Could there be a housing bubble in Alberta?
Last May, I floated the idea. Today, I’m less convinced. But there are danger signs in recent StatsCan and Canadian Mortgage and Housing Corp. (CMHC) reports.
Nothing is clear-cut in economics. We can never really see a bubble until it pops. But let me present the arguments for both sides.
Last August, Dean Baker, a director at the Center for Economic and Policy Research in Washington, D.C., published a policy paper concluding that there is a housing bubble south of the border. It’s a frightening document with dire warnings of the devastation to come when it bursts.
Housing issues in the United States are different from those in Alberta, but Baker’s method of measuring a bubble can still be applied here.
Since 1992, Edmonton house prices have risen at almost the same rate as inflation. Calgary is a different story. New-house prices in Calgary since 1992 have exceeded the rate of inflation by 78 per cent.
In one aspect, this isn’t a cause for concern. In that year, Calgary was hurting already, while Edmonton had not yet faced the serious government cutbacks that Premier Ralph Klein initiated in 1993. Provincial cuts naturally affect the Capital Region most severely, since Edmonton’s economy relies so much on government expenditure.
Because of this, the 1992 benchmark year may make Calgary look more inflated today than Edmonton. But no year is perfect, so I’ll stick with ’92.
Baker points out that one of the signs of a housing bubble would include an increase in new-house prices in real terms (after inflation is taken into account) and a run-up in housing as a percentage of consumption.
Only lately has Edmonton raised alarms in this regard. In the past year, Edmonton has seen dramatic home-price increases: 8.4 per cent from Oct. 2001 to Oct. 2002, substantially exceeding the consumer price index for Alberta during the same period (5.2 per cent) and almost certainly increasing housing as a percentage of consumption, at least for those who purchase at those prices. Ominously, this burden will only get worse if interest rates and utility costs continue to increase.
On the other hand, much of Edmonton’s house-price increase is simply bringing prices more in line with other major cities and its long-term inflationary trends. The second major housing-bubble indicator that Baker points to is a divergence between trends in the rental versus new-home market.
In the U.S., Baker is concerned because vacancy rates of rental units are now at record highs (10 per cent). In metro Alberta, vacancy rates may have started to climb too (doubling over the past year to around two per cent in Edmonton), but they are still a long way from the levels we saw in the harsh years after the cutbacks in 1993, when they hit almost 10 per cent in Edmonton and five per cent in Calgary.
Calgary, however, has crept much closer than Edmonton to those previous painful levels, with a 2002 vacancy rate of 2.9 per cent, up from 1.2 per cent in 2001.
The other factor that Baker uses to compare the rental and new-home markets is the relative change in prices. Lately, Edmonton’s rents have increased pretty much in line with housing prices. But in this regard too, Calgary contrasts with Edmonton.
Calgary rents increased by less than two per cent (October to October, the latest period available from the CMHC). In that same period, Statistics Canada reports that Calgary house prices increased by 5.7 per cent.
So, is Edmonton farther from bubble territory than Calgary?
Not necessarily.
Metro Edmonton is now seeing new single- detached units being built in unprecedented numbers: in 2002, starts exceeded the 6,202 record of 1978.
This supply will be coming on the market this year, and we have yet to see if the economy can absorb the increase.
Additionally, utility costs may be masking a bubble. Since 1999, gas and electricity costs here have been increasing steadily and dramatically.
The result is significant increases in operating expenses for landlords. All other things being equal, such pressures tend to drive up rental costs where gas and electricity are rolled into the rent, and drive down house prices, because less money is left over for homebuyers to cover the mortgage.
With rising utility costs, then, we expect to see downward pressure on house prices and upward pressure on rents. That’s why I conclude that the rising utility rates we have seen over the past few years might be masking the symptoms of a housing bubble, even in Edmonton.
Most telling is that house prices have risen significantly throughout metropolitan Alberta, yet rental vacancy rates have increased. If people are competing for homes, why is there less pressure on the rental market, even at the low end?
The answer may lie in a growing speculative rental market and the lure of low interest rates (which may be an illusion, as I’ve said before).
Both Edmonton and Calgary saw their vacancy rates double from 2001 to 2002. This is a loosening market, therefore, not a tightening one. But that doesn’t mean there is a bubble. As I implied above, a large part of the house-price increases may be borne by economic refugees. In B.C., house prices have taken a beating over the past 10 years.
In real terms, Vancouver house prices have decreased by 13 per cent, in Victoria by 23 per cent.
While migrants are probably selling their B.C. homes for less than they hoped, they can still buy a comparable house in Alberta for about the same amount of money, if not less than their deflated B.C. property.
In the end, I’m not as concerned as I was in May that we are facing a catastrophic collapse in house prices. Alberta, after all, is still a great place to live, and it is becoming even more so with Ontario and B.C. (even the U.S.) running huge deficits.
Anyone with vision will see that such fiscal looseness will eventually lead to tax hikes or service cuts, or both. But let us not be complacent here in Alberta just because we are relatively well off. Speculative investments are almost certainly increasing in the housing market, and a U.S.-style bubble would be a doubly painful scenario, coming on the heels of a stock-market meltdown.
Largely, the health of the housing sector rests on the self-control of our home builders. Thank heavens they are too busy to ramp up much more.
As for investors, they should remember real estate is not necessarily a saviour in harsh times. In fact, it’s a historically volatile commodity. And it’s not very liquid. Sometimes it’s as light as the air in a bubble.
