TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
+ M: ]1 e3 F# Cfrom 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
* O% p, `& a3 j. L  H. G+ `! }fundamentals by approximately 9% nationwide. This
6 b' C* f; i0 v' G$ \9 Soverpricing compelled a level of residential construction
0 P/ S2 P, A6 E% bthat exceeded its fundamental-justified level by approximately
( v7 d* V$ o. `& \12%, an excess that was exaggerated in the past
three years.
5 {$ U: U+ }/ Z9 W8 ]" B# sBy “overpricing” we mean that prices detached from
% P( i/ w2 ~/ |- }- q- H" R* Etheir fundamentals, as witnessed by a steep erosion of
affordability. The current unwinding of house prices reflects
, O2 Q5 D) F5 F$ q8 F- |, Sboth a cyclical downturn and a return of house prices
3 N& ]+ |  q* I5 }. _to fundamentally justified levels.
5 L; E1 R1 |3 x, ?We consider “overbuilding” of two forms: “demanddriven”
6 F( P1 V( N; n' Q" q. }where homebuyers buy up too many houses and
that this demand cannot be sustained; and “supply-driven”
9 B# J4 p3 D* ^7 ewhere builders accumulate excessive inventories. Although
there is evidence of both types, we contend that Canada’s
3 Q+ [, t: F+ q1 I/ V1 e* D. _“overbuilding” was mainly of the first type, where
homebuyers pushed homebuilding to an unsustainable pitch
# k( M& \: ?. q/ Y# {$ [that is now being rapidly reined in.
( ]4 o: e' t3 C+ i& p" uWhile most markets won’t face U.S.-style overhangs,
- }( F0 O. C, P1 kthe construction of too many new homes over the boom
means a deepened slump. This overbuilding will likely weigh
9 W. T, i; `  m( kon markets over the next few years. Even as Canada recovers
* `- K( G% I" F/ }8 Jfrom the cyclical downturn, house price growth will
remain choppy and new residential construction will be
2 R' Y8 V. `+ y, e. [: ]/ b$ hdampened, owing to this structural weakness. Construction
  _5 x4 i& t* b* }is now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
6 b6 g$ L, S; u, n  Dresidential construction will fall further to around
1 A3 l, W7 o5 P' V125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
To quantify the degree of overpricing and overbuilding,
we first develop an empirical model, based on long-run
0 s+ x7 p% i/ m7 |5 xfundamentals of house prices and housing starts in each
' ]2 b% J. b6 r; hprovince. Affordability is the key concept behind home
values since house prices should track incomes over the
1 k' o& H+ a. T# I) w0 Plong-run. Since homebuilders build to meet demand, we
regard housing prices and household formation as the drivers
of residential construction.
To examine the degree of overbuilding, we employ a
& G4 a) l2 i3 v1 ?3 z“counter-factual,” asking what level of residential construction
: j: n% G7 a; r" O' Ewould have occurred if housing had been priced
optimally. We find that actual homebuilding exceeded this
fundamental-justified level by about 12%. Although new
4 g: H. d$ L# k  y. ]- H3 F2 p" wunits were being absorbed, homebuyers simply bought too
many houses at prices that exceeded fundamentals.
" ?; \8 R6 R* ]5 d  YRegionally, we see the greatest strains on the Prairies,
where housing demand will further contract under waning
/ K" h! s% p8 z9 b' Q6 ^: cpopulation inflows. Saskatoon, Calgary and Edmonton are
6 C$ C  L% S7 A3 F7 Ualready witnessing surges in their unsold new homes at the
very time that the resale market has swung into strong
7 c8 \6 T4 i: `0 P& e7 Zbuyers’ territory. Homebuilding in the Atlantic provinces
has been relatively balanced but, while not plagued by structural
1 }  h% H' K8 {( o1 lweakness, will be singed by the downturn nonetheless.
2 X1 f6 q& |) Z7 a, b* uQuébec shows signs of strain – especially given the
strange accumulation of unabsorbed multiples on l’Île de
Montréal – 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
cyclical 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
& P) d, {7 X3 O% {& w! Lcyclical factors would indicate, condo inventories could
6 I- ]+ c9 W* x6 B9 ~1 ^  Espike severely – particularly in Vancouver. However, while
* Z, r$ s5 Y" mresidential construction in B.C. will definitely droop, we
! o: s6 z' l6 }anticipate that the West Coast will continue to benefit from
4 U" G1 D" P* jinter-provincial and international migration over the coming
+ J, C( d% B8 W. E* pyears, which, along with improvements in affordability,
7 M' g9 J/ r! d$ n$ d  lwill alleviate some of the pressure from overbuilding.
OVERPRICED AND OVERBUILT: CANADIAN HOUSING
$ B0 U+ y5 }# `! j) g1 Y5 kMARKET RETURNS TO FUNDAMENTALS
Grant Bishop, Economist
416-982-8063
Pascal Gauthier, Economist
416-944-5730
! g* L- X; ^1 J6 `
http://www.td.com/economics/special/gb0409_housing_exec.pdf

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