BC Population Growth to Q3 2011

BC Stats just released (PDF) its quarterly population estimates and BC continues sluggish growth through Q3.

Population growth consists of the following bulk components:

• Natural increase (births - deaths)
• Net interprovincial migration
• Net international migration (including permanent and non-permanent residents)

So let's look at how recent quarters look in a historical context (there is seasonality so quarters are best compared to each other):

The most recent Q3-2011 data indicate continued negative net interprovincial migration, but a marked increase in nonpermanent residents (NPRs). (NPRs mostly consist of students and temporary workers.) Q3 usually sees an increase in NPRs due to arriving students commencing collegiate pursuits in September. The most recent CMHC rental survey indicates decreased rental vacancy; the increase in NPRs provides some evidence supporting the lower reported vacancy rate.

Below are graphs of NPR migration and annual population growth up to 2010:

Weak population growth in Q4-2010 through Q2-2011 has further extended into Q3-2011, and Q3 is respectable mostly by virtue of increased NPR in-migration and not permanent residents. These recent population data are what I would characterise as a continuing bearish indicator for BC real estate, especially for owner-occupier dwelling formation.

Y U No Spend?

Bank of Canada governor Mark Carney is speaking again -- again -- this time to businesses, on how to pull Canada through what looks to be a period of uphill growth (emphasis mine):

Canadian households increased their borrowing significantly. Canadians have now collectively run a net financial deficit for more than a decade, in effect, demanding funds from the rest of the economy, rather than providing them, as had been the case since the Leafs last won the Cup. 

Developments since 2008 have reduced our margin of manoeuvre. In an environment of low interest rates and a well functioning financial system, household debt has risen by another 13 percentage points, relative to income. Canadians are now more indebted than the Americans or the British. Our current account has also returned to deficit, meaning that foreign debt has begun to creep back up...

In other words, households are chasing diminishing returns and the point at which this debt will be impossible to properly service is a looming risk.

Our strong position gives us a window of opportunity to make the adjustments needed to continue to prosper in a deleveraging world. But opportunities are only valuable if seized.
First and foremost, that means reducing our economy’s reliance on debt-fuelled household expenditures. To this end, since 2008, the federal government has taken a series of prudent and timely measures to tighten mortgage insurance requirements in order to support the long-term stability of the Canadian housing market. Banks are also raising capital to comply with new regulations. Canadian authorities are co-operating closely and will continue to monitor the financial situation of the household sector. 

To eliminate the household sector’s net financial deficit would leave a noticeable gap in the economy. Canadian households would need to reduce their net financing needs by about $37 billion per year, in aggregate. To compensate for such a reduction over two years could require an additional 3 percentage points of export growth, 4 percentage points of government spending growth or 7 percentage points of business investment growth. 

Any of these, in isolation, would be a tall order. Export markets will remain challenging. Government cannot be expected to fill the gap on a sustained basis. 

But Canadian companies, with their balance sheets in historically rude health, have the means to act—and the incentives. Canadian firms should recognize four realities: they are not as productive as they could be; they are under-exposed to fast-growing emerging markets; those in the commodity sector can expect relatively elevated prices for some time; and they can all benefit from one of the most resilient financial systems in the world. In a world where deleveraging holds back demand in our traditional foreign markets, the imperative is for Canadian companies to invest in improving their productivity and to access fast-growing emerging markets.

This would be good for Canadian companies and good for Canada. Indeed, it is the only sustainable option available. A virtuous circle of increased investment and increased productivity would increase the debt-carrying capacity of all, through higher wages, greater profits and higher government revenues. This should be our common focus.

Carney is pleading with businesses to invest to make up for what household spending has done in the past 3 years (and longer), in part by expanding enterprises away from Europe and the United States where growth prospects look anaemic. It appears that increases in -- or even the maintenance of -- the average household debt-to-income ratio will be a trigger for further tightening of credit availability.

Carney has also provided confirmation that banks are increasing their capital reserves for household loans, which means less credit will be available going forward and banks will need to be more selective in the loans they make. It is unclear what criteria banks will use to ration their loans but may involve regional considerations, as was done by HCG earlier this year.

The Bank of Canada is trying, with the limited tools it has available, everything it can to get businesses to spend. If businesses do not spend the burden will be borne by households and governments and this, in Carney's view, is the outcome most likely to lead to subpar (or negative) economic growth. The federal government has been attempting to facilitate private investment through tax breaks and other investment programs, but now Carney, at least, is appealing to patriotism. That is a wonderful stance in principle.

Bank of Canada Blows the Alarm on Housing Again

As the Eurozone crisis continues its slow impact with the current account iceberg, Canadian financiers, politicians, and technocrats (yes Canada has technocrats too) are planning for fallout (PDF). One key area of concern is the health of Canadian household finances. Below are excerpts from the risk analysis of Canada's housing market (emphasis mine):

The rising indebtedness of Canadian households in recent years has increased the possibility that a significant proportion of households would be unable to make debt payments in the event of an adverse economic shock. This growing vulnerability has heightened the risk that a deterioration in the credit quality of household loans would amplify the impact of the shock on the financial system. The resulting increase in loan-loss provisions for financial institutions and the reduced quality of the remaining loans would lead to tighter credit conditions and, in turn, to mutually reinforcing declines in real activity and in the overall health of the financial sector. 

The vulnerability to this risk remains elevated and is broadly unchanged since June. There are tentative signs that the sustained rise in the proportion of vulnerable households in recent years has moderated and credit growth has slowed noticeably over the past six months. Nonetheless, our simulation results suggest that household balance sheets remain vulnerable to adverse economic shocks... 

