TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
$ L: g1 N' C0 `3 D% x5 \* mfrom 2002 to 2008, unsustainable price increases drove
" Z( }* b7 p* S( w) r. wunsustainable levels of building. Our view is that house
prices exceeded the value of housing that was justified by
8 Q; h2 M9 ]- q2 f  ~7 \fundamentals by approximately 9% nationwide. This
0 D  c6 ^) w! v  w& xoverpricing compelled a level of residential construction
2 A# G% P2 B7 ]3 d# d* h/ D/ vthat exceeded its fundamental-justified level by approximately
; E% z  m, m# Z) j12%, an excess that was exaggerated in the past
three years.
& B$ d, p) b4 X  ^0 s6 \By “overpricing” we mean that prices detached from
+ x- {& L4 P% [8 x0 K/ ztheir 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
to fundamentally justified levels.
We consider “overbuilding” of two forms: “demanddriven”
9 N1 G2 U9 f+ X0 twhere homebuyers buy up too many houses and
' J6 G0 x$ U0 Ethat this demand cannot be sustained; and “supply-driven”
where builders accumulate excessive inventories. Although
/ D5 |" R2 X- {1 T4 Jthere is evidence of both types, we contend that Canada’s
1 x' R  o/ w) h* t1 {, \“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
# ~! J0 _  L- \+ [4 }$ f  r) G# Bfrom the cyclical downturn, house price growth will
. Z; w, u9 k0 oremain choppy and new residential construction will be
dampened, owing to this structural weakness. Construction
. O: k, f. v. h0 S1 f! u# Eis now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
residential construction will fall further to around
. q# r0 \: W/ S5 g7 I125,000 starts over 2009 with a trough around 115,000 units
0 |  w# z8 s  P$ cin the fourth quarter.
" z' G0 g: ], A) A  xTo quantify the degree of overpricing and overbuilding,
4 x3 g6 K; W+ T% @8 t' C3 c- @/ Wwe first develop an empirical model, based on long-run
fundamentals of house prices and housing starts in each
. ]) \, {  w9 q! u* ]province. Affordability is the key concept behind home
6 j* t5 V# W) Svalues since house prices should track incomes over the
+ _0 x5 _+ G' H5 M7 |( j5 a& Jlong-run. Since homebuilders build to meet demand, we
regard housing prices and household formation as the drivers
$ u. _0 P. O7 k5 w6 t2 jof residential construction.
6 g* p' `: `3 O1 k" u0 tTo examine the degree of overbuilding, we employ a
“counter-factual,” asking what level of residential construction
, \! O$ C4 H: Q3 V' L* b1 L  qwould have occurred if housing had been priced
optimally. We find that actual homebuilding exceeded this
fundamental-justified level by about 12%. Although new
2 O' e7 O" B; G& h/ R+ C$ U- ~units 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
( ?) T0 |9 a. Z/ m% B, b$ A5 jalready witnessing surges in their unsold new homes at the
very time that the resale market has swung into strong
" Z0 w2 O; f: I  `6 c6 Abuyers’ territory. Homebuilding in the Atlantic provinces
has 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
+ M. f6 C/ \! Y3 U+ sstrange accumulation of unabsorbed multiples on l’Île de
% G- l$ r% o: aMontréal – but recent building has been relatively balanced,
2 U7 h5 O. u5 Z+ K, zgiven the province’s history of under-building and low ownership
4 _6 M) K8 m( i1 @rates. While Ontario homebuilding will reel from a
& m6 j( E/ i2 u  _4 g( T+ B4 ?/ fcyclical downturn, the degree of structural weakness appears
limited – with the important exception of the Toronto
condo market. Both in Toronto and Vancouver, historically
3 V& v% A/ i" P8 F6 b' g2 q3 Yhigh 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
spike severely – particularly in Vancouver. However, while
1 p6 Y, r0 J" }% l* |/ tresidential construction in B.C. will definitely droop, we
anticipate that the West Coast will continue to benefit from
  h( h- s3 s# r5 R7 \3 i5 T6 o$ tinter-provincial and international migration over the coming
years, which, along with improvements in affordability,
will alleviate some of the pressure from overbuilding.
OVERPRICED AND OVERBUILT: CANADIAN HOUSING
& H4 Y# W( l3 |4 CMARKET RETURNS TO FUNDAMENTALS
Grant Bishop, Economist
% Q3 r7 G1 \( T3 p; ~7 |2 S416-982-8063
2 F! Q; @0 K- }# J& OPascal Gauthier, Economist
' h7 a  O2 y) k9 s416-944-5730
$ g: l3 A) I; }. @  c' Z
5 m6 p  C4 ^6 M+ Vhttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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