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
prices exceeded the value of housing that was justified by
fundamentals by approximately 9% nationwide. This
6 O% ~/ \* H* g$ }overpricing compelled a level of residential construction
that exceeded its fundamental-justified level by approximately
! e# D. Z3 n! v0 v; u12%, an excess that was exaggerated in the past
three years.
9 J% [  e; k  @* K( PBy “overpricing” we mean that prices detached from
their fundamentals, as witnessed by a steep erosion of
affordability. The current unwinding of house prices reflects
both a cyclical downturn and a return of house prices
" q! k" O# E; ?9 Rto fundamentally justified levels.
- P, H+ A6 e; q) IWe consider “overbuilding” of two forms: “demanddriven”
where homebuyers buy up too many houses and
. P( X! N5 W0 j: k' H+ i& F* bthat this demand cannot be sustained; and “supply-driven”
) V; ^/ r" t" A! k% \0 Hwhere builders accumulate excessive inventories. Although
$ S  J( m7 {0 jthere is evidence of both types, we contend that Canada’s
“overbuilding” was mainly of the first type, where
6 R% p- O) w8 d$ d+ T* \( Qhomebuyers pushed homebuilding to an unsustainable pitch
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
on markets over the next few years. Even as Canada recovers
7 Z% T3 K9 |- V. O* k  r: \from the cyclical downturn, house price growth will
- d# z$ O8 D1 E- Z% I) T! sremain choppy and new residential construction will be
6 U, i- i. t/ A' w! i2 zdampened, owing to this structural weakness. Construction
is now undershooting fundamentals and we expect this
! G  E  @, F$ e5 R' u; C7 Rto persist over 2009 to 2011. We anticipate that nationwide
residential construction will fall further to around
; w' f, X+ Y$ ~# m5 f125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
9 k* h# m) \" \7 pTo quantify the degree of overpricing and overbuilding,
7 r1 W; e; T/ ]9 f0 B9 S  O' w9 Swe first develop an empirical model, based on long-run
) z* e$ _! h9 b! |3 Ffundamentals of house prices and housing starts in each
province. Affordability is the key concept behind home
  }# I- T7 [0 Z" }values since house prices should track incomes over the
long-run. Since homebuilders build to meet demand, we
regard housing prices and household formation as the drivers
5 ^7 b. r& m1 M; t. [" Kof residential construction.
8 R6 x+ U7 j$ D/ Y' f2 gTo examine the degree of overbuilding, we employ a
4 c$ {" P7 R( e* K. n8 ^“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
+ p/ ~. a3 B0 ~: a2 `/ L3 |optimally. We find that actual homebuilding exceeded this
7 A& O5 K# Y* ]7 y& z& Ofundamental-justified level by about 12%. Although new
9 G6 q- o% T  a5 w1 Junits 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
. O  f7 Q, ]4 t( k- }! M: _4 A: ]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
buyers’ territory. Homebuilding in the Atlantic provinces
2 F4 {* U0 ^6 @( `+ Rhas been relatively balanced but, while not plagued by structural
7 q" F2 P- {! Jweakness, will be singed by the downturn nonetheless.
# C* f3 X" f3 uQuébec shows signs of strain – especially given the
1 `+ V" G$ r2 {7 \9 kstrange accumulation of unabsorbed multiples on l’Île de
Montréal – but recent building has been relatively balanced,
0 h, V/ ?7 g8 S, n0 v- Ggiven the province’s history of under-building and low ownership
6 p/ Y0 r% ^  b- m+ r9 prates. While Ontario homebuilding will reel from a
cyclical downturn, the degree of structural weakness appears
6 B' N$ v* p# hlimited – with the important exception of the Toronto
% c+ ?4 ?. i8 U, P: P7 [2 ]condo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
4 u+ s' B+ x5 ]3 l" t% G6 U# v6 v/ Mconstruction mean that record numbers of condos will
; }. A* q1 ^' Y) hreach completion during 2009. If absorption rates fall, as
/ L8 U+ {* r2 xcyclical factors would indicate, condo inventories could
5 b+ G, _& d0 }spike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
5 X8 {1 H3 z/ A  i* V4 }$ w5 y3 o$ c5 m# Manticipate that the West Coast will continue to benefit from
inter-provincial and international migration over the coming
years, which, along with improvements in affordability,
; G& j. S6 q# P9 P+ I9 Bwill alleviate some of the pressure from overbuilding.
" N' r, i7 x$ V1 ~, A. S& ROVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
8 D2 z4 F, }8 |# P. YGrant Bishop, Economist
" y+ ^6 S3 c2 v( S* C+ Q416-982-8063
+ f( f& }6 |  J, J' W/ l: ]7 oPascal Gauthier, Economist
416-944-5730
! E) n! a! E6 q
) U0 s9 f, Y( v0 I% z! i/ Whttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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