TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
" U, g( F/ h& `( ?- mfrom 2002 to 2008, unsustainable price increases drove
6 U8 P' _1 Z) T% T1 Munsustainable levels of building. Our view is that house
/ s# e* Z" f! ~, u/ d0 Q  [( f* ~prices exceeded the value of housing that was justified by
fundamentals by approximately 9% nationwide. This
, ^8 [7 \  w( v+ I5 Ioverpricing compelled a level of residential construction
that exceeded its fundamental-justified level by approximately
12%, 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
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”
where homebuyers buy up too many houses and
, n! u+ a% c* o1 Y+ C' y/ M/ ?that this demand cannot be sustained; and “supply-driven”
where builders accumulate excessive inventories. Although
" F5 w9 X3 c3 {# ]: [) w) kthere is evidence of both types, we contend that Canada’s
7 ~- l9 s8 C# v* L“overbuilding” was mainly of the first type, where
) Q" u: k3 ~# i5 f( ]homebuyers pushed homebuilding to an unsustainable pitch
6 \$ ]5 O8 F; C/ V" Zthat is now being rapidly reined in.
/ B/ K. J; J" I" a$ Y/ b* c5 M% RWhile most markets won’t face U.S.-style overhangs,
- \" X, e6 k! S# L$ cthe 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
from the cyclical downturn, house price growth will
" U0 v$ A8 k6 L! s: z( H( q* _remain choppy and new residential construction will be
) D0 S* C5 x7 g$ Q6 Ydampened, owing to this structural weakness. Construction
4 e# e- x8 G7 Q" Iis now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
- C' |% F! q6 iresidential construction will fall further to around
, o  @8 w$ t8 u# y4 ?8 S125,000 starts over 2009 with a trough around 115,000 units
+ n# Q- Z9 e1 s6 p  gin the fourth quarter.
To quantify the degree of overpricing and overbuilding,
: f& F9 _( Y9 x% }. Zwe first develop an empirical model, based on long-run
7 K7 g% z9 c1 u; Sfundamentals 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
6 X) O( E- y0 n- d' `regard housing prices and household formation as the drivers
of residential construction.
& q2 y4 D; {1 v3 y, W5 k# PTo examine the degree of overbuilding, we employ a
“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
optimally. We find that actual homebuilding exceeded this
2 n& `- x9 t0 {4 pfundamental-justified level by about 12%. Although new
2 X  c. g1 Y8 J6 y! Uunits were being absorbed, homebuyers simply bought too
1 o4 u# m* [; Fmany houses at prices that exceeded fundamentals.
Regionally, we see the greatest strains on the Prairies,
5 U6 Q; V5 x+ Q* G; ]where housing demand will further contract under waning
. X' w' K, E( ~" @1 ^  j1 Y' hpopulation inflows. Saskatoon, Calgary and Edmonton are
already witnessing surges in their unsold new homes at the
5 ~' y2 A4 x3 yvery time that the resale market has swung into strong
buyers’ territory. Homebuilding in the Atlantic provinces
! n; o# D! Z% Zhas 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
; F0 t: R0 |2 y3 X0 Estrange 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
8 d9 t+ s8 e! q* `rates. While Ontario homebuilding will reel from a
! C  A5 T# Y' b: t' {cyclical downturn, the degree of structural weakness appears
! l7 A; x8 S; D5 Z! llimited – with the important exception of the Toronto
condo market. Both in Toronto and Vancouver, historically
" L. W8 [4 v1 C) [high levels of apartment-style units presently under
& G8 {/ U0 G" D& `0 econstruction mean that record numbers of condos will
$ t- y, E- K0 Dreach completion during 2009. If absorption rates fall, as
cyclical factors would indicate, condo inventories could
/ g% L0 m2 U% c0 s) k1 {spike severely – particularly in Vancouver. However, while
- c$ S# V$ ?6 P/ @9 V# fresidential 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,
8 P! [4 R0 f! o% q! g$ T  K7 Cwill alleviate some of the pressure from overbuilding.
/ p. m+ Z2 I& p0 VOVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
+ M% Y0 W- c- b$ [Grant Bishop, Economist
# b4 [% B0 I8 A416-982-8063
  h: P* B0 W' n6 A' `6 M8 DPascal Gauthier, Economist
; y" k5 j! o. S; o9 z2 w2 g416-944-5730
/ q0 Y: T4 w' w( J3 o+ V5 J( \8 D
http://www.td.com/economics/special/gb0409_housing_exec.pdf

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