TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
from 2002 to 2008, unsustainable price increases drove
( Y  m9 w  Z. G/ b2 n1 d" Munsustainable levels of building. Our view is that house
, g" `# a. b: `: }% o% Qprices exceeded the value of housing that was justified by
) H+ E# Y! I; ?9 c8 B" _: f% M/ Xfundamentals by approximately 9% nationwide. This
& d) a( I: g! S+ w% ioverpricing compelled a level of residential construction
/ [  k5 J9 `* }2 m$ C/ nthat exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
* I7 U1 T# `2 S. e* I9 Athree years.
' h- C5 l7 C: m( E3 F! j/ |By “overpricing” we mean that prices detached from
. J, W  n' x5 _* X4 C/ R' r" atheir 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
; X0 F: X& J" g5 l# V5 Sto fundamentally justified levels.
We consider “overbuilding” of two forms: “demanddriven”
* v1 v- f, B3 O7 m) m& Xwhere homebuyers buy up too many houses and
that this demand cannot be sustained; and “supply-driven”
where builders accumulate excessive inventories. Although
  U9 q4 H! _( |/ f9 p/ I+ ^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,
the 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
+ T7 C0 p5 `4 I3 dfrom the cyclical downturn, house price growth will
6 B" K2 p7 U1 i4 bremain choppy and new residential construction will be
/ ]. {% E# k& G. ~( v$ q; Mdampened, owing to this structural weakness. Construction
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
* h/ A* z1 b! W( v125,000 starts over 2009 with a trough around 115,000 units
in the fourth quarter.
To quantify the degree of overpricing and overbuilding,
( B, M4 _  o) b- B+ L7 S1 {we first develop an empirical model, based on long-run
fundamentals of house prices and housing starts in each
6 }& ^- x. U/ ?* Nprovince. Affordability is the key concept behind home
  ]* c9 ?# E6 L$ L/ ~) bvalues since house prices should track incomes over the
long-run. Since homebuilders build to meet demand, we
8 D/ R* G/ D6 N/ ^regard housing prices and household formation as the drivers
of residential construction.
To examine the degree of overbuilding, we employ a
7 d7 @, l, K! n3 b7 h( z“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
& X- I% g  G1 \6 L0 I( _0 eoptimally. 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.
  D% D+ j* d% m! k2 f* zRegionally, we see the greatest strains on the Prairies,
! [% S/ f6 w$ @/ e$ uwhere housing demand will further contract under waning
population inflows. Saskatoon, Calgary and Edmonton are
/ }* N. e! m" i3 I! Xalready witnessing surges in their unsold new homes at the
very time that the resale market has swung into strong
: X1 k3 @2 V) Ubuyers’ territory. Homebuilding in the Atlantic provinces
has been relatively balanced but, while not plagued by structural
* |2 f7 `# {% K7 J# r: L' P: pweakness, will be singed by the downturn nonetheless.
( `: H6 c8 i' ]# K: L) `" UQuébec shows signs of strain – especially given the
1 ~0 {" @1 P1 h) E2 J1 \strange 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
rates. While Ontario homebuilding will reel from a
cyclical downturn, the degree of structural weakness appears
# e6 F$ K* m- f  {limited – with the important exception of the Toronto
* B4 a1 ^% ~9 ^condo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
" G! F( l6 g7 c3 gconstruction mean that record numbers of condos will
- X6 Q. r$ }6 g) ^" g/ Freach completion during 2009. If absorption rates fall, as
cyclical factors would indicate, condo inventories could
$ l0 c5 j$ a% W& ]4 {- N# aspike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
' ?$ e! {8 V% x2 z" w' P. F7 nanticipate that the West Coast will continue to benefit from
$ ?+ a$ X0 s- G# C0 I' n* Einter-provincial and international migration over the coming
years, which, along with improvements in affordability,
$ n! @  {0 S8 Zwill alleviate some of the pressure from overbuilding.
% G1 H1 I9 c6 Y8 S! [5 E) ~OVERPRICED AND OVERBUILT: CANADIAN HOUSING
7 s0 v. @1 Y0 i# z2 K" @& j* Y* bMARKET RETURNS TO FUNDAMENTALS
. f3 n9 O3 Q/ e: }Grant Bishop, Economist
416-982-8063
Pascal Gauthier, Economist
416-944-5730

$ v4 H; A' S7 o3 l+ }- f/ nhttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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