While the growth of household credit has slowed since early 2011, it has continued to increase more rapidly than income. As a result, the debt-to-income ratio of the Canadian household sector increased to a historical high of 149 per cent in the second quarter (Chart 23) and has been higher than the ratio in the United States since the start of 2011.

If recent trends persist, the ratio of household debt to income will continue to rise

Despite the rebound in the growth rate of mortgage credit in October, the Bank expects a gradual moderation in the underlying trend in household debt accumulation over the medium term as activity in the housing market slows and as lower commodity prices and heightened volatility in financial markets weigh on the wealth and confidence of Canadian households. Since the growth of personal disposable income is also projected to be moderate, the gap between credit and income growth is expected to narrow but remain positive, implying that further increases in the aggregate household debt-to-income ratio are likely. 

The overall financial situation of households remains strained  

Data for both individual households and the sector as a whole indicate that the financial situation of the household sector remains vulnerable. In particular, both the share of indebted households that have a debt-service ratio exceeding 40 per cent and the proportion of debt owed by these households remain above the 2000–2010 average.
The aggregate credit-to-GDP gap for Canada has fallen from its cyclical peak but remains high by historical standards, owing to the growth in household credit. International evidence has shown that this indicator is a useful guide for identifying a potential buildup of imbalances in the banking sector. 

Financial stress in the household sector has eased since the beginning of 2011, although it remains above pre-crisis levels: mortgage and consumer loans in arrears have moderated somewhat during 2011 but are nonetheless elevated. As well, the ratio of household debt to assets remains above its pre-crisis level, and household net worth declined modestly in the second quarter. Given negative returns across a broad range of assets since mid-year, net worth is expected to have declined further in the third quarter. 

Households are vulnerable to adverse shocks to the labour and housing markets 

Given the vulnerable state of their balance sheets, households would be less able to cope with the impact of significant adverse shocks. Two interrelated events to which Canadian household balance sheets are vulnerable are a significant decline in house prices and a sharp deterioration in labour  market conditions. 

Since high-ratio mortgages in Canada are insured, it is likely that a moderate fall in house prices would affect systemic risk primarily through the negative feedback loop with the real economy. In such a scenario, declines in house prices would lead to lower household net worth, reduced access to secured credit and lower employment in the housing-related sector. These factors would reduce consumer spending and increase strains on household balance sheets. 

Some measures of housing affordability suggest continued imbalances, owing to the robust performance of this market. In particular, house prices remain very high relative to income. Since the adverse impact of elevated residential property prices on affordability has been largely offset by low interest rates, affordability would be considerably curtailed if interest rates were closer to historical norms.

Certain areas of the national housing market may be more vulnerable to price declines, particularly the multiple-unit segment of the market, which is showing signs of disequilibrium: the supply of completed but unoccupied condominiums is elevated, which suggests a heightened risk of a correction in this market. 

A sharp and persistent increase in the unemployment rate would reduce aggregate income growth and make it more difficult for some households to make their debt payments. It would also have adverse knock-on effects on consumer confidence, the housing market and Canadian household net worth. 

The elevated debt loads of the household sector require continued vigilance

The Government of Canada has taken important measures in recent years to strengthen underwriting practices for government-backed insured mortgages. The most recent set of measures was implemented in March and April 2011, when the maximum amortization period was reduced from 35 to 30 years, the maximum loan-to-value ratio when refinancing a mortgage was lowered from 90 per cent to 85 per cent, and government-backed insurance on lines of credit secured by houses was withdrawn. These measures represented the continuation of a series of actions taken by the Government of Canada since 2008 to foster stability in the domestic mortgage market, and should help to moderate the future growth in household debt. Nonetheless, continued vigilance is warranted, since adverse debt dynamics remain in place. The Bank is co-operating closely with other federal authorities to continuously assess the risks arising from the financial situation of the household sector. 

Given the robust pace of mortgage credit growth in recent years, the Office of the Superintendent of Financial Institutions has conducted focused research on retail lending products over the past 18 months. An advisory was recently released noting that additional analysis is planned in the coming months. Where appropriate, this analysis will build on international mortgage underwriting principles being developed by the Financial Stability Board. OSFI has reiterated that mortgage lenders are expected to have an established policy for mortgage underwriting that is supported through appropriate risk-management practices and internal controls.

Key points and comments:

• Household balance sheets are likely to deteriorate further in coming months, and potentially years, with current controls in place.
• The Bank of Canada sees high house prices relative to incomes as unsustainable in the long run.
• OSFI is concerned about a disconnect between bank lending practices and long-term economic stability.
• Curbs on lending in terms of implementing risk management measures and countercyclical buffers on mortage loans are likely in the works.
• Usually announcements of further tightening of mortgage credit are announced in the first two months of the year to allow for proper implementation before the brunt of the peak of Canada's spring selling season.

If the Bank of Canada feels the need to lower interest rates in early 2012, this paper suggests that they are seriously considering additional curbs on mortgage lending to offset any additional monetary stimulus. This may mean, in particular overheated regional markets (like Vancouver's), that OSFI will start enforcing measures more closely tied to regional price-income metrics. This means Vancouver homeowners may find credit availability tougher than other regions of the country.

This is an important report. I have been surmising that further curbs in mortgage lending are coming, but am still unsure what form they will take. It is still possible that curbs going forward will start delving into the low-ratio mortgage market -- if prices do start falling banks who are lending on terms incompatible with government-backed mortgage insurance will create a significant liability for Her Majesty's Government.

Greater Vancouver Market Snapshot November 2011

Below are updated sales, inventory and months of inventory graphs for Greater Vancouver to November 2011.

