TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
! Q7 d. H. k" a$ Hfrom 2002 to 2008, unsustainable price increases drove
unsustainable levels of building. Our view is that house
( O0 ]$ v+ ~& T5 Aprices exceeded the value of housing that was justified by
fundamentals by approximately 9% nationwide. This
  J. |% }) k. B0 ^7 M  Soverpricing compelled a level of residential construction
$ R! x$ A: |6 I* i( Zthat exceeded its fundamental-justified level by approximately
/ u4 R" a6 p  U0 P, E( f- T& ]% N12%, an excess that was exaggerated in the past
three years.
5 U! l0 [+ T; v" _By “overpricing” we mean that prices detached from
2 T3 `3 W4 O7 X& W  m+ y, rtheir fundamentals, as witnessed by a steep erosion of
affordability. The current unwinding of house prices reflects
- b2 E" A& |" T# Jboth a cyclical downturn and a return of house prices
" P4 `; y. r& P% K, L. dto fundamentally justified levels.
$ i7 X! k( Y# f8 r5 o8 u1 vWe consider “overbuilding” of two forms: “demanddriven”
where homebuyers buy up too many houses and
that this demand cannot be sustained; and “supply-driven”
5 r' [  v, U2 u5 m$ T" ^0 |/ Awhere builders accumulate excessive inventories. Although
there is evidence of both types, we contend that Canada’s
“overbuilding” was mainly of the first type, where
homebuyers pushed homebuilding to an unsustainable pitch
! o" t! x' \2 L$ R! R8 @. N/ m+ b' ]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
: y- X# l1 ^! imeans a deepened slump. This overbuilding will likely weigh
on markets over the next few years. Even as Canada recovers
" H' v" K, I# Rfrom the cyclical downturn, house price growth will
/ F: F# f$ r# m+ Premain choppy and new residential construction will be
- `+ @* A) \1 E+ }, |" xdampened, owing to this structural weakness. Construction
is now undershooting fundamentals and we expect this
& Q" [. J, `5 ~6 p% K0 Ito 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,
; ~9 y" D- s" R+ @6 g  |& q0 qwe first develop an empirical model, based on long-run
& T. I1 ?- K! w, }+ A# |fundamentals of house prices and housing starts in each
2 u# ?! M7 Q9 B, v2 @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
4 |$ p& T7 `9 `/ C% o- Tregard housing prices and household formation as the drivers
) C# e# J+ R9 C1 q( Q# [of residential construction.
To examine the degree of overbuilding, we employ a
“counter-factual,” asking what level of residential construction
8 U, O, t. ~. y$ Lwould have occurred if housing had been priced
optimally. We find that actual homebuilding exceeded this
% g' Q4 \+ N3 E8 T5 Xfundamental-justified level by about 12%. Although new
3 M: A, R" y! g$ ^* Q: ounits were being absorbed, homebuyers simply bought too
many houses at prices that exceeded fundamentals.
Regionally, we see the greatest strains on the Prairies,
) ?8 `9 R/ K$ z0 @0 t* Jwhere housing demand will further contract under waning
& V) r+ Q" ?, \  X3 I) |# s% Ipopulation inflows. Saskatoon, Calgary and Edmonton are
already 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
) Y. S% w. J" b8 c9 whas been relatively balanced but, while not plagued by structural
) |! L7 M. S& }0 w( a1 [weakness, will be singed by the downturn nonetheless.
Québec shows signs of strain – especially given the
" |$ z  _9 [9 xstrange accumulation of unabsorbed multiples on l’Île de
Montréal – but recent building has been relatively balanced,
. R; K4 C3 G7 [5 x1 i5 _# }given the province’s history of under-building and low ownership
! Y, \. @$ z' g& W- Zrates. While Ontario homebuilding will reel from a
cyclical downturn, the degree of structural weakness appears
! w- t$ t& g0 z( ]1 m& Q8 Xlimited – with the important exception of the Toronto
4 R5 E( i- F1 ]2 O2 r% fcondo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
' J" o4 ^3 n8 y7 Y* B& Iconstruction mean that record numbers of condos will
1 V1 x7 m3 B. E3 i( Sreach completion during 2009. If absorption rates fall, as
cyclical factors would indicate, condo inventories could
# _3 W+ X: h: v# H! p3 p, pspike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
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,
will alleviate some of the pressure from overbuilding.
) Y9 V+ o/ @5 ?3 K2 L/ uOVERPRICED AND OVERBUILT: CANADIAN HOUSING
" g, p; V% U8 X9 n, h( `/ |MARKET RETURNS TO FUNDAMENTALS
Grant Bishop, Economist
& O' l& f  n5 ?416-982-8063
Pascal Gauthier, Economist
8 ~3 L7 V/ E/ z. P9 d416-944-5730
5 Z; R/ }$ d+ J% v  }9 I/ T. L
- \/ z9 n' V# A1 E3 phttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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