The real estate bull market

From the October 2016 print edition
It’s because of the i-Phone. Before I go any further, I should stipulate that this story (for now) pertains almost entirely to two major Canadian markets: Vancouver and Toronto. That said, if the underlying causal factors stay in place—and I don’t see any reason why we can expect them to change any time soon—it may be that there will be a runaway bull market in real estate from sea to shining sea.
This past summer, Royal Lepage released a report that predicted that house prices across the country would appreciate by 12 percent this year, with the afore-mentioned markets leading the way. Vancouver would see increases of 27 percent while Toronto homes would appreciate by 15 percent. At any time this would be extraordinary performance, but even more so given the stagnant economic growth this country is experiencing. According to Statistics Canada, real gross domestic product declined in the second quarter. And what we have seen in the past is that there is a strong positive correlation between economic growth and real estate prices.
That was then. This is now. The factor today that is completely new is the money from mainland China flooding into real estate, pushing up prices in a manner never seen before. This led Vancouver to impose a tax on foreign buyers which led to a spectacular surge in activity and prices as Chinese investors made last-minute purchases. Supporters of the policy point to a recent decline in prices, ignoring that it was preceded by an even sharper run-up! But the bottom line is that this tax addresses the symptom and not cause of what is leading the Chinese to pour money into our real estate…and that is the trade imbalance between the two countries.
The latest “official” numbers are through July of this year. For the first seven months of 2016, our exports to China totalled $13 billion. At the same time, our imports are $22 billion dollars and it is this imbalance that allows…and in fact, almost forces…Chinese nationals to invest in Canadian real estate.
A quick primer in economics: The trade relationship between any two countries is captured in what is known as its balance of payments. The phrase suggests that everything must balance and this is true. Allow me to use a lengthier trade relationship—that being between Canada and the US— to make the point.
In the course of a year, we’re going to sell stuff to the Americans and they’re going to sell stuff to us. At the end, we’ll tally things up and determine that one of three things happened:

  • We bought more than we sold;
  • We sold more than we bought; and
  • We bought and sold exactly the same amount.

If it’s the third situation, which is unlikely, then no adjustment is necessary. But what happens, if—for example—we sold more than we bought?
Think about it for a moment. We’ve taken all the vacations in the US that we want. We’ve bought all the fresh fruits and vegetables we want. Yet we’ve still got money left over. We would, quite logically and innocently, buy American capital or financial assets. We might buy shares in US companies, or American dollar-denominated government bonds. We could purchase real estate. And, in fact, during the decade of the 00’s, when Canada was running huge surpluses in its trade (or current) account with the US, we saw an astonishing amount of Arizona and Florida real estate snapped up by Canadians.
Back to the situation at hand: It’s July 2016 and the Chinese have sold everything they could to us and bought everything they wanted from us, yet they still have $9 billion burning a hole in their collective pockets. It’s got to come back somehow. Why would they want to buy Canadian bonds? The 10-year is yielding about one percent, not even keeping up with inflation! There are all sorts of restrictions on their ability to invest in Canadian companies, including government blocking friendly take-over attempts. The money has to be returned to Canada somehow. This is why real estate in Vancouver and Toronto is as it is.
My guess is that sooner rather than later, other markets are going to be discovered. There are stunningly beautiful communities all across Canada where Chinese investors will both enjoy value and the kind of clean environment that they can currently only fantasize about. House prices are soaring in Vancouver and Toronto precisely to the extent that Chinese workers are getting up earlier, taking shorter lunches, and working later than their Canadian counterparts, so normalcy will return to the Canadian housing market in one of two ways: Either we’ll get off our keisters and get to work, or we’ll just have to stop buying iPhones.