And the detached benchmark price:

Commentary: November 2011, continuing from previous months, has produced more tepid sales numbers than years past. Months of inventory (MOI, the number of months it would take to clear month-end inventory at current monthly sales levels), a key indicator of market liquidity and impending price strength, is at about 6, a level concomitant with flat prices.

Total inventory has likely peaked in October (it peaked mid-month, but not shown due to monthly sample rate); if the market were under significant distress we would have expect increased inventory buildup through November, which did not happen. New listings have been consistently about 20% higher in 2011 than 2010 with sales roughly flat. That indicates a greater percentage of listed properties will be unable to elicit a sale.

Below is the predictor of price gains, based on half-over-half price change to months of inventory correlation:

What this shows is the change in prices in a month from 6 months ago based on actual data and “predicting” the price based on months of inventory from that month based on linear regression of half-over-half price change to months of inventory (with 3 month moving average).

In summary November 2011 has mirrored November 2010 closely, with slightly more weakness due to higher inventory levels and lower sales. December and January are slow months for listings and sales, so while the reports may be of some interest there won't be much to draw any meaningful conclusions. It is likely that severe market distress, should it occur as in 2008, would only be evident going into the summer, validated by robust inventory growth and increasingly slower sales. While I am not calling for such an event in 2012, there are real and tangible risks of it occurring based on slower population growth, increased dwelling starts, slower GDP growth in Asia, and potentially further mortgage lending restrictions in overheated markets like Vancouver's.

Elections and the Unspoken Fear

I have been following local Vancouver City election campaigning of late. I have been particularly interested in looking at the various platforms aimed at combating housing "affordability" and "speculation" in Vancouver. Various parties and candidates offer potential solutions to solving "affordability" and "speculation", ranging from "cutting red tape", adding low-to-medium-income rental housing, changing the housing mix, embedding neighbourhoods in the planning process, to outright curbs on foreign ownership.

I think, though, there is a lack of debate surrounding high prices in general. Most candidates seem to understand that prices are high but few seem convinced, at least publicly, that prices are destined to drop. All debate seems to surround the possibility that high prices are here to stay as Vancouver "graduates" into the ranks of a world city with commensurate high prices. This may simply be that telling homeowners prices -- and their homeowner equity -- are destined to fall is unpopular it wouldn't garner popular support, but after listening to the candidates speak, Tweet, and comment, I come away with the impression that crashing prices experienced by our urban Cascadian neighbours to the south are almost entirely foreign.

Nonetheless the assumption of high prices leaves me feeling raw, first that prices are obviously in a speculative bubble as measured by price-income and price-rent ratios. The evidence supporting prices remaining high is suspect, it relies on a continuous flow of foreign capital and continuously low interest rates. Most purchases of property in the Greater Vancouver area (though perhaps not certain sub-areas) are by locals with locally-derived incomes. By that measure it's a relatively simple exercise to calculate how much foreign investment would be required to keep prices from dropping, and it amounts to something approaching British Columbia's annual GDP.

Given that house prices are on an earnings basis a poor return on investment, we should be asking first whether these poor earnings are in the long-term best interests of Vancouver's economic growth. Second, if we determine that expensive house (actually, land) prices are a net harm to economic output, we should be asking a big question: is it possible and desirable to suppress land prices to enable more stable and diverse economic growth?

Keeping land prices low is not an unheard of concept. Through various schemes surrounding limiting leverage, land use plans, landlord and tenant protection legislation, and taxation various jurisdictions have been more (though arguably not wholly) successful at reducing land speculation. Parts of Texas and Germany have done this.

No easy answers -- and no doubt simplistic suggestions the blogosphere seems to be prone to peddling are riddled with flaws -- nonetheless I dismiss chronic boom-bust cycles that have plagued Vancouver are not controllable using thoughtful and long-term feedback mechanisms.

Canada and Fiscal Stimulus Update November 2011

Back in a post in September I remarked it was relatively obvious that Europe was going to head into recession and that the Government of Canada was less likely to meet its "balanced budget in 2014" pledge; now Mark Carney is calling for a near certainty of a Eurozone recession and it looks like Canada will suffer lower GDP growth as a result. Recall my predictions of potential areas of stimulus should Canadian GDP growth falter:

Highly probable

• Accelerating capital cost allowance for businesses

• Slowing of public sector layoffs

• Lower corporate taxes

• Employment insurance hiring incentives

• R&D tax credits

• Extending employment insurance benefits

• Targeted but piecemeal government spending programs, geared towards non-residential infrastructure.

Somewhat probable

• A second "Canadian Action Plan"

• Energy efficiency upgrades

• Reducing Bank of Canada's overnight lending rate

Unlikely

• Reducing CMHC requirements for loans

Now today a fiscal update from the Department of Finance indicates more stimulus will be needed:

Flaherty also announced Tuesday the government is extending a work-sharing program that lets some employers hang onto skilled workers while they deal with money problems. Under the program, workers can drop to part-time hours and the government will top them up with Employment Insurance... 

Flaherty also cut in half the increase in EI premiums employees and employers are expected to pay starting Jan. 1, 2012. 

EI premiums were set to increase in the new year by up to 10 cents per $100 for employees and 14 cents per $100 for employers. Those increases will now be capped at five cents and seven cents respectively...

Border and trade talks with the U.S. will mean more spending on border infrastructure, Flaherty said after the speech.

So we have: corporate tax reductions (in the form of slowing EI premium increases), extending EI benefits, and non-residential infrastructure spending.

Though it would be unlikely to be announced, I expect there will be a slowing of public sector layoffs going forward. I'll have to wait until the new year to find out for sure about the R&D tax credit and grant prediction but I expect it won't be cut. I'm not sure about the CCA acceleration.

