TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
& i/ Z/ j# l! h* {- g2 n- T4 o  {from 2002 to 2008, unsustainable price increases drove
5 L8 U. X4 J4 k7 uunsustainable 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
2 m6 Y1 F7 u) L. P( p# Ythat exceeded its fundamental-justified level by approximately
  O/ b, y; @9 b( R/ ]: K1 f12%, 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
/ S) x& l0 `% U; l% c# _- Mto fundamentally justified levels.
We consider “overbuilding” of two forms: “demanddriven”
" i( N( a# @! Twhere homebuyers buy up too many houses and
# y; p1 Q  O! U: r& K: sthat this demand cannot be sustained; and “supply-driven”
" g6 R) \. @5 v4 V" i3 N) Swhere 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
that is now being rapidly reined in.
While most markets won’t face U.S.-style overhangs,
& X, ]1 o6 q- I5 u$ P: nthe 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
remain choppy and new residential construction will be
dampened, owing to this structural weakness. Construction
% s( a4 b$ `! Gis now undershooting fundamentals and we expect this
, y6 s6 Z$ a8 L6 j' dto 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
8 m& ]0 }+ u+ f  X  V6 t) `) sin the fourth quarter.
0 Z9 P' r6 O  `: y. p5 l) ZTo quantify the degree of overpricing and overbuilding,
we first develop an empirical model, based on long-run
+ G, G3 j  ^; v. j) q! ^1 ^fundamentals of house prices and housing starts in each
province. Affordability is the key concept behind home
. i% r* J5 _8 J& {$ \values since house prices should track incomes over the
long-run. Since homebuilders build to meet demand, we
8 n$ T2 o1 J  j' F% v$ nregard housing prices and household formation as the drivers
. q, z+ T- {  Z$ f4 z+ ^7 Vof residential construction.
To examine the degree of overbuilding, we employ a
“counter-factual,” asking what level of residential construction
7 Z: J4 y( S" X( l% v0 Kwould have occurred if housing had been priced
optimally. We find that actual homebuilding exceeded this
fundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
many houses at prices that exceeded fundamentals.
' }3 p: y: B7 u) h& n& {Regionally, we see the greatest strains on the Prairies,
. R  X& z- i/ X, B) s, E6 ~where housing demand will further contract under waning
population inflows. Saskatoon, Calgary and Edmonton are
already witnessing surges in their unsold new homes at the
) h' _6 S  s8 c: N! x3 gvery time that the resale market has swung into strong
buyers’ territory. Homebuilding in the Atlantic provinces
has been relatively balanced but, while not plagued by structural
weakness, will be singed by the downturn nonetheless.
1 _) J8 }( }+ G! ^1 n: yQuébec shows signs of strain – especially given the
/ Q1 v  ]3 ^5 Bstrange accumulation of unabsorbed multiples on l’Île de
& l1 O8 l- Z( KMontréal – but recent building has been relatively balanced,
3 P! h; U9 Y( v1 K: f/ ]  R" n) \given the province’s history of under-building and low ownership
6 T# ]1 X9 \- {" z/ S! U) wrates. While Ontario homebuilding will reel from a
cyclical downturn, the degree of structural weakness appears
& q# C9 h1 b& X/ w& ~# J- ~3 Rlimited – with the important exception of the Toronto
$ e, B$ N& y5 l% B) Econdo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
9 P" R" E# S; R/ {# pconstruction mean that record numbers of condos will
3 K2 K7 l+ K. yreach completion during 2009. If absorption rates fall, as
, z5 I2 j- j1 B5 A5 t3 }" ?cyclical factors would indicate, condo inventories could
spike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
6 C; G* e2 `8 {  _anticipate that the West Coast will continue to benefit from
8 e" ^6 g3 r: b" ]1 Xinter-provincial and international migration over the coming
years, which, along with improvements in affordability,
will alleviate some of the pressure from overbuilding.
( i7 J  t- p$ @0 qOVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
: ]  |) ?2 M' bGrant Bishop, Economist
! p4 ~7 U+ I0 Z8 @- ^0 C; C416-982-8063
Pascal Gauthier, Economist
, ^, K, t7 p7 w) l416-944-5730
" j$ \* M" u+ E" l
http://www.td.com/economics/special/gb0409_housing_exec.pdf

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