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
overpricing compelled a level of residential construction
that exceeded its fundamental-justified level by approximately
- q- o4 j' y4 z/ l( o: e9 C12%, an excess that was exaggerated in the past
three years.
& @# `  P# L" D0 g, RBy “overpricing” we mean that prices detached from
: O* B5 j5 @0 ~2 M" y2 Q0 I( Y$ ?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
! y* u& q* y3 q4 q2 P  P+ [to fundamentally justified levels.
We consider “overbuilding” of two forms: “demanddriven”
where homebuyers buy up too many houses and
that this demand cannot be sustained; and “supply-driven”
where builders accumulate excessive inventories. Although
! T5 B/ h: r" jthere is evidence of both types, we contend that Canada’s
“overbuilding” was mainly of the first type, where
1 i: Z" {, B' nhomebuyers pushed homebuilding to an unsustainable pitch
8 S& t3 S- m, x* x4 t8 V$ vthat is now being rapidly reined in.
While most markets won’t face U.S.-style overhangs,
$ I, ^; G5 u/ M9 @% x$ G; ^the construction of too many new homes over the boom
; k7 M3 W$ }& ymeans a deepened slump. This overbuilding will likely weigh
+ Q* v9 v, ]$ }7 x& }! [4 Bon markets over the next few years. Even as Canada recovers
: O9 ^; Z, k& mfrom the cyclical downturn, house price growth will
" O5 }" f& U* O5 \7 G1 Premain choppy and new residential construction will be
: O- E" o! L4 V/ J' gdampened, owing to this structural weakness. Construction
is now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
$ i6 R# t+ Q$ z# w! b3 X' {- xresidential construction will fall further to around
125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
To quantify the degree of overpricing and overbuilding,
6 h# @3 R/ F* Q- awe first develop an empirical model, based on long-run
% o" x: j1 @8 ]fundamentals of house prices and housing starts in each
province. Affordability is the key concept behind home
7 d1 C# I" u6 ]! C& e; f8 n/ d. Y+ T+ ovalues 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
of residential construction.
To examine the degree of overbuilding, we employ a
& K. v; a" |' }: o- _* |“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
$ v! _$ s% f: l6 ^9 U4 Y; Q! eoptimally. We find that actual homebuilding exceeded this
fundamental-justified level by about 12%. Although new
3 X% x3 |) T) R6 _( h4 p, n+ A9 ounits were being absorbed, homebuyers simply bought too
many houses at prices that exceeded fundamentals.
Regionally, we see the greatest strains on the Prairies,
7 \. }1 ^( ~3 G3 ?' k( W8 B) c# ]where housing demand will further contract under waning
: C4 B+ u$ O3 s! Kpopulation inflows. Saskatoon, Calgary and Edmonton are
already witnessing surges in their unsold new homes at the
: D  x- B& ^2 y- [! `. s4 Avery time that the resale market has swung into strong
) X& ~! P3 w! F  pbuyers’ territory. Homebuilding in the Atlantic provinces
9 @8 D2 @3 T* t& `& c2 c* }has been relatively balanced but, while not plagued by structural
! I5 k& G& n3 ?* oweakness, will be singed by the downturn nonetheless.
" ?$ X' w& {7 D* yQuébec shows signs of strain – especially given the
strange accumulation of unabsorbed multiples on l’Île de
Montréal – but recent building has been relatively balanced,
9 z/ I7 m1 p" pgiven 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
2 J* X+ E/ ?( Ihigh levels of apartment-style units presently under
construction mean that record numbers of condos will
, W% g% m. g+ Y8 Ureach completion during 2009. If absorption rates fall, as
cyclical factors would indicate, condo inventories could
) A* a3 W  h' m0 z0 X1 D8 F* P5 f9 l* Yspike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
( K" q1 X# Q7 {1 ^anticipate that the West Coast will continue to benefit from
inter-provincial and international migration over the coming
- u+ w5 T' o3 |years, which, along with improvements in affordability,
& D& e; ^  @) `  \0 Fwill alleviate some of the pressure from overbuilding.
OVERPRICED AND OVERBUILT: CANADIAN HOUSING
2 e# W6 B7 {  \1 ~MARKET RETURNS TO FUNDAMENTALS
' l% P; x$ q. c  F: ^: @- s- PGrant Bishop, Economist
# R# s6 h) ^& w, Z' E! J6 t* Z' n' a416-982-8063
: o& m, g( o- T* l/ h7 PPascal Gauthier, Economist
$ z7 |$ n8 j# J& \% }# @: I0 Y( z416-944-5730

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

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