So far no major surprises. I am also anticipating that there may be further mortgage credit tightening announced in January, though I'm not certain if mortgage insurance will be the mode by which the government acts. Speculation has spread to the low-ratio loan market and, ultimately, the Government of Canada will be on the hook for many of these loans should prices retrench -- banks may not be aligning borrowers' ability to pay with longer-term rates in mind. Further curbs to mortgage lending may show up behind-the-scenes through OSFI decrees.

Greater Vancouver Market Snapshot October 2011

Below are updated sales, inventory and months of inventory graphs for Greater Vancouver to October 2011.

Oh yeah, and the detached benchmark price. Remember: prices lag, sales and inventory lead, so the price chart is put here for posterity, to remind us how significantly prices have changed over the past decade:

Commentary: October 2011, continuing from previous summer months, has produced more tepid sales numbers than years past. A continued trend of higher months of inventory (MOI, the number of months it would take to clear month-end inventory at current monthly sales levels), a key indicator of market liquidity and impending price strength, is typical in the second half. Lest we forget that prices are still high by most validated measures and it will take a prolonged period of MOI well above 6 to bring them down to more historic levels. We are currently at about 6.

Total inventory has likely peaked in October (it peaked mid-month, but not shown due to monthly sample rate); if the market were under significant distress we would expect increased inventory buildup through November, mostly due to lower sales. It looks unlikely to be the case this year, though new listings have been consistently about 20% higher in 2011 than 2010 with sales roughly flat. That indicates a greater percentage of listed properties will be unable to elicit a sale. If past years are a guide many owners will simply choose to rent instead of lower prices due in part to historically low carrying costs -- they don't "need" to sell (and instead take their chances in the "Mines of Landlord").

Below is the predictor of price gains, based on half-over-half price change to months of inventory correlation:

What this shows is the change in prices in a month from 6 months ago based on actual data and “predicting” the price based on months of inventory from that month based on linear regression of half-over-half price change to months of inventory (with 3 month moving average).

In summary October 2011 has mirrored October 2010 closely, with slightly more weakness due to higher inventory levels. I expect November to be a similar trend, with listings elevated and sales roughly flat compared to 2010.

August 2011 CMHC Data - Vancouver CMA

A long hiatus presenting CMHC data from the Vancouver area has ended and here are mohican/VHB's charts for housing starts, housing completions, and under construction, as well as graphs showing how they compare to population growth.

Analysis:

There was a severe, though brief, construction recession in 2008-2009, as indicated by the dropoff in starts. Note that since we are averaging 12 months of data, the troughs will be lagging by about 6 months (i.e. "group delay"). 12 months of completions look to have bottomed in July 2011, putting the actual bottom in about January 2011. The nadir of completions coincides with the start of a run-up in prices around that time.

Starts are climbing again; recent employment reports indicate robust construction employment, as we would expect as starts are booked and under construction trends up.

12 months of completions has been smoother than starts as projects are likely delayed rather than hurried. The amount of under construction between mid-2005 and mid-2009 indicates there was a significant backlog that has now been mostly worked through.

Despite higher prices and robust population growth from 2002-2011, new people per completion has averaged 2.1 as opposed to 2.8 from 1992-2001. This may be in part due to the change of construction mix -- more condos and less detached dwellings. At the same time, if detached houses have become larger than in previous decades, the number of bedrooms -- a potential method of determining total dwelling capacity -- may have increased in detached dwellings to partially offset the lower bedroom count in condos. As a start into this, I pulled the data from 2008-2011 on starts and completions by dwelling type (single detached and row/apartment/other) and graphed below. I then estimated 1.6 bedrooms per multi and 4 bedrooms per single-detached.

The dataset isn't large but one interesting point is that new single detached construction is trending down (i.e. starts < completions) whereas multi-unit construction is trending up. I was hoping to get a sense on how much of a lag the various construction methods produce; based on the graph it looks like detached construction starts lag completions by about 7 months. With less certainty it looks like the multi-unit construction minimum lags by about 19 months; this seems low so I hope I can get more data to fill this in.

The amount of under construction has increased above 12 months of starts starting in 2005. It is unclear why under construction has increased so significantly, though it could indicate increased speculative activity and favourable presale contract terms for developers -- the investors of the units under construction are willing to put up with longer project schedules or other delays. It may also be that multi-unit highrises have longer build times. This produces an interesting dynamic, namely that to accommodate future population growth estimates, larger projects must be more forward-looking.

To analyse this further I cross-correlated the 12-month starts and completions monthly data on 10-year forward sliding window and looked for peak correlation. The results indicate that under construction times are increasing, thus an increased time to build for new dwellings. This makes sense given that multi-unit construction is now taking a larger share of total construction, currently making up around 3/4 of all dwelling units. (If you go by my 4 bedroom 1.6 bedroom breakdown, that's an average of 2.2 bedrooms per dwelling, however multi would only compose 55% of new bedroom stock.)

In summary, new dwelling formation in the past decade has produced more dwellings per new entrant than in past decades. It is unclear how the condo-detached mix has contributed to allowing for a higher dwelling construction rate and how much is nascent oversupply. Further work breaking down starts by dwelling type by comparing to previous decades can help answer this. In addition, the concentration on dwellings with longer construction times may have implications for dwelling supply stability -- longer lags lead to more fluctuations in dwelling starts.

