Expect international migration to underpin housing demand over the medium term

07/12/2013 by John Clinkard

Over the past few years, it has become increasingly difficult to find a description of the Canadian housing market that does not contain the word “bubble” or “overvalued”.

This statement was highlighted by the Organization for Economic Co-operation and Development (OECD) in an addendum to its most recent Economic Outlook titled “Focus on House Prices”.

Among its 27 member countries, the OECD calculated — based on the ratios of price to rent and price to income — that Belgium has the most overvalued housing market followed by Norway, Canada, New Zealand, France, Australia, Sweden, and the United Kingdom.

While the OECD does not indicate that house prices in these “overvalued” countries are going to suddenly collapse, it suggests that these countries are most vulnerable to the risk of a price correction.

Although the spectre of the U.S. housing crisis is still fresh in the minds of many housing analysts, a recent study by the Conference Board in Canada indicates that the risk of a significant price correction in these “overvalued” housing markets is exaggerated.

This conclusion is based on the fact that, among developed countries in the OECD, all eight of the countries with the highest ratio of house prices to incomes have some of the highest proportion of foreign born populations.

In particular, the Conference Board notes that three of the eight most overvalued housing markets are in Australia, New Zealand and Canada, countries with the highest proportion of foreign born individuals.

Based on the Conference Board’s analysis, immigrants with pre-established wealth arriving in a country create a new source of housing demand for both single and multiple dwellings. Not surprisingly, this additional source of demand, puts upward pressure on the price of the existing housing stock.

Given that this additional source of housing demand and the accompanying increase in house prices does not affect disposable incomes in the short run, it tends to elevate the ratio of house prices to disposable incomes relative to its historical trend.

In a Canadian context, the Conference Board found that, for the country as a whole, average house prices increased by 5.2% per annum between 1981 and 2012 while disposable income rose by approximately 3.9%, 1.3% under the gain in house prices.

Turning to the two cities with the highest proportion of foreign born populations, Toronto (46% foreign born in 2011) and Vancouver (40%), average house prices increased on average by 6.2% per year and by 6.4% per year respectively over the period 1981 to 2012.

Over this period, disposable incomes in the two cities increased, on average, by 3.5% resulting in a gap between house price inflation and disposable income growth of 2.7%, more than twice the national average.

Given the prospect for sustained international immigration and a concomitant increase in the share of the foreign-born population in Canada, the Conference Board projects that the house-price-to-disposable-income ratio will likely continue to trend higher over the medium term. However, consistent with the views of several other housing analysts, the Board concludes that there is little risk of a sharp housing market correction in the near term.

Per cent of foreign born population in eight most overvalued housing markets

Per cent of foreign born population in eight most overvalued housing markets
Source: Statistics Canada, OECD, Conference Board in Canada/Chart: Reed Construction Data, CanaData.