TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
3 I- @$ E! X" \! G8 f* U) ]from 2002 to 2008, unsustainable price increases drove
5 O' I5 h( Y/ }1 a# U* aunsustainable levels of building. Our view is that house
3 M# l4 H! @/ B$ N+ f/ fprices exceeded the value of housing that was justified by
4 g5 e- d0 |, ?6 [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
+ f8 [& ^+ Y* q) F% ?three years.
3 ~, u- u+ r3 m6 _% _By “overpricing” we mean that prices detached from
their fundamentals, as witnessed by a steep erosion of
6 M: Q# u5 V4 \3 ?- Qaffordability. The current unwinding of house prices reflects
both a cyclical downturn and a return of house prices
8 Z. }  f: h$ Y9 Z2 k) C2 q, a' xto fundamentally justified levels.
We consider “overbuilding” of two forms: “demanddriven”
0 H% r, B5 o) C7 ?: Lwhere homebuyers buy up too many houses and
that this demand cannot be sustained; and “supply-driven”
0 ^! q& C0 H; o3 @/ }  M  ^4 Ywhere builders accumulate excessive inventories. Although
there is evidence of both types, we contend that Canada’s
1 T' P1 |9 i" b, W: P“overbuilding” was mainly of the first type, where
* r7 N( s' `- f) d1 M6 hhomebuyers pushed homebuilding to an unsustainable pitch
/ E# i/ A# R7 M3 ?5 Othat 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
* s2 `+ P5 M' ?, Tmeans a deepened slump. This overbuilding will likely weigh
* E/ @4 L+ J2 Q* ~/ ^9 `9 \% ~, Zon 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
& E" c& p% J& udampened, owing to this structural weakness. Construction
" o1 V( K! \' I5 D" yis now undershooting fundamentals and we expect this
: J! P) a4 Z) g$ a8 K% }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
2 u* I! l0 V" a" Zin the fourth quarter.
- ~* H% b9 n& v( T7 F* I5 L4 [1 @& U) RTo quantify the degree of overpricing and overbuilding,
we first develop an empirical model, based on long-run
' i/ W' b6 d8 d1 P0 d- G, {fundamentals of house prices and housing starts in each
province. Affordability is the key concept behind home
4 h3 ^  B9 M/ g" `! V: Y* Wvalues since house prices should track incomes over the
) \8 a; X+ `# u; H! ^1 qlong-run. Since homebuilders build to meet demand, we
/ v7 j$ ^0 h- |& V6 C1 u8 fregard housing prices and household formation as the drivers
* [. R( G1 v3 }; Tof 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
optimally. We find that actual homebuilding exceeded this
7 _, S6 o0 Z' dfundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
4 j- o+ l; E; g% f5 emany houses at prices that exceeded fundamentals.
8 ]3 w4 m2 W3 C7 |3 oRegionally, we see the greatest strains on the Prairies,
: ~6 ~6 w6 Z+ d6 U1 zwhere housing demand will further contract under waning
population inflows. Saskatoon, Calgary and Edmonton are
already witnessing surges in their unsold new homes at the
( s# M8 k2 K: R/ {% l4 F) ivery 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
' t) c. ~- L* _, z) dweakness, will be singed by the downturn nonetheless.
4 A/ E. k7 {6 Z) d2 g' i. dQuébec shows signs of strain – especially given the
strange accumulation of unabsorbed multiples on l’Île de
" \% s1 I2 X& D7 I" w7 z2 jMontréal – but recent building has been relatively balanced,
given the province’s history of under-building and low ownership
rates. While Ontario homebuilding will reel from a
* P4 G- z( Z8 `cyclical downturn, the degree of structural weakness appears
- h8 G) t  Q; x5 N( V$ w1 x( R4 Jlimited – with the important exception of the Toronto
, L4 E3 w$ n* d! N" e) Acondo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
8 d+ |3 y2 y, u( A6 p3 m: qconstruction mean that record numbers of condos will
0 n4 o% R* c) |+ e! breach completion during 2009. If absorption rates fall, as
+ X8 p  N/ S, i- p. X0 Bcyclical factors would indicate, condo inventories could
spike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
  h8 z3 G" {, v9 Q3 z5 Qanticipate that the West Coast will continue to benefit from
# T4 n' S+ l! U  [  x* p* yinter-provincial and international migration over the coming
years, which, along with improvements in affordability,
will alleviate some of the pressure from overbuilding.
7 n, v& J8 W# f9 k: y( `1 g% ?8 WOVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
, z/ Q1 S' ~3 v6 ?( `0 b6 g4 T! @0 RGrant Bishop, Economist
2 Q/ M. _' U" K% r( @9 N416-982-8063
Pascal Gauthier, Economist
; {7 M7 p. v. G8 d* t% ]% J- X416-944-5730

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

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