of building. Our view is that house
prices exceeded the value of housing that was justified by
fundamentals by approximately 9% nationwide. This
1 G) l" n; r9 L0 M+ k' Boverpricing compelled a level of residential construction
that exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
  A% n" N0 A. [+ A1 N0 f4 }three years.
By “overpricing” we mean that prices detached from
, [9 z! R$ x6 k5 Utheir fundamentals, as witnessed by a steep erosion of
1 J9 z6 |4 N, z* w( f4 qaffordability. The current unwinding of house prices reflects
both a cyclical downturn and a return of house prices
to fundamentally justified levels.
We consider “overbuilding” of two forms: “demanddriven”
where homebuyers buy up too many houses and
' a6 \8 i% T1 R3 @% Cthat this demand cannot be sustained; and “supply-driven”
: X0 Z) x) q( a  v$ N! @; Q" Q: Owhere builders accumulate excessive inventories. Although
there is evidence of both types, we contend that Canada’s
1 @- `3 ]+ \' v+ ?8 }“overbuilding” was mainly of the first type, where
homebuyers pushed homebuilding to an unsustainable pitch
& m& v5 o' q6 c  k$ Sthat is now being rapidly reined in.
While most markets won’t face U.S.-style overhangs,
2 _( B6 ?0 D  ^" Athe construction of too many new homes over the boom
4 N. C& L/ z* P- N, E0 g: B9 ]means a deepened slump. This overbuilding will likely weigh
1 G6 K1 S7 Q' ]3 [0 n* U4 won markets over the next few years. Even as Canada recovers
/ r3 `  |4 _- f' q) Ofrom the cyclical downturn, house price growth will
remain choppy and new residential construction will be
dampened, owing to this structural weakness. Construction
2 P4 A  c6 W9 a/ r& ois now undershooting fundamentals and we expect this
) ~& N  s" ?" Y, g4 ~5 S( `to persist over 2009 to 2011. We anticipate that nationwide
residential construction will fall further to around
: X$ [) o8 R  y125,000 starts over 2009 with a trough around 115,000 units
: e$ @$ m- \, Z) H$ D3 R  {in the fourth quarter.
To quantify the degree of overpricing and overbuilding,
: H; ~+ A5 a7 P8 w5 t5 pwe first develop an empirical model, based on long-run
fundamentals of house prices and housing starts in each
5 \0 i0 f/ _) @* N4 Mprovince. Affordability is the key concept behind home
$ P! v3 P2 Z7 \1 L% ovalues since house prices should track incomes over the
8 K$ l. C# @1 H$ W) |8 V9 ~% ?long-run. Since homebuilders build to meet demand, we
regard housing prices and household formation as the drivers
; _! |4 B% S( h% N! Gof residential construction.
& U; Y$ V+ s3 W8 f9 `- k- y9 BTo examine the degree of overbuilding, we employ a
“counter-factual,” asking what level of residential construction
" d! ^7 J7 j1 K% P) H; k$ kwould have occurred if housing had been priced
/ X- s' ]; R6 |8 {- ?1 \) d% coptimally. We find that actual homebuilding exceeded this
9 g3 `- p1 a  c/ J* Wfundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
: y0 i% A% G5 r3 o" f# {. Mmany houses at prices that exceeded fundamentals.
3 }0 X, ]. ~, Q# m' WRegionally, we see the greatest strains on the Prairies,
where housing demand will further contract under waning
population inflows. Saskatoon, Calgary and Edmonton are
+ x% J6 b, q4 j9 {& q6 salready witnessing surges in their unsold new homes at the
very time that the resale market has swung into strong
& h& N0 T- u9 J: C+ u8 A% Ibuyers’ territory. Homebuilding in the Atlantic provinces
( Z3 R/ I9 d! B+ M3 \* K2 P/ \8 Xhas been relatively balanced but, while not plagued by structural
6 n  l, P& n& E+ Sweakness, will be singed by the downturn nonetheless.
( F! q2 M' I8 A2 BQuébec shows signs of strain – especially given the
strange accumulation of unabsorbed multiples on l’Île de
0 r$ o; @; [6 y  s; Z  xMontréal – but recent building has been relatively balanced,
given the province’s history of under-building and low ownership
1 E2 Y# ]4 j0 trates. While Ontario homebuilding will reel from a
0 f& F  U7 Y8 V$ F0 j1 c0 Jcyclical downturn, the degree of structural weakness appears
limited – with the important exception of the Toronto
condo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
construction mean that record numbers of condos will
reach completion during 2009. If absorption rates fall, as
( _8 F0 C4 Y. Y- [1 C4 lcyclical factors would indicate, condo inventories could
7 P9 V$ i# V, K& vspike 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
4 S' ~( r8 O/ Tinter-provincial and international migration over the coming
& U- E' A! F7 vyears, which, along with improvements in affordability,
' W( z$ D" S3 d5 ^8 z3 \will alleviate some of the pressure from overbuilding.
6 k$ E7 `! V/ |) ^  wOVERPRICED AND OVERBUILT: CANADIAN HOUSING
2 H/ b/ m+ H8 o; B0 o4 LMARKET RETURNS TO FUNDAMENTALS
( }0 |# A) g9 @% `4 yGrant Bishop, Economist
. \0 V5 ]0 O. J6 f8 Z416-982-8063
$ [6 C5 H5 Z/ `9 Y4 jPascal Gauthier, Economist
' L: }" r/ W; }6 \8 [416-944-5730
6 i* u: N# m- V' X
http://www.td.com/economics/special/gb0409_housing_exec.pdf

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