TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
9 ?: z. x9 o5 m$ Y; vfrom 2002 to 2008, unsustainable price increases drove
unsustainable levels of building. Our view is that house
9 H9 B6 W& E" eprices exceeded the value of housing that was justified by
- a' R& s: t8 V  A' Sfundamentals by approximately 9% nationwide. This
1 [% j* w. D" l) Q  O2 c3 C- qoverpricing compelled a level of residential construction
6 q' I* Q" c+ mthat exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
three years.
% H6 l6 }  q; U0 V5 }# P7 pBy “overpricing” we mean that prices detached from
their fundamentals, as witnessed by a steep erosion of
affordability. The current unwinding of house prices reflects
  G1 x2 U# H) ~7 T3 I$ dboth a cyclical downturn and a return of house prices
$ ~  X/ m$ E( U( s- W5 U9 yto fundamentally justified levels.
We consider “overbuilding” of two forms: “demanddriven”
" v6 W0 U2 l2 |/ cwhere homebuyers buy up too many houses and
: `' M! G4 p7 M. `) V/ Qthat this demand cannot be sustained; and “supply-driven”
where builders accumulate excessive inventories. Although
2 N1 }5 c$ H8 \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,
+ A' ^( _- u1 ]" W0 q& othe construction of too many new homes over the boom
+ y6 u' W: G* @1 X. a  [" \; ~# jmeans a deepened slump. This overbuilding will likely weigh
; v9 ~' X8 @' n# ]. X" Ton markets over the next few years. Even as Canada recovers
+ c! ~; d4 l5 ^% k! g# wfrom the cyclical downturn, house price growth will
remain choppy and new residential construction will be
# `5 z9 }) F1 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
125,000 starts over 2009 with a trough around 115,000 units
4 I. N3 M% x% N4 }* h1 |in 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
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
& [- X3 P; H4 Qregard housing prices and household formation as the drivers
* G& c& ?% `! }4 Cof residential construction.
# q$ P) d3 _/ h; R$ A/ a3 s5 KTo examine the degree of overbuilding, we employ a
“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
0 n4 E- ?' v1 woptimally. We find that actual homebuilding exceeded this
# ]3 f! n6 Q3 x) |+ H; Wfundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
) S* A* h( b% ~, c5 i* Imany houses at prices that exceeded fundamentals.
% r! x2 `6 O  ^/ P. ?$ uRegionally, we see the greatest strains on the Prairies,
" l& z& E1 t+ e  n" L' Iwhere housing demand will further contract under waning
population inflows. Saskatoon, Calgary and Edmonton are
already witnessing surges in their unsold new homes at the
6 P, z9 k2 d# L/ t$ h9 |, `very time that the resale market has swung into strong
buyers’ territory. Homebuilding in the Atlantic provinces
2 d, @- p4 T" D1 }has been relatively balanced but, while not plagued by structural
$ _: g9 k! d; s' Y5 m, g3 fweakness, will be singed by the downturn nonetheless.
Québec shows signs of strain – especially given the
strange accumulation of unabsorbed multiples on l’Île de
9 S% i" c/ Z1 K3 t" N( q% z2 L+ }9 oMontréal – but recent building has been relatively balanced,
* ^: B* a1 y; ^given the province’s history of under-building and low ownership
rates. While Ontario homebuilding will reel from a
2 I$ H- A. x6 F; F# @cyclical downturn, the degree of structural weakness appears
$ b, g7 y7 w0 D& K' [( Xlimited – with the important exception of the Toronto
, {+ l$ S  j( b9 Z: ]condo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
; x/ z: K: v$ R9 ^6 G2 A( T: @  ]construction mean that record numbers of condos will
. ?1 K  e5 v5 o/ a' |" }reach completion during 2009. If absorption rates fall, as
cyclical factors would indicate, condo inventories could
$ g* [7 h7 ^/ z5 Uspike severely – particularly in Vancouver. However, while
: j3 [/ g$ ], [; n. W& Lresidential 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
& i& v( e( C; |years, which, along with improvements in affordability,
will alleviate some of the pressure from overbuilding.
& U/ ?7 M: x. E1 m2 [OVERPRICED AND OVERBUILT: CANADIAN HOUSING
MARKET RETURNS TO FUNDAMENTALS
# L0 M; \. x* Z8 y( u4 oGrant Bishop, Economist
, v1 d: D3 {3 n3 @416-982-8063
Pascal Gauthier, Economist
, n+ P7 X' P- I' e  d1 v5 y416-944-5730

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

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