More on BC Population Growth Q2 2011

A quick follow-up to a previous post made on BC population growth. No pretty graphs this time, just some numbers and some "analysis":

Population growth

Q1

Net International average 1992-2010: 9905

Net International average 2003-2010: 10858

Net international 2011: 7049

Net pop growth average 1992-2010: 13939 (net population change 1.6% YOY)

Net pop growth average 2003-2010: 14279 (net population change 1.3% YOY)

Net pop growth 2011: 9211 (net population change 1.1% YOY)

Q2

Net International average 1992-2010: 10270

Net International average 2003-2010: 11024

Net international 2011: 9525

Net pop growth average 1992-2010: 16691 (net population change 1.6% YOY)

Net pop growth average 2003-2010: 17135 (net population change 1.3% YOY)

Net pop growth 2011: 12281 (net population change 1.3% YOY)

Q3

Net International average 1992-2010: 11806

Net International average 2003-2010: 13721

Net pop growth average 1992-2010: 20077 (net population change 1.5% YOY)

Net pop growth average 2003-2010: 20725 (net population change 1.3% YOY)

Q4

Net International average 1992-2010: 6218

Net International average 2003-2010: 6524

Net pop growth average 1992-2010: 11222 (net population change 1.5% YOY)

Net pop growth average 2003-2010: 10949 (net population change 1.3% YOY)

Current Q1-2 2011 pace is 70% of the average Q1-2 population growth and 75% of the average Q1-2 net international since 2003. At current trends, there will be 10 000 fewer international immigrants than the average since 2003. There will also be 20 000 fewer net migrants (net international plus net interprovincial) than the average since 2003. That means an immediate demand drop of about 8 000-10 000 dwellings province-wide compared to previous. This is a further deterioration from a drop-off in net migration in 2010 compared to years 2005-2009. Some areas of the province, most notably the Okanagan, are already experiencing slower residential construction activity.

Lower population growth is usually, and logically, coupled with lower residential construction activity. As I highlighted previously, province-wide construction employment contribution still remains above the 15-year average and was the primary sector to take up up the slack from a quickly-deteriorating manufacturing employment base over the last decade. I am concerned that BC's construction workers and commensurate supporting infrastructure will have few places to turn if construction activity wanes.

Greater Vancouver Market Snapshot September 2011

Below are updated sales, inventory and months of inventory graphs for Greater Vancouver to September 2011.

Commentary: September 2011, continuing from previous summer months, has produced more tepid sales numbers than years past. A continued trend of higher months of inventory (MOI, the number of months it would take to clear month-end inventory at current monthly sales levels), a key indicator of market liquidity and impending price strength, is typical in the second half. Lest we forget that prices are still high by most validated measures and it will take a prolonged period of MOI well above 6 to bring them down to more historic levels. We are currently at about 7. Below is the predictor of price gains, based on half-over-half price change to months of inventory correlation:

What this shows is the change in prices in a month from 6 months ago based on actual data and “predicting” the price based on months of inventory from that month based on linear regression of half-over-half price change to months of inventory (with 3 month moving average).

What is interesting is that the model predicts much smaller movements in price than what we have seen since early 2009. If we assume that the post-2009 market is now more volatile (smaller MOI changes mean bigger price changes than before), we should be seeing more significant price drops into the fall.

I’m not exactly sure why the volatility has increased — my best guess is because of low interest rates (convexity change) — but if MOI starts piling on into the new year, there’s a good chance we could see a larger-than-expected downdraft in detached prices by the end of 2012.

I (and others on bearish real estate blogs) have stated repeatedly that low interest rates are no free lunch based on a simple discounted cash flows (DCF) analysis. There are some early indications that increased volatility in price movements will be the mode that leads to a correction in a low-interest-rate environment.

Central 1 B.C. Housing Forecast 2011-2013

Report available here (PDF). Excerpts (emphasis mine):

On the bifurcation of BC's real estate market:

A key characteristic of the post-recession housing market has been the divergent housing strength between the Lower Mainland and most other areas of the province. While the Lower Mainland-Southwest and, to a lesser extent, the Capital region had shown relatively stronger post-recession sales activity, most other regions remained at recessionary levels. The impact of low interest rates was more benefi cial for real estate markets in larger, diversifi ed economies with a higher proportion of local area buyers. In addition, employment growth was generally weaker outside of the Metro Vancouver region.

On overvaluation in the Lower Mainland:

It has become fashionable to suggest that price levels in Lower Mainland-Southwest region of the province, and particularly Greater Vancouver, are set to correct substantially due to the significant price gains in recent years and a de-linking of home prices relative to income and rental rates. Central 1 does not subscribe to this view, but does expect price gains to slow considerably over the forecast horizon. While price levels may turn lower in the near term, the annual Lower Mainland-Southwest median resale price level in 2012 is forecast to surpass 2011 by 1.4% to reach $497,000. A further gain of 3.6% is forecast in 2013 Central 1 deems a significant price correction in the Lower Mainland-Southwest to be unlikely for various reasons. First, much of the price growth in the region has been attributed to disproportionately strong demand for higher priced single-detached product in localized regions such as the west side of the City of Vancouver and Richmond. In contrast, price gains have been less substantial in other markets and product types, meaning this has not been a region-wide price surge. Moving forward, demand will likely remain stable as economic growth, albeit slow, persists and mortgage rates remain low.

In addition, speculative demand in the region remains low. The proportion of units re-sold within six months of purchase can be used a proxy for speculative activity. In theory, speculators look to gain through capital appreciation over a shorter time-frame relative to home-owner occupiers. In a period of higher speculation, which is generated by strong market activity and price gains, this proxy generally rises. However, this metric has exhibited a declining trend since early 2008, currently hovers near 2% and operates near normal levels. In contrast, this proxy surpassed 10% in the late 1980s, and was closer to 6% in 2006 when markets were overheated. The lack of excessive speculation suggests that we are unlikely to see a speculation-induced bust in pricing.

