TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
9 Y$ O+ }; f$ _6 c4 Bfrom 2002 to 2008, unsustainable price increases drove
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
1 v% [& g/ f! I: [overpricing compelled a level of residential construction
that exceeded its fundamental-justified level by approximately
12%, an excess that was exaggerated in the past
three years.
4 x$ b# s/ \. ?3 DBy “overpricing” we mean that prices detached from
, C. T5 K" G: xtheir fundamentals, as witnessed by a steep erosion of
affordability. The current unwinding of house prices reflects
/ ?7 ^9 k# I* E, G! dboth a cyclical downturn and a return of house prices
& j$ }' l: i, eto fundamentally justified levels.
% A, G$ a3 M- z/ t* XWe consider “overbuilding” of two forms: “demanddriven”
where homebuyers buy up too many houses and
that this demand cannot be sustained; and “supply-driven”
# `6 t  [, e- u0 dwhere builders accumulate excessive inventories. Although
4 a% `; y0 K3 s5 Y4 B7 i9 uthere 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
7 {; r& g* |% J/ Ythat 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
& i* T3 F( _& L6 y  Z6 v# Kmeans a deepened slump. This overbuilding will likely weigh
$ _. M. m2 Z" X5 J- b+ X/ ]# pon markets over the next few years. Even as Canada recovers
9 U! F. D) L1 zfrom the cyclical downturn, house price growth will
remain choppy and new residential construction will be
8 G) @  j/ E; a- Z2 W0 n" u" X2 sdampened, owing to this structural weakness. Construction
is now undershooting fundamentals and we expect this
to persist over 2009 to 2011. We anticipate that nationwide
3 n! K) n% W# T4 q0 ^residential construction will fall further to around
; z' h2 m1 ^( i0 U) b3 i125,000 starts over 2009 with a trough around 115,000 units
: _& H5 E! x3 L; M# e* }in the fourth quarter.
To quantify the degree of overpricing and overbuilding,
8 y1 K# R+ b! S3 B! [6 wwe first develop an empirical model, based on long-run
( m$ e; T5 I; ~% F0 h2 c$ afundamentals of house prices and housing starts in each
6 ^1 V0 ?# k; _" H$ Aprovince. 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
' e6 v: j+ ^8 Z6 @6 kregard housing prices and household formation as the drivers
of residential construction.
To examine the degree of overbuilding, we employ a
( o* p) W: Q8 j) j; m( U2 h/ G“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
2 J0 K3 k8 S. ioptimally. We find that actual homebuilding exceeded this
fundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
) W. a9 m! a% E1 Emany houses at prices that exceeded fundamentals.
- C# o9 d- E# g; Q  U& a2 DRegionally, we see the greatest strains on the Prairies,
where housing demand will further contract under waning
+ S& y/ H. C7 p( j* _population inflows. Saskatoon, Calgary and Edmonton are
4 y# }- j3 S) Q& k3 a: J1 aalready 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
, [8 J5 S8 f" u6 lhas 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,
given the province’s history of under-building and low ownership
7 L  B; c0 Y" v, g) l$ D! E& lrates. While Ontario homebuilding will reel from a
8 ^% D3 D$ k! j5 j$ icyclical downturn, the degree of structural weakness appears
, u1 D, X  B( W/ qlimited – with the important exception of the Toronto
8 S* P# A4 C: W8 B) Y# K! ?condo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
1 A. o8 |3 F; r2 G3 t* Tconstruction mean that record numbers of condos will
reach completion during 2009. If absorption rates fall, as
; P! [% A: g- d; U( k/ wcyclical factors would indicate, condo inventories could
spike severely – particularly in Vancouver. However, while
9 [8 @( s& u9 H/ M$ Xresidential construction in B.C. will definitely droop, we
3 A7 |& `& g- santicipate 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
) ^9 ?6 [' ^5 v1 g, g( b/ UGrant Bishop, Economist
416-982-8063
Pascal Gauthier, Economist
$ v! l; e& P* t& K- k! l416-944-5730
- J' z3 Z3 V+ O: W' w
http://www.td.com/economics/special/gb0409_housing_exec.pdf

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