TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
- J: E2 B# X% C, `from 2002 to 2008, unsustainable price increases drove
' o: t' j9 c, m. ^3 ^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
12%, an excess that was exaggerated in the past
5 T( e0 g8 A; e2 H: L/ [three years.
; C8 U7 n) D; qBy “overpricing” we mean that prices detached from
0 _( P% t0 t) J, Btheir 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.
/ k% Y! d( p2 W1 K: O/ _* U& s# cWe consider “overbuilding” of two forms: “demanddriven”
) w! Q4 s- K2 K" @; [7 N8 u* A" qwhere homebuyers buy up too many houses and
that this demand cannot be sustained; and “supply-driven”
# _; y+ u0 }. `- z" l* `where builders accumulate excessive inventories. Although
there is evidence of both types, we contend that Canada’s
/ _2 Z5 j  S& q/ l“overbuilding” was mainly of the first type, where
homebuyers pushed homebuilding to an unsustainable pitch
that is now being rapidly reined in.
0 R. |. l- H* ]+ a' b6 K( QWhile most markets won’t face U.S.-style overhangs,
the construction of too many new homes over the boom
means a deepened slump. This overbuilding will likely weigh
& m) ^% R" ?! ^( ?" w+ c/ bon markets over the next few years. Even as Canada recovers
1 f; D; w3 b" d' H+ J2 [0 \1 {+ gfrom the cyclical downturn, house price growth will
. G. v5 U. @8 e# premain choppy and new residential construction will be
, x2 @' w% i4 X6 fdampened, owing to this structural weakness. Construction
1 ?$ g0 w7 ?' i4 ?2 R4 ]' m5 fis now undershooting fundamentals and we expect this
$ O  Z! B7 H  D; p2 w0 E: ~1 fto persist over 2009 to 2011. We anticipate that nationwide
' L# `! w( I" R+ w) p4 R3 iresidential construction will fall further to around
125,000 starts over 2009 with a trough around 115,000 units
5 T/ m& n1 Y4 {5 G$ Z' R9 I- iin the fourth quarter.
$ W( T2 ?0 i0 |. w9 ATo quantify the degree of overpricing and overbuilding,
, t# p! _, s( V0 y% Wwe first develop an empirical model, based on long-run
/ f  D1 m: n  Afundamentals of house prices and housing starts in each
4 b* E/ [/ G) e3 c" h" b9 c8 K0 {# }province. Affordability is the key concept behind home
( b2 B& m" {, J1 F( e9 h- Kvalues 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.
) i- |  @4 ~- ~: n& E3 NTo examine the degree of overbuilding, we employ a
“counter-factual,” asking what level of residential construction
! _5 V" R4 I: \/ B  \, g( @- pwould have occurred if housing had been priced
) `/ q. S8 o5 X+ I% R6 y) Foptimally. We find that actual homebuilding exceeded this
. i+ ?, L! g4 ]' Dfundamental-justified level by about 12%. Although new
6 w' K+ z6 Z8 ~5 V( h' munits were being absorbed, homebuyers simply bought too
4 l- b2 m7 j) U0 |3 u  dmany houses at prices that exceeded fundamentals.
, O2 |/ T; l& ]* i8 ^9 C( ]% KRegionally, we see the greatest strains on the Prairies,
* q+ ?  x# V; X* c2 [, U- @2 J$ @1 Rwhere housing demand will further contract under waning
population inflows. Saskatoon, Calgary and Edmonton are
) E5 A6 D' n) [- O7 [: r9 v! u0 }  Talready witnessing surges in their unsold new homes at the
) b! g- Y+ E2 w( r6 f1 @very time that the resale market has swung into strong
buyers’ territory. Homebuilding in the Atlantic provinces
9 a% W4 D2 l) }9 `5 Z. Lhas been relatively balanced but, while not plagued by structural
# v* ^3 d( H$ g0 @* R2 `8 `* mweakness, will be singed by the downturn nonetheless.
" [4 {6 F- E- E( k$ N3 `Québec shows signs of strain – especially given the
( b# P- |2 }( P; F' ^strange accumulation of unabsorbed multiples on l’Île de
Montréal – but recent building has been relatively balanced,
/ Z: N$ s( ^/ W2 a0 p: Y6 n6 Agiven the province’s history of under-building and low ownership
( k+ |1 @( G) F1 x: ~4 p( Trates. While Ontario homebuilding will reel from a
. i, }, A4 D. F. ?" o3 T: ecyclical downturn, the degree of structural weakness appears
8 B) ^* N' G' c+ b* flimited – with the important exception of the Toronto
condo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
construction mean that record numbers of condos will
reach completion during 2009. If absorption rates fall, as
cyclical factors would indicate, condo inventories could
" R$ e0 O& m) ?' c% N  U# u. gspike severely – particularly in Vancouver. However, while
: B2 x( Z0 D( G9 k5 g% t! |+ \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.
OVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
Grant Bishop, Economist
, ~! v$ D1 |* |: ?0 M( R  I416-982-8063
Pascal Gauthier, Economist
: O% x9 O1 v2 e3 \- g416-944-5730

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

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