Meanwhile, price levels will be further supported by supply-side adjustments. Sales activity and the flow of new listings are positively correlated – when demand increases, new listings tend to follow in the months that follow. The opposite is also true. This reflects the tendency of sellers to capitalize on strong markets and rising prices, and sit tight when market conditions weaken. In the absence of any major shock in the economy such as a large and unexpected increase in interest rates or another recession, Central 1 expects the recent slowdown in demand to be met by declining listings activity, which will mitigate growth in standing inventory of resale product.

On population growth:

Weak population growth through 2013 will be a limiting factor for housing over the forecast horizon. The provincial population is forecast to expand at a lackluster rate of 1.1% this year, and fare only slightly better in 2012 and 2013 with 1.2% growth. The slow pace of growth will reflect a drop in the number of landed immigrants to B.C. from international markets this year and increased net outflow of residents to other provinces, primarily Alberta, in 2012 and 2013. This interprovincial net outflow reflects the stronger rebound in Alberta’s economy and improved labour market conditions.

On interest rates:

Mortgage rates will remain low and edge up beginning in the latter half of 2012 and through the remainder of the forecast horizon. This reflects a compression of bond yields, which have recently declined sharply in the U.S., Canada, and Germany during the latest round of market concerns and volatility. The U.S. central bank has stated that it expects no rate increase until mid-2013 and only then if conditions warrant.

I do not necessarily endorse this view in full; nonetheless the data presented are worthy of review. Personally I would give greater weight to price-rent ratios but to each his own. House purchases come with obligations lasting longer than to 2013. Place your bets.

City of Vancouver Permit Update for August 2011

I have been producing some graphs starting in early 2009 showing the trend of permits in the City of Vancouver (here and here and here). Here is an update to August 2011. (August data are here (PDF).)

(Note on methodology change. I have plotted the 3 month moving average of permits to better show the underlying trend.)

Residential dwelling permits graphed since 2007:

Permits parsed for 1-2 dwelling units only (i.e. single family, single family with suite, and duplex):

Multi-unit building permits:

All permits' value, residential and commercial:

Analysis:

1. There has been a sustained rebound in multi-unit permits starting in late 2009 and continuing into 2011.
2. The detached construction market is hot right now.
3. As I stated earlier this year, "I would not be surprised to see detached permit applications rebound going into the first half of 2011." And... yes.
4. Laneway housing, though not explicitly tracked by me, continued its upward trend. As I mentioned last time, "I would expect to see a continued increase in laneway housing permits, barring any major pullbacks in the availability of credit." This has turned out to be correct.

5. Total construction value, including residential and commercial, is not high by historical measures.

6. Given increased multi-unit construction in 2010 and detached construction in 2011, I expect increased dwelling supply entering the market in early 2012.

BC Population Growth to Q2 2011

BC Stats just released (PDF) its quarterly population estimates and BC is what we would term "sluggish" in terms of population growth. (HT VMD)

Population growth consists of the following bulk components:

• Natural increase (births - deaths)
• Net interprovincial migration
• Net international migration

So let's look at how recent quarters look in a historical context (there is seasonality so quarters are best compared to each other):

The most recent Q2-2011 data indicate the lowest Q2 immigration numbers since 2004, negative net interprovincial migration, and continued below-trend non-permanent resident (NPR) in-migration. (NPRs mostly consist of students and temporary workers.) Since unemployment has remained elevated for over 2 years, there is, unsurprisingly, pressure to employ local residents; as fallout from this, non-permanent residents in-migration has remained subdued. Below are graphs up to 2010:

Weak population growth in Q4-2010 and Q1-2011 has further extended into Q2-2011. These recent population data are what I would characterise as a continuing bearish indicator for BC real estate.

Addendum: There are worrying signs that the inter-provincial migration trends are going to follow patterns seen in the late-1990s. Looking at the data there is some indication that dropping construction investment corresponded to out-migration to other provinces, and cracks (albeit small ones) started appearing before the Asian financial crisis that started in 1997. Construction employment today remains above its long-term average and dwelling formation will start lagging going forward with persistently lower population growth. This would mean that primary industry construction employment would ebb and net population outflows from BC would accelerate.

Looking at historical data from the past 20 years, lower immigration and increased out-migration would portend several effects:

1. Higher numbers of for-sale houses and lower sales. This will push up months of inventory significantly.
2. Construction employment will likely drop by over 30% without significant government spending increases.
3. Unemployment will rise and wage growth will be subdued.
4. Rental rate growth will remain subdued.

It is unclear whether or not government policymakers fully understand the impact an ebbing of a construction employment and investment boom, and the resultant inter-provincial out-migration, will have on the provincial economy. If China enters a severe downturn in the next few years instead of a "mere" correction, things could be even worse.

Canada and Fiscal Stimulus Round 2 Fight!

Mark Carney is in Washington this week trying to convince 17 Europeans to agree. He was generous to take 20 minutes of his time to talk to The House's Evan Solomon on Europe's sovereign and banking debt crisis. Europe's woes are interesting -- Carney understands that to keep Greece and other countries a part of the common currency there will need to be large fiscal transfers to enable smooth transitions of these economies to lower their wages until they are competitive again. The more interesting part for Canada's housing market is Carney's comments (or lack of comments) on what Canada's government and central bank will do in case of a European-centred credit crunch giving the rest of the world a cold.

I'll summarise Carney's comments on how Canada will react to a potential impending global downturn (feel free to listen; unfortunately I don't have time to transcribe the most interesting bits):

• Canada's banking system will remain solvent one way or another.
• The US and Europe look to be undergoing slow growth for some years to come.
• Canada's businesses have been investing in capital equipment and need to continue to invest, making up for a chronic productivity gap with other countries.
• Canada needs to start selling and investing in ventures in the developing world.
• Elements of the massive fiscal stimulus unleashed in 2008 and 2009 can be retooled for 2011-2012, however many of the measures were less "effective" than desired [By less effective not sure if he means with undesirable side effects].

