The pace of new home construction in September was much stronger than economists predicted, leading some to suggest there are signs of overbuilding in Canada’s housing market.

Canada Mortgage and Housing Corp. said Monday that housing starts rose to a seasonally adjusted annual rate of 205,900 units in September on strength in the Atlantic region, Quebec and British Columbia.

Economists, on average, had expected the rate to come in at about 190,000 units.

The increase was driven by an uptick in the number of apartments and condos being built in urban areas, where starts rose by eight per cent to 185,900 units. Multiple-unit urban starts increased 14.2% to 118,000 units, while urban single starts decreased by 1.5% to 67,900 units.

“Although the momentum in housing construction cannot be denied, it is being driven increasingly by multiples construction, the segment of the market where newly completed inventory levels are at historically high levels,” said David Madani of Capital Economics.

“The higher level of newly completed unoccupied housing units, however, suggests that housing starts are unlikely to be sustained at rates above those required by demographic shifts (perhaps 175,000) for very much longer.”

An extended period of low interest rates, combined with high home prices and a relatively stable domestic economy have helped to prop up demand in Canada’s housing market for longer than economists initially expected.

The strength in the September figures could help push third-quarter gross domestic product higher.

A robust September, combined with upward revisions to reports from July and August, prompted Capital Economics to revise its estimates for investment in residential building in the third quarter from two per cent to as much as eight per cent.

That momentum will likely be carried into the last quarter of the 2011 calendar year, Madani said.

But if too many new homes are built, a sudden change in the economic outlook could lead to a glut of supply, which would bring home prices down sharply and reduce the net worth of Canadians.

TD Bank economist Francis Fong said the September numbers suggest the housing market remains “extremely healthy.”

“Recent financial turmoil emanating from Europe has hit Canadian markets hard and has led to a renewed flight towards the safety of government bonds. This has helped to keep mortgage rates at their record low levels, meaning affordability is still supportive of housing demand,” Fong said.

“However, TD Economics expects that spending fatigue and high levels of debt among Canadian households will lead to further moderation in the housing market,” he added.

Low interest rates make mortgages cheaper to carry and encourage first time home buyers to enter the market, which drives up prices. Once those rates begin to rise, the current price of homes could become unaffordable for many, putting downward pressure on future prices.

Those higher home prices and investor expectations of further capital gains have likely driven apartment and condo sales. That could leave the market vulnerable to a sudden loss of confidence “resulting in falling house prices and significant knock-on effects for the economy,” Madani said.

“Although there are many potential economic triggers for a housing slump, we also stress that a negative shock, say to unemployment, is not strictly necessary. Instead, a shattering of the blind faith in ever-rising house prices might be sufficient,” he warned.

Mathieu Laberge, CMHC deputy chief economist, said he also expects the boom in apartment and condo building to come in line with the level of new household formation, typically expected to be between 170,000 and 190,000.

“Multiple housing starts are expected to move back towards levels consistent with demographic fundamentals in the near term,” Laberge said.

Quebec was the big winner in the September numbers, with a 14,000 increase in starts to 57,800 — a 13.9% jump and the highest level of starts since February 2008.

Rural starts were estimated at a seasonally adjusted annual rate of 20,000 units in September, up from 18,900 units in August.