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
unsustainable levels of building. Our view is that house
- K& D2 C8 I- i. m$ v$ U4 eprices exceeded the value of housing that was justified by
  q* \) F* p" n# sfundamentals by approximately 9% nationwide. This
overpricing compelled a level of residential construction
  W, p' f4 b" s- E. \that exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
. G6 e, f/ w! }3 Tthree years.
; A- C0 k: B/ Z8 c4 UBy “overpricing” we mean that prices detached from
2 z9 x. K" [6 Y' J# e! m$ etheir fundamentals, as witnessed by a steep erosion of
; ~* |# M- K: Q' M+ Naffordability. The current unwinding of house prices reflects
  y9 F9 V( S6 ~; B/ xboth a cyclical downturn and a return of house prices
3 z) `" O1 C* F" Y$ R$ u  Zto fundamentally justified levels.
We consider “overbuilding” of two forms: “demanddriven”
where homebuyers buy up too many houses and
$ u. e- C( W% C5 V0 nthat this demand cannot be sustained; and “supply-driven”
# x4 b7 I6 R4 M/ {/ {& G8 v8 [where builders accumulate excessive inventories. Although
there is evidence of both types, we contend that Canada’s
/ U( j* H! B% z3 l  P“overbuilding” was mainly of the first type, where
homebuyers pushed homebuilding to an unsustainable pitch
that is now being rapidly reined in.
& ?3 I+ z- L0 b3 E& U. MWhile most markets won’t face U.S.-style overhangs,
the construction of too many new homes over the boom
1 Q( F! d3 P& P  xmeans 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
is now undershooting fundamentals and we expect this
6 k/ f+ A% N  [5 ]) |* v- e6 Xto persist over 2009 to 2011. We anticipate that nationwide
residential construction will fall further to around
8 l* G- s& z( k- o9 d, c125,000 starts over 2009 with a trough around 115,000 units
4 @' d/ x, e7 I1 jin the fourth quarter.
To quantify the degree of overpricing and overbuilding,
we first develop an empirical model, based on long-run
fundamentals of house prices and housing starts in each
" y, C& v7 t6 b! V' q/ }: jprovince. Affordability is the key concept behind home
/ m) ~  H, Z$ l6 _- J/ {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
of residential construction.
' J( w4 Z4 q, j) Y. t! Z: g% STo examine the degree of overbuilding, we employ a
: L( `/ X2 G' }( F5 i% c“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
2 `( s1 i( p) p; B4 Voptimally. We find that actual homebuilding exceeded this
fundamental-justified level by about 12%. Although new
6 }3 |7 M# K) \: t+ T' ~units were being absorbed, homebuyers simply bought too
many houses at prices that exceeded fundamentals.
3 a# O; m2 ?7 a+ r8 d- aRegionally, we see the greatest strains on the Prairies,
3 `; D: F2 D) m8 cwhere housing demand will further contract under waning
& [; }- k' K  L: J* lpopulation inflows. Saskatoon, Calgary and Edmonton are
already witnessing surges in their unsold new homes at the
+ Z; H+ H; b' _4 o- E' 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.
  ^3 @0 U" |7 q4 `8 A9 J9 lQuébec shows signs of strain – especially given the
+ Q8 K$ e& }) fstrange accumulation of unabsorbed multiples on l’Île de
( D2 A/ \- K/ b3 [4 b" U2 uMontréal – but recent building has been relatively balanced,
, i" }  R* {( j* _3 @given the province’s history of under-building and low ownership
. m2 @+ O3 [* D/ c; t9 ~8 l/ }# nrates. While Ontario homebuilding will reel from a
cyclical downturn, the degree of structural weakness appears
limited – with the important exception of the Toronto
1 e8 n; X3 [6 V' J: q, Econdo 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
6 e& f7 Q' Z& g& M" {  Qspike severely – particularly in Vancouver. However, while
& j2 _- z7 w. x: Wresidential construction in B.C. will definitely droop, we
anticipate that the West Coast will continue to benefit from
* b: k& f7 K; S* R% dinter-provincial and international migration over the coming
years, which, along with improvements in affordability,
will alleviate some of the pressure from overbuilding.
3 ], Z7 j. l% `. LOVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
Grant Bishop, Economist
416-982-8063
0 |  L0 T# e8 B7 pPascal Gauthier, Economist
- `/ l- [' G& ?5 C( V) k416-944-5730

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

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