What Carney didn't say:

• Household debt issues were not discussed or alluded to.

Even with a massive fiscal stimulus emanating from Europe, which is looking unlikely, we should fully expect another round of fiscal stimulus to aid the Canadian economy. Given Carney's comments over the past year on: high household debt levels , robust house prices and sales despite tightened credit conditions, plum corporate balance sheets, and his relative silence on government fiscal spending, I will formulate some guesses on what fiscal and monetary stimulus will be concentrated on:

Highly probable

• Accelerating capital cost allowance for businesses
• Slowing of public sector layoffs
• Lower corporate taxes
• Employment insurance hiring incentives
• R&D tax credits
• Extending employment insurance benefits
• Targeted but piecemeal government spending programs, geared towards non-residential infrastructure.

Somewhat probable

• A second "Canadian Action Plan"
• Energy efficiency upgrades
• Reducing Bank of Canada's overnight lending rate

Unlikely

• Reducing CMHC requirements for loans

When a stimulus of the magnitudes required to stave longer lasting effects of a second recession, my feeling is the government is aware that increasing household leverage risks tipping households into an unsustainable debt spiral similar to what Ireland experienced a few years ago. This does not mean Canada is the next Ireland or Spain but the effects of overleveraged households should be obvious to anyone who has read the literature on these countries' housing busts. It may even be the case that if a stimulus is unleashed that commensurate crimps on residential investment will be required to ensure investment money flows are properly targeted away from the overbought housing market, and instead concentrating more on consumption with broader wage growth.

In summary, I expect the chances of a second fiscal stimulus package from the federal government are high, and we should expect that household borrowing will be carefully watched -- even regimented -- to ensure their debt-to-income ratios are not increased further. This will likely mean higher federal deficits in the next one to two years, and a probability the government misses its "balanced budget in 2014" pledge.

Increasing Foreign Student Intake

Premier Christy Clark announced today a plan to increase the intake of international students to the province (emphasis mine).

As part of 'Canada Starts Here: The B.C. Jobs Plan', to be released Thursday, Premier Christy Clark announced key steps to increase the number of post-secondary students from other countries studying in B.C.

She also announced how the Province will work with partners to ensure education and training are offered to British Columbians so they can work in the regions where they live and study.

"International students who study in B.C. create thousands of jobs and bring millions of dollars into local economies," said Clark. "Our universities are job creators. We are setting clear targets to dramatically increase the number of international students coming to B.C. These students will also help build strong relationships between B.C., Canada and the rest of the world."

Under the Jobs Plan, the Province is setting a goal of increasing the number of international students by 50 per cent over four years. International students in B.C. currently generate 22,000 jobs and bring an estimated $1.25 billion into the provincial economy. Each 10 per cent increase translates into an estimated 1,800 new jobs and a $100-million boost to the provincial GDP.

To achieve this goal the Province will:

• Create an international education council to help build strong relationships in both existing and emerging economies, like China, India, Brazil and Saudi Arabia.
• Leverage B.C.'s trade offices to help connect international students to B.C.'s educational opportunities.
• Work with communities to prepare them to welcome students from abroad.
• Strengthen the Province's Education Quality Assurance.

Send more B.C. students overseas to prepare them to work in a global economy.

"Our educational institutions are renowned for their quality, which is what drives nearly 94,000 students a year to B.C. to further their education," said Advanced Education Minister Naomi Yamamoto. "We are currently engaging with institutions and communities on a more targeted, co-ordinated and strategic approach that takes advantage of the growth opportunities and maximizes the economic, social and cultural benefits for B.C. communities to remain successful in what is a hugely competitive environment."

"As a university with nearly two decades' experience, and a student population that reaches every corner of the globe, we know how important having solid international relationships are to building a culturally diverse and stimulating educational experience for all our students," said Alan Shaver, president of Thompson Rivers University. "It's encouraging the Province is taking a leadership role on international education - a strong partnership going forward that works towards top-quality education and good international relationships will position B.C.'s universities and colleges well in an increasingly competitive world."

This blog is generally bearish on housing but we also must acknowledge the realities of the economy and the need for BC to produce items of value. One of these items is education at universities and international students are currently willing to pay big bucks to study in North American institutions.

Note Pmr. Clark introduced this plan in Kamloops, an area with higher unemployment, one with a university hoping to increase its prominence. It is unclear whether spots at the original "big 3" universities will be increased as well or if the government's efforts are geared towards bootsrapping an interior that is facing a prolonged recession, if not already experiencing one now.

The point I wanted to raise here, though, is students' effect on housing and schooling. The province is facing an over-investment in residential construction and bedrooms need to be filled. As families' incomes come under pressure and carrying costs of their dwellings start increasing, the need for supplementary income will increase. One way of doing this is through boarding foreign students, and many families in larger cities do this to help with mortgage payments. The reason they can do this is first that they have available bedrooms and second there is an existing infrastructure of private, public, secondary, and post-secondary schools that certain foreigners find desirable.

If I'm right and the province is oversubscribing in investment, one partial "way out" is to increase foreign student enrollment. The province has what is seen as a healthy and desirable education system, with an abundance of qualified well-trained teachers and existing often-under-utilised facilities, and that resource should be acknowledged as currently having value on the world stage. This means ensuring the education brand the province has produced for itself is maintained, and this goes for all means of schools.

