TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
' O! c7 W2 Y* [from 2002 to 2008, unsustainable price increases drove
- @1 W% Z5 Y, Zunsustainable levels of building. Our view is that house
prices exceeded the value of housing that was justified by
3 m/ X# g* E7 U! t1 K0 s! `) j: ?fundamentals by approximately 9% nationwide. This
7 p. S( W! n+ {1 ^5 Ooverpricing compelled a level of residential construction
7 o+ K4 b0 B# Y# W" p& zthat exceeded its fundamental-justified level by approximately
, G1 _0 T$ A# ?* F12%, an excess that was exaggerated in the past
three years.
! M! h8 _' U+ [* J- oBy “overpricing” we mean that prices detached from
% g6 f6 A& T) atheir fundamentals, as witnessed by a steep erosion of
5 [+ f' b4 B" U7 E; I( @( [affordability. The current unwinding of house prices reflects
, L; Q. z& g: V9 x+ U) i3 }( zboth a cyclical downturn and a return of house prices
: A6 R5 s9 H% |7 xto fundamentally justified levels.
We consider “overbuilding” of two forms: “demanddriven”
where homebuyers buy up too many houses and
  W; p) L; |8 `7 c  a, K. j' M5 G( athat this demand cannot be sustained; and “supply-driven”
! I! O" `/ a5 nwhere builders accumulate excessive inventories. Although
/ E4 t; Y2 P7 f  e+ L; ^' B0 Xthere is evidence of both types, we contend that Canada’s
2 _9 h7 O# ]* O" @* i, Y“overbuilding” was mainly of the first type, where
homebuyers 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
; e9 j- P/ ], M9 l6 L2 Z" Ofrom the cyclical downturn, house price growth will
remain choppy and new residential construction will be
dampened, owing to this structural weakness. Construction
is now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
' |" O0 `6 `+ R1 W1 Lresidential construction will fall further to around
2 b- V) H5 u* A$ ]* ~125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
To quantify the degree of overpricing and overbuilding,
. E0 b0 ?+ J  z$ N3 cwe 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
values since house prices should track incomes over the
. d& x: m* X9 K6 Y6 wlong-run. Since homebuilders build to meet demand, we
! [& c9 v7 p/ B9 \- @2 Wregard housing prices and household formation as the drivers
of residential construction.
# j2 K& O' H" e+ zTo examine the degree of overbuilding, we employ a
“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
3 C  n0 }- o: a# toptimally. We find that actual homebuilding exceeded this
+ P9 Q* q6 [( P6 r& L7 P. q9 H) ]fundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
+ D1 S/ }/ n" c8 Y2 umany houses at prices that exceeded fundamentals.
$ R* y; y' d3 b& Q! i$ PRegionally, we see the greatest strains on the Prairies,
where housing demand will further contract under waning
% w  s9 [1 |" i0 a$ Ipopulation inflows. Saskatoon, Calgary and Edmonton are
" h( e( X3 P( B8 o/ S% Balready 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
4 t. I: m/ M* u7 I8 d+ l& nhas been relatively balanced but, while not plagued by structural
weakness, will be singed by the downturn nonetheless.
Québec shows signs of strain – especially given the
strange accumulation of unabsorbed multiples on l’Île de
Montréal – but recent building has been relatively balanced,
' q& ~% f& R' g! Pgiven the province’s history of under-building and low ownership
rates. While Ontario homebuilding will reel from a
. _3 W3 J, A2 }8 W+ k8 _; Lcyclical downturn, the degree of structural weakness appears
limited – with the important exception of the Toronto
/ W+ C% y. @  d6 n# [* K$ ~condo market. Both in Toronto and Vancouver, historically
; t. l$ r0 h  l* Vhigh levels of apartment-style units presently under
  c. L6 O8 J: \0 Fconstruction mean that record numbers of condos will
reach completion during 2009. If absorption rates fall, as
% L1 ^. M. Z2 y) C4 X, d! mcyclical factors would indicate, condo inventories could
spike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
; x. v) \5 c) i( n7 ~anticipate that the West Coast will continue to benefit from
inter-provincial and international migration over the coming
years, which, along with improvements in affordability,
% E' p% V0 H& Qwill alleviate some of the pressure from overbuilding.
; \- ]0 @2 C: @+ o5 u* u8 Z# P7 lOVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
1 \2 a- [" h5 H0 ~( B8 h+ \Grant Bishop, Economist
5 e2 \8 C$ [$ [8 t$ G( h& {416-982-8063
: G; j8 L( \; @# KPascal Gauthier, Economist
. \2 F1 _$ [' |9 {" k4 y3 [416-944-5730

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

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