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
8 J( h; ^6 ^9 _& |/ w: [" L. t7 K% Kprices exceeded the value of housing that was justified by
' G& t1 f) p8 |% o% M  S% |fundamentals by approximately 9% nationwide. This
5 V+ i7 y2 D; D+ j- n! P+ C) Joverpricing compelled a level of residential construction
that exceeded its fundamental-justified level by approximately
! p4 \( f* g& h0 M# b5 P12%, an excess that was exaggerated in the past
three years.
9 ]" B0 U6 ?9 D9 ~3 fBy “overpricing” we mean that prices detached from
their fundamentals, as witnessed by a steep erosion of
affordability. The current unwinding of house prices reflects
8 }& O% H' U) y; a1 N6 V3 @1 F$ gboth a cyclical downturn and a return of house prices
) K; n1 A0 O3 v6 M$ Z9 j8 Xto fundamentally justified levels.
We consider “overbuilding” of two forms: “demanddriven”
, z# C: I7 F% x- \% j" X1 Fwhere homebuyers buy up too many houses and
that this demand cannot be sustained; and “supply-driven”
where builders accumulate excessive inventories. Although
there is evidence of both types, we contend that Canada’s
/ S- @) v9 u' _+ {“overbuilding” was mainly of the first type, where
homebuyers pushed homebuilding to an unsustainable pitch
. M; X' {# T! n* a9 ?/ _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
  D2 c5 t) D* c, C) q0 V/ I" U" K9 ron markets over the next few years. Even as Canada recovers
0 h, R, R: Z( Z: ^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
to persist over 2009 to 2011. We anticipate that nationwide
residential construction will fall further to around
1 N1 H" `1 u, k125,000 starts over 2009 with a trough around 115,000 units
% M9 x0 ^4 q6 ]" _/ {( c: Iin the fourth quarter.
To quantify the degree of overpricing and overbuilding,
& K$ [' R% P8 m1 c9 B7 q% \we first develop an empirical model, based on long-run
0 e% x& x+ g/ b/ D  h: Pfundamentals of house prices and housing starts in each
6 S) N* W9 O2 ?% D2 a! ?2 Kprovince. Affordability is the key concept behind home
) i0 [9 G& r/ z- M7 q# Uvalues 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.
, r: p: ?( X: w( m: e. n0 mTo examine the degree of overbuilding, we employ a
. r$ i& N& m4 d0 b1 e9 v$ Q6 A“counter-factual,” asking what level of residential construction
would have occurred if housing had been priced
optimally. We find that actual homebuilding exceeded this
  X; Y2 f8 Y. q# `fundamental-justified level by about 12%. Although new
units were being absorbed, homebuyers simply bought too
many houses at prices that exceeded fundamentals.
Regionally, we see the greatest strains on the Prairies,
where housing demand will further contract under waning
population inflows. Saskatoon, Calgary and Edmonton are
already witnessing surges in their unsold new homes at the
7 d% v) c4 s4 q  E( l; j) Ivery time that the resale market has swung into strong
buyers’ territory. Homebuilding in the Atlantic provinces
6 u$ F( N6 r  ?has been relatively balanced but, while not plagued by structural
& h; H3 b: H6 Q  }4 v7 X% V2 R' g5 Cweakness, will be singed by the downturn nonetheless.
2 M( O; Q$ E- d/ h! pQuébec shows signs of strain – especially given the
strange accumulation of unabsorbed multiples on l’Île de
Montréal – but recent building has been relatively balanced,
" R/ ~7 f* N8 O: |given the province’s history of under-building and low ownership
. F7 V: s7 A$ J  g* Q, o  _- nrates. While Ontario homebuilding will reel from a
& U( t1 r, x6 n5 ncyclical downturn, the degree of structural weakness appears
( o/ |6 ?0 I& N4 V8 mlimited – with the important exception of the Toronto
condo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
/ T; _7 H+ s/ E+ wconstruction mean that record numbers of condos will
! T, B  J# w8 E2 }) \# Wreach completion during 2009. If absorption rates fall, as
cyclical factors would indicate, condo inventories could
0 d0 Y1 f# k/ W; d/ Mspike severely – particularly in Vancouver. However, while
6 b' u# x2 c+ q% ^7 nresidential construction in B.C. will definitely droop, we
# q* A) v6 M5 q$ ]) }anticipate 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
% N, z" p  b: g2 Z3 _MARKET RETURNS TO FUNDAMENTALS
- `$ K* g9 i& T' zGrant Bishop, Economist
2 t& E. M  t  w" ^$ `416-982-8063
Pascal Gauthier, Economist
416-944-5730
+ D; d5 H  i+ s* h6 h8 Y1 G0 _& r" x# ]2 r
, C) r, N+ g8 p; J* t- I/ T* j- \6 Rhttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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