The debate over whether or not Canada’s housing market is a bubble that is going to crash heated up again this month. Earlier this month, the Financial Times warned that the Canadian housing market was “perched precariously at its peak”. Bank of Canada governor Stephen Poloz said this week that Canada’s housing market was not characterized by a bubble and expected housing prices to stabilize. Of course, this debate assumes the existence of a “Canadian housing market.”
However, Figure 2 looks at the percent increase in the average MLS prices in Canadian CMAs for the period 2006 to 2013 and the results show the biggest percentage increases in prices have actually been occurring in smaller Canadian centers. Since 2006, the percentage increases in price have been the largest in Regina, St. John’s and Saskatoon. Next are Winnipeg, Thunder Bay and Saguenay. Vancouver and Toronto are decidedly in the middle of the pack when it comes to the percentage increase.
So how can we conclude if some markets are more likely to be characterized by a bubble than others? Well, I decided to regress the percentage change in the average MLS housing price for the period 2006 to 2013 for thirty-one major Canadian CMAs (avgmlsprice) on percentage increases in population for 2006 to 2012 (population) and percentage increases in median total family income for the period 2006 to 2011 (income). (Kelowna, Abbotsford and Sherebrooke were omitted because of gaps in obtaining some of the variables). While a very simple demand side model specification, one might expect that increases in the demand for residential housing will be a function of these two key variables. How much of the increase in housing prices can be explained by demand side factors driven solely by increases in population and income?
The OLS regression is shown in Figure 3 and the coefficients on population and income are both positive but only income is significant and the regression explains about 60 percent of the percentage change in average MLS housing prices. What I do next is compare the actual percentage increase in MLS housing prices with what the regression predicts to see if the actual increase exceeds what the model predicts. I take the actual MLS increase for each of the thirty-one CMAs and subtract the predicted increase and what is left is the growth in excess of what population and income should have driven. These are ranked in Figure 4 from the highest to lowest.
Well, the results suggest that Regina, Thunder Bay, Winnipeg, Hamilton and Windsor have seen the greatest positive difference between their actual and predicted housing price growth. Their prices have grown well beyond what one might have expected based on their income and population growth. Does this mean these housing markets may be the ones that are most likely facing a housing bubble? Perhaps, unless there are important factors other local population and income driving housing prices. In the case of Hamilton, the proximity to the GTA may be a factor driving their prices.
On the other hand, prices in Moncton, Edmonton, Victoria, Calgary and Halifax have grown by much less than what their income and population growth would have predicted. Does this mean these markets are undervalued? Not sure. These results also suggest Toronto and Vancouver have seen changes in their housing prices quite close to what increase in population and income might predict. This would suggest that there is no bubble here and given the relative importance of these two housing markets in the Canadian economy, Stephen Poloz is correct in not being too concerned about a Canadian housing bubble. After all, why would he be especially preoccupied about a potential housing bubble in Regina or Thunder Bay?
The point remains we should not be thinking of a bubble in the Canadian housing market but perhaps local or regional ones. When it comes to whether or not there is a housing bubble in Canada, one needs to examine specific markets rather than simply treat the Canadian housing market as one entity. There may indeed be some overheated markets in Canada, but then there may also be some undervalued ones.