TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
8 H6 G7 T' P9 Z& q8 Z+ Z9 Qfrom 2002 to 2008, unsustainable price increases drove
$ N: N5 t. H7 p' D! Z) U9 ?6 x( N# Sunsustainable levels of building. Our view is that house
  `5 J1 |2 i$ D0 K( l# ?6 t1 }prices exceeded the value of housing that was justified by
fundamentals by approximately 9% nationwide. This
* ~8 y( z. b1 o& H) Zoverpricing compelled a level of residential construction
- t; P  D/ _$ i4 [3 J- athat exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
three years.
, S/ c' @1 T0 Z( t- W- O8 q6 m' PBy “overpricing” we mean that prices detached from
3 D9 [0 c- Z0 B; Ctheir fundamentals, as witnessed by a steep erosion of
9 X# P' w5 @" c2 O6 `) ?3 Kaffordability. The current unwinding of house prices reflects
both a cyclical downturn and a return of house prices
to fundamentally justified levels.
, L2 _$ C6 {# v& gWe consider “overbuilding” of two forms: “demanddriven”
/ Q1 [- V6 F& {" I4 U  E6 b5 ~where homebuyers buy up too many houses and
that this demand cannot be sustained; and “supply-driven”
7 o7 T* g6 _) z) K" u0 U5 h. O. Ewhere builders accumulate excessive inventories. Although
there is evidence of both types, we contend that Canada’s
! o6 c8 F/ M4 e& n( X0 x/ J“overbuilding” was mainly of the first type, where
homebuyers pushed homebuilding to an unsustainable pitch
$ g6 A7 J: Z. p' o2 Othat 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
# g5 G, R* L1 Nmeans a deepened slump. This overbuilding will likely weigh
3 P/ @- }& e3 U* Con markets over the next few years. Even as Canada recovers
from the cyclical downturn, house price growth will
4 |& E0 t( h$ c+ c4 T( Uremain choppy and new residential construction will be
) D9 a. ?( W8 b) }- I' C! {dampened, owing to this structural weakness. Construction
* }* R" r3 a& S) ?2 ?" W  r% a) k0 [is now undershooting fundamentals and we expect this
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,
/ |. H1 M' s: Y( \, Bwe first develop an empirical model, based on long-run
fundamentals 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
& C2 G7 u2 e$ ^of residential construction.
3 k( _; q  t# v5 ATo examine the degree of overbuilding, we employ a
& C4 b$ n& Q' m3 Q- W8 U! t“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
optimally. We find that actual homebuilding exceeded this
7 ?0 i0 x) O/ a+ O" `. L0 Cfundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
! d. ?5 V% z" w# x7 j- ~many houses at prices that exceeded fundamentals.
Regionally, we see the greatest strains on the Prairies,
where housing demand will further contract under waning
& x; A* p: Z, U8 n; Opopulation inflows. Saskatoon, Calgary and Edmonton are
" \; h+ d$ G- t4 Ealready 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
has 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
strange accumulation of unabsorbed multiples on l’Île de
Montréal – but recent building has been relatively balanced,
1 Y3 {4 [2 k# [6 K$ Ugiven the province’s history of under-building and low ownership
rates. 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
! _$ k- h( J+ A3 v) K. gconstruction mean that record numbers of condos will
reach completion during 2009. If absorption rates fall, as
9 ^& r  H8 K+ e$ g4 ?+ Wcyclical factors would indicate, condo inventories could
' }/ p* C* N: dspike severely – particularly in Vancouver. However, while
0 p! t1 o% F3 C$ ^& T$ ], y7 \2 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
( f; g9 a$ s$ o. jyears, which, along with improvements in affordability,
will alleviate some of the pressure from overbuilding.
% Y3 Q1 V3 Y) K- I; q5 q% F+ YOVERPRICED AND OVERBUILT: CANADIAN HOUSING
5 ]3 n- w* c- T, G' NMARKET RETURNS TO FUNDAMENTALS
Grant Bishop, Economist
416-982-8063
Pascal Gauthier, Economist
7 }; E6 ?; ^( c! L416-944-5730

* Z$ p3 W( Y* _: ~, X5 q. y' S; Bhttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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