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
5 S. J" d2 u3 C( B: {$ f/ uprices exceeded the value of housing that was justified by
: |% W/ o. R* T% r7 A/ nfundamentals 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
  j9 P* ^2 s5 n; Cthree years.
By “overpricing” we mean that prices detached from
. z. r3 x. t" [" ?5 @) Y: _their fundamentals, as witnessed by a steep erosion of
0 x* O9 P" U- H# y; m* {affordability. The current unwinding of house prices reflects
- @7 ^) }0 I9 x5 c) Lboth a cyclical downturn and a return of house prices
+ J. T; q, B7 a) [# pto fundamentally justified levels.
We consider “overbuilding” of two forms: “demanddriven”
where homebuyers buy up too many houses and
( }0 B2 C( V) \7 rthat this demand cannot be sustained; and “supply-driven”
$ ?5 R+ y7 s6 K! R2 I# G8 I9 xwhere builders accumulate excessive inventories. Although
there 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
) z) L0 o  G) z$ T' N% T7 @4 H, e' l. ^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
means a deepened slump. This overbuilding will likely weigh
/ @1 e3 N. f6 M% Xon markets over the next few years. Even as Canada recovers
from the cyclical downturn, house price growth will
, X0 `- J  S3 A) Xremain choppy and new residential construction will be
9 k1 F+ L8 t% w1 U' o) G6 adampened, owing to this structural weakness. Construction
is now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
residential construction will fall further to around
& \: |$ X% |  w9 Y125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
8 D: D" p/ Z; Y3 c6 vTo quantify the degree of overpricing and overbuilding,
we 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
+ d6 f3 `1 V9 b! {8 m1 Svalues since house prices should track incomes over the
6 u7 ?7 d$ ^# slong-run. Since homebuilders build to meet demand, we
5 W* R$ @* M- y" p. _: J4 yregard 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
- @2 I$ {& o# _4 E4 r0 Q2 S6 Hwould have occurred if housing had been priced
optimally. We find that actual homebuilding exceeded this
fundamental-justified level by about 12%. Although new
5 l! t6 z8 p" [4 e( o. bunits were being absorbed, homebuyers simply bought too
many houses at prices that exceeded fundamentals.
Regionally, we see the greatest strains on the Prairies,
where housing demand will further contract under waning
population inflows. Saskatoon, Calgary and Edmonton are
6 f. K; w- `" b1 [6 D7 c) o8 Dalready witnessing surges in their unsold new homes at the
" i* p& j1 w8 Z5 [7 Vvery 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
- j0 h- H; Y8 |5 b6 n# h8 P" a/ V* Sweakness, will be singed by the downturn nonetheless.
7 V! V7 P3 L3 HQuébec shows signs of strain – especially given the
5 H6 x0 V8 m; k: Q1 M; |strange accumulation of unabsorbed multiples on l’Île de
3 S4 A, E& I" xMontréal – but recent building has been relatively balanced,
given the province’s history of under-building and low ownership
$ S$ N- p' T% M0 c7 ~: @, vrates. While Ontario homebuilding will reel from a
. p( D. B4 [8 i9 o5 ~  |' Acyclical downturn, the degree of structural weakness appears
limited – with the important exception of the Toronto
condo market. Both in Toronto and Vancouver, historically
- F) l' A8 b8 k' q8 ^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
cyclical factors would indicate, condo inventories could
* \/ l( H0 O; O* F& @" q2 espike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
: [0 y! d6 z( f3 J7 |, Y; f/ Ianticipate that the West Coast will continue to benefit from
+ s0 c% B) }1 r6 {5 r2 L& F# ainter-provincial and international migration over the coming
years, which, along with improvements in affordability,
- b; E- E! G# S" h, ^will alleviate some of the pressure from overbuilding.
) v! R, d. p; S( r0 z' ?4 d" EOVERPRICED AND OVERBUILT: CANADIAN HOUSING
& z+ w& K' b$ ]7 b# w9 r7 UMARKET RETURNS TO FUNDAMENTALS
' [4 h* \6 J% q" y5 \6 a& HGrant Bishop, Economist
7 k- s/ P8 Q, k6 E0 B9 T416-982-8063
Pascal Gauthier, Economist
416-944-5730
* W, O2 s& K) d+ t* r
http://www.td.com/economics/special/gb0409_housing_exec.pdf

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