Focus
May 21, 2021 | 12:39
More Homes, Please
Economics
Fixed Income Strategy
Economics
Economics
Economics
Economics
Economics
Fixed Income Strategy
Economics
Economics
Economics
Economics
More Homes, Please |
|
Global house prices surged during the pandemic with Canada and the U.S. largely leading the pack. A whirlwind of demand fanned by low interest rates and teleworkers vacuumed listings, sending prices skyward. Monthly resale supply in both countries, already lean before the pandemic, mined fresh lows. Lurking beneath the surface is a tight supply of new homes. Like bitcoin or a Gretzky rookie card, the limited supply transforms demand spikes into price hikes. Unless builders, notably in Canada, can more responsively address the population's needs, affordability will likely continue to worsen. |
How well have Canadian and U.S. builders met the population's needs in recent decades? Let’s start with the U.S. where reliable data on annual household formation exists. After a period of overbuilding in the 2000's boom, U.S. builders look to have kept pace with the rise in the number of households in the past decade (Chart 1). Canadian data on annual household formation are unavailable. However, relative to the adult population, builders have held the share of housing starts fairly steady in the past three decades, with a period of under-building in the 1990s followed by a period of catch-up in the 2000s (Chart 2). However, the share of detached homes has trended down since 2005, coinciding with Ontario's move to restrict land use in parts of the Greater Golden Horseshoe region. These are the homes now highly sought by older millennials raising families and, more recently, by teleworkers (Chart 3). Consequently, the supply of new detached homes remains lean, leaving prices sensitive to demand swings (Chart 4). Canada’s Census does provide a tally of household formation every five years. From 2002 to 2016, the number of households rose at an annual average rate of 1.4%, or about 167,000. During the same 15-year period, builders started 205,000 units on average and completed 195,000. Thus, construction (even net of demolitions and conversions that likely run above 20,000) seems to have exceeded household formation over this period. But three things are worth noting. First, there was a dearth of construction in the prior decade (1992 to 2001) when just 146,000 units were completed on average. Second, it is widely suspected that the Census undercounts family formation, in part because it misses many non-permanent residents. And third, household formation has likely soared since the last Census due to record immigration (Chart 5). From 2016 to 2020, Canada’s population grew an average of 1.3%, which, despite last year’s plunge, was the fastest since the early 1990s. In a May 2017 study, the Parliamentary Budget Officer estimated that household formation jumped from 171,700 in 2015 to 209,100 in 2016. Since that year, the Canada Mortgage and Housing Corporation, in a January 2021 study, estimates that annual household formation averaged around 200,000 in the 2021 census period (based on Statistics Canada’s medium-growth population projections made prior to the pandemic). By comparison, the rate of housing completions has changed little, averaging 194,000 in the four years to 2020, less than household formation. A recent pickup in housing starts is encouraging with Canada's 279,000 average in the past six months the highest since at least 1990 and the U.S. trend of 1.6 million the most since 2006. However, sustaining this rate could be difficult. Builders are struggling with supply disruptions, skilled-worker shortages, and soaring lumber costs that have added tens of thousands of dollars to the cost of a new home. While the CMHC study expected household formation to decline in the decades ahead due to an aging population and low fertility rates, this is far from assured if immigration rebounds anywhere close to the federal government’s new higher targets. Piling on is a growing demand for second dwellings for retirement and vacation. In Vancouver and Toronto, 20% and 17% of owners, respectively, have more than one property, though most are likely used for rental purposes. Also, some properties are bought solely for investment or speculation and can sit vacant for a while. Moreover, short-term rentals (Airbnb) to tourists have reduced the stock of housing available to live in, at least before the pandemic. Claims of an undersupply of new housing in Canada may sound odd given that the country devotes a record amount of activity to residential investment (Chart 6). The recent 9.3% share of GDP is well above the long-run mean (5.9%) and almost double the current U.S. rate. However, the aggregate share masks a flatter trend in actual construction, which is still close to its long-run norm (3.6% vs. 3.1%). Most of the increase is in renovations (3.0% vs. 1.8%) and ownership transfer costs (2.7% vs. 1.0%), the latter due to surging sales and prices. Toronto is one region where demand seems to constantly outrun supply. Despite vastly more cranes in use than any other North American city, condo builders are having trouble meeting a resurgence in sales after last year's lull. According to Urbanation, new condo sales last quarter in the Greater Toronto Area nearly returned to their high pre-pandemic levels, pulling unsold inventory down to 2½-year lows and lifting average prices for unsold units by 8% y/y to record highs. Many units will be leased, addressing a dearth of purpose-built apartment construction in recent decades. Builders can only do so much under the current rules. To this aim, all levels of government need to work together to ensure that regulations do not unduly restrict supply. Reducing red tape and layers of bureaucracy would speed up development approvals and permits. Lowering development charges would reduce costs and increase supply, as recommended in a November 2020 study by the C.D. Howe Institute. Easing zoning restrictions for single-family dwellings without compromising environmental objectives would also help. At the same time, there is a need for greater intensification, via construction of multi-story townhomes and row houses, along the major transportation routes of some large cities. |
|
The Bottom Line: The recent pickup in home building will likely need to be sustained to meet the needs of millennials, second-home seekers, teleworkers, and a growing population. Canada, in particular, needs more single-family homes in suburban areas where more people are moving to, as well as greater intensification in large urban cities. A more responsive, nimble approval process would help builders respond faster to recurring spikes in demand, limiting periods of overheating in major urban areas. This would also reduce the need for policymakers to spring into action to douse demand every time prices flare up. Better to prevent the fire than to put it out. |