When we look forward to a potential investment recession in BC, there will be attempts to bail out previous over-investments by means of increasing their utility. Filling up vacant accommodations through increased foreign consumption and population growth without displacing existing jobs for residents is going to be something the government will likely look to facilitate with greater urgency should TSHTF.

How Money is Created

I've been fascinated and somewhat confused of late by the concept of how money is created. Given certain developments recently involving the Swiss unilaterally instituting an exchange rate ceiling, summarized by Kash over at The Street Light, Canada's horror and dismay what we would do when "currencies go to war", and the general idea about how Canada "creates" money, I thought I'd link to some thoughts on the subject. This does not necessarily clarify much on the matter, but does indicate the Bank of Canada is somewhat of a black box and there is no ultimate online authority I was able to dig up.

Worthwhile: Currency, Interest, and Redeemability

Money as Debt (video)

Wiki: Fractional Reserve Banking

Gilligan's Corner: Canada’s Private Banks have no Reserve Requirements (read the comments too)

Steve Keen: The Roving Cavaliers of Credit

First year macro textbook chapters on money in Canada ch10 and ch11 (PDF)

MacroMania: Fractional Reserve Banking

When trying to get information on the basic functions of the banking system and currencies, I am reminded that the web has a few disagreements, and can make things seem rather complicated.

Greater Vancouver Market Snapshot August 2011

Below are updated sales, inventory and months of inventory graphs for Greater Vancouver to August 2011.

Commentary: August 2011, as July 2011, has produced more tepid sales numbers than years' past. A continued trend of higher months of inventory (MOI, the number of months it would take to clear month-end inventory at current monthly sales levels), a key indicator of market liquidity and impending price strength, is typical in the second half. Lest we forget that prices are still high by most validated measures and it will take a prolonged period of MOI well above 6 to bring them down to more historic levels. We are currently at about 6.5. Below is the predictor of price gains, based on half-over-half price change to months of inventory correlation:

Teranet Index - June 2011

AUGUST 2011

Canadian home prices up 1.7% in June Canadian home prices in June were up 1.7% from the previous month, according to the Teranet-National Bank National Composite House Price Index™. This rise took the index to a new high of 144.27 (June 2005 = 100). It was the third consecutive monthly increase exceeding 1% and the largest rise since August 2009. It was also the seventh consecutive monthly increase, coming after three straight monthly declines. As in April and May, prices were up in all six of the metropolitan markets surveyed. What is new is that in all six markets the June monthly rise was at least 1%, a first since April 2005. It was 2.0% in Toronto, 1.7% in Vancouver and Ottawa, 1.6% in Calgary, 1.1% in Montreal and 1.0% in Halifax. For Vancouver it was the ninth consecutive gain, the longest run of monthly rises among the markets covered. For five of the six metropolitan areas the indexes were at all-time highs. The Calgary index is still 10.9% off the all-time high of August 2007 and 3.1% off the pre-correction peak of August 2010. Teranet – National Bank National Composite House Price Index™ Contact Us For general enquiries: info@housepriceindex.ca For licenses covering all index-linked products, please contact: Simon Côté 514 879-5379 Website www.housepriceindex.ca

The 12-month gain of the composite index in June was 4.5%, barely more than the 4.4% of April and May. It may seem surprising that 12-month inflation has not been accelerating in step with the recent pace of monthly increases. The reason is that in May and June 2010 the composite index was gaining more than 1% monthly. In June the largest 12-month rise was 7.2% in Vancouver, followed by 5.9% in Montreal, 4.6% in Ottawa, 4.4% in Halifax and 4.2% in Toronto. Vancouver stands out with three consecutive months of accelerating 12-month inflation. Though Montreal's 12-month inflation was the second highest of the six markets, it decelerated in June for a third straight month. Twelve-month inflation decelerated for a sixth consecutive month in Halifax. Calgary prices were down 2.7% from a year earlier, for a ninth consecutive month of 12-month deflation. In July, according to seasonally adjusted data from the Canadian Real Estate Association, market conditions were balanced in the country as a whole while appearing tight in Toronto. Teranet – National Bank House Price Index™ The historical data of the Teranet – National Bank House Price Index™ is available at www.housepriceindex.ca. Metropolitan area Index level June % change m/m % change y/y Calgary 156.25 1.6 % -2.7 % Halifax 135.59 1.0 % 4.4 % Montreal 142.87 1.1 % 5.9 % Ottawa 135.87 1.7 % 4.6 % Toronto 131.26 2.0 % 4.2 % Vancouver 167.77 1.7 % 7.2 % National Composite 144.67 1.7 % 4.5 % The Teranet–National Bank House Price Index™ is estimated by tracking observed or registered home prices over time using data collected from public land registries. All dwellings that have been sold at least twice are considered in the calculation of the index. This is known as the repeat sales method; a complete description of the method is given at www.housepriceindex.ca The Teranet–National Bank House Price Index™ is an independently developed representation of average home price changes in six metropolitan areas: Ottawa, Toronto, Calgary, Vancouver, Montreal and Halifax. The national composite index is the weighted average of the six metropolitan areas. The weights are based on aggregate value of dwellings as retrieved from the 2006 Statistics Canada Census. According to that census1, the aggregate value of occupied dwellings in the metropolitan areas covered by the indices was $1.168 trillion, or 53% of the Canadian aggregate value of $2.207 trillion. All indices have a base value of 100 in June 2005. For example, an index value of 130 means that home prices have increased 30% since June 2005. By: Marc Pinsonneault Senior Economist Economy & Strategy Group National Bank Financial Group Teranet - National Bank House Price Index™ thanks the author for their special collaboration on this report. 1 Value of Dwelling for the Owner-occupied Non-farm, Non-reserve Private Dwellings of Canada.