TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
" e! O/ N2 K% E3 P( D+ r8 q! c% c/ g) Ufrom 2002 to 2008, unsustainable price increases drove
7 }' `, r7 q" F; i3 z5 wunsustainable levels of building. Our view is that house
prices exceeded the value of housing that was justified by
fundamentals by approximately 9% nationwide. This
4 f( F; Y- ~8 ~) L1 e3 Zoverpricing compelled a level of residential construction
that exceeded its fundamental-justified level by approximately
  a" k) L+ ^4 \# ?! L12%, an excess that was exaggerated in the past
three years.
By “overpricing” we mean that prices detached from
their fundamentals, as witnessed by a steep erosion of
& p6 p. b/ |+ @! U* |, I" Eaffordability. The current unwinding of house prices reflects
0 [9 S- G& K' _' F" j' w( _both a cyclical downturn and a return of house prices
to fundamentally justified levels.
8 c* [! |2 o& o" ~2 `, nWe consider “overbuilding” of two forms: “demanddriven”
where homebuyers buy up too many houses and
% g/ c" r& m8 r& j8 U0 x, sthat this demand cannot be sustained; and “supply-driven”
where builders accumulate excessive inventories. Although
# ~) A; G% h8 |9 c* Lthere is evidence of both types, we contend that Canada’s
“overbuilding” was mainly of the first type, where
8 l% F  @) p0 E3 [% s& chomebuyers pushed homebuilding to an unsustainable pitch
that is now being rapidly reined in.
While most markets won’t face U.S.-style overhangs,
; _# p; G9 _; n! @# c6 N  mthe construction of too many new homes over the boom
means a deepened slump. This overbuilding will likely weigh
0 U' i' ~: R* o( e: T. I. ?  P! Ton markets over the next few years. Even as Canada recovers
from the cyclical downturn, house price growth will
* K+ I! |# k0 W$ Q) y- yremain choppy and new residential construction will be
; s, M( F& b  q) Kdampened, owing to this structural weakness. Construction
is now undershooting fundamentals and we expect this
# h: V5 d4 d# Q( E6 \to persist over 2009 to 2011. We anticipate that nationwide
residential 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,
we first develop an empirical model, based on long-run
( A; m9 P% t2 l3 hfundamentals 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
long-run. Since homebuilders build to meet demand, we
regard housing prices and household formation as the drivers
, n: k2 t- J+ @$ o& k" t% ^of residential construction.
; j2 C( Y: N# U: ~6 @% m5 J% _1 g2 ATo examine the degree of overbuilding, we employ a
8 g9 r4 [/ h/ W1 Y! I“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
optimally. We find that actual homebuilding exceeded this
fundamental-justified level by about 12%. Although new
* z6 m! _% P0 \8 G7 c' U5 Uunits were being absorbed, homebuyers simply bought too
- O9 m7 R5 `+ _/ O4 i+ Zmany houses at prices that exceeded fundamentals.
' ]; H* Y* h% P6 n& B  oRegionally, we see the greatest strains on the Prairies,
+ b4 O, o1 K( kwhere housing demand will further contract under waning
population inflows. Saskatoon, Calgary and Edmonton are
+ j/ t( `( z5 U7 b# k* Oalready witnessing surges in their unsold new homes at the
& I2 K' {! y0 r; i) j# nvery time that the resale market has swung into strong
buyers’ territory. Homebuilding in the Atlantic provinces
( k2 I: c( f+ O$ ?- }has been relatively balanced but, while not plagued by structural
- L+ b/ N- @, R* `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,
given the province’s history of under-building and low ownership
) ^/ j" T$ p/ L& M7 Nrates. 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
7 l/ U4 ~7 m+ b2 [( i. c" cconstruction mean that record numbers of condos will
2 Z/ Z! b# i" ]& u2 Mreach completion during 2009. If absorption rates fall, as
2 k4 D; l# |* j+ a# X4 Q9 m. d/ xcyclical factors would indicate, condo inventories could
- j" o3 q- O  o3 o$ E0 _9 {spike severely – particularly in Vancouver. However, while
: A& L- p; l2 t8 [residential construction in B.C. will definitely droop, we
" n" D) x- P8 U+ s0 U8 I& r0 M$ Panticipate that the West Coast will continue to benefit from
inter-provincial and international migration over the coming
; V# q+ ?" O  ]2 |9 Iyears, which, along with improvements in affordability,
+ ]3 p; _$ {! k! K. Fwill alleviate some of the pressure from overbuilding.
/ a8 U4 J8 ?5 |% B' J/ H9 X8 R7 bOVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
; O$ ]; d* z2 P  l3 pGrant Bishop, Economist
1 q$ F4 D. d9 v) h3 C416-982-8063
9 z/ w& Z4 U* n. I5 g$ `% `# RPascal Gauthier, Economist
416-944-5730

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

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