TD Bank:OVERPRICED AND OVERBUILT: CANADIAN HOUSING

依勒特

During Canada’s “Housing Boom”, which ran roughly
- |" h. w: S: Y( N2 Mfrom 2002 to 2008, unsustainable price increases drove
" k* y/ {) u0 w: c8 Zunsustainable levels of building. Our view is that house
prices exceeded the value of housing that was justified by
fundamentals by approximately 9% nationwide. This
overpricing compelled a level of residential construction
% \/ v: k* O6 c+ T' Vthat exceeded its fundamental-justified level by approximately
. }1 r4 {$ {' Y' s* M9 A& v12%, an excess that was exaggerated in the past
& ]% |4 [# s3 J" P/ @- rthree years.
By “overpricing” we mean that prices detached from
their fundamentals, as witnessed by a steep erosion of
* Q; k+ w. H5 p- Q& c! a2 Jaffordability. The current unwinding of house prices reflects
both a cyclical downturn and a return of house prices
to fundamentally justified levels.
We consider “overbuilding” of two forms: “demanddriven”
where homebuyers buy up too many houses and
# c/ A; e& ^4 p; ^8 L5 Qthat this demand cannot be sustained; and “supply-driven”
. _* X/ d; U( d, f6 Mwhere builders accumulate excessive inventories. Although
, r# b9 b( R" \* @; ithere is evidence of both types, we contend that Canada’s
4 l6 M3 }3 z+ a7 r2 N. o/ a“overbuilding” was mainly of the first type, where
homebuyers pushed homebuilding to an unsustainable pitch
3 l7 {! \4 v5 U1 V7 Tthat is now being rapidly reined in.
! d/ N, l4 |$ DWhile most markets won’t face U.S.-style overhangs,
the construction of too many new homes over the boom
$ N: ~# b! S% L* d# z4 D# L3 |means 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
6 q) V& ~1 U9 T4 W% c% b4 ^5 Lremain 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
. Q6 s0 A3 }8 N) S1 A0 U- {residential construction will fall further to around
. c. v5 V9 w9 C/ J1 u125,000 starts over 2009 with a trough around 115,000 units
( R( g% ]3 T9 T. ]* {5 z9 I1 Jin the fourth quarter.
To quantify the degree of overpricing and overbuilding,
we first develop an empirical model, based on long-run
$ `" `+ B+ S9 B& t- g( j1 r! Pfundamentals of house prices and housing starts in each
: @2 J: \- p* }; Pprovince. Affordability is the key concept behind home
1 J) V! @3 P8 f' T3 ~values since house prices should track incomes over the
2 H- T) o* K" G: H# B, I- blong-run. Since homebuilders build to meet demand, we
regard housing prices and household formation as the drivers
/ p/ e( O, ^  Y' r; X1 wof residential construction.
To examine the degree of overbuilding, we employ a
( {; N  t+ ]+ r2 z# y9 U& d“counter-factual,” asking what level of residential construction
: i8 q! u/ B4 I% @3 E6 K( Qwould have occurred if housing had been priced
optimally. We find that actual homebuilding exceeded this
/ q5 \/ E, |7 I0 L* vfundamental-justified level by about 12%. Although new
8 n. O4 x* ]* W) u: G" c! {0 \$ |units were being absorbed, homebuyers simply bought too
) q1 k( O  N' q, n) c1 b3 kmany 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
very time that the resale market has swung into strong
buyers’ territory. Homebuilding in the Atlantic provinces
  Y/ g' e6 }( m0 t# l! f2 G# Q  Rhas been relatively balanced but, while not plagued by structural
4 a4 X' T5 c6 H* c; eweakness, will be singed by the downturn nonetheless.
9 ~7 H4 g: B( u* @Québec shows signs of strain – especially given the
strange accumulation of unabsorbed multiples on l’Île de
: Y8 N3 |% H: ?Montréal – but recent building has been relatively balanced,
given the province’s history of under-building and low ownership
: ^  i. t, L. _( o7 ^rates. While Ontario homebuilding will reel from a
! w1 @3 @. u  m; G7 O1 u1 Ecyclical downturn, the degree of structural weakness appears
limited – with the important exception of the Toronto
condo market. Both in Toronto and Vancouver, historically
high levels of apartment-style units presently under
$ E( `$ t' k1 s& sconstruction mean that record numbers of condos will
& ^3 {: G( Y: e  W: M1 v# Oreach completion during 2009. If absorption rates fall, as
cyclical factors would indicate, condo inventories could
spike severely – particularly in Vancouver. However, while
residential construction in B.C. will definitely droop, we
anticipate that the West Coast will continue to benefit from
( \5 r! b1 ~4 v6 [: P, minter-provincial and international migration over the coming
1 Q, c8 j, p/ c9 `years, which, along with improvements in affordability,
will alleviate some of the pressure from overbuilding.
OVERPRICED AND OVERBUILT: CANADIAN HOUSING
0 [" t. Q1 v0 kMARKET RETURNS TO FUNDAMENTALS
/ k' o1 U: v% \9 v+ W3 [: yGrant Bishop, Economist
416-982-8063
Pascal Gauthier, Economist
416-944-5730

: X  F- r1 Z) L, shttp://www.td.com/economics/special/gb0409_housing_exec.pdf

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