One of the major reasons for the current financial crisis were the multiple real estate bubbles which popped up in large parts of the world. These bubbles burst more or less at the same time. This had huge repercussions and the world is still battling with them.
But more than five years after the crisis started, the global real estate bubble is back with a bang.
In the United States, the 20 City S&P/ Case- Shiller Home Price Index, the leading measure of U.S. home prices, rose by 13.6% in October 2013, in comparison to a year earlier. This means that real estate prices in October 2013 had risen by 13.6% in comparison to the same period last year.
This is the highest gain in prices since February 2006, when prices had risen by 13.9% in comparison to the year earlier. Real estate prices in the United States, as measured by the 20 City S&P/Case- Shiller Home Price Index had peaked in April 2006.
Prices in London have also been going up at a very high rate. As Albert Edwards of Societe Generale writes in a recent note titled Here we go again…and once again no-one is listening “London house prices just rose 10% – in one month… We are in the midst of the mother of all housing bubbles, and although the rest of the country has yet to follow, it inevitably will do so – it always does.”
Similar housing bubbles are being seen in large parts of the world. As economist Nouriel Roubini wrote in a recent column “Now, five years later, signs of frothiness, if not outright bubbles, are reappearing in housing markets in Switzerland, Sweden, Norway, Finland, France, Germany, Canada, Australia, New Zealand, and, back for an encore, the UK (well, London). In emerging markets, bubbles are appearing in Hong Kong, Singapore, China, and Israel, and in major urban centers in Turkey, India, Indonesia, and Brazil.”
This is something that even Edwards of Societe Generale agrees with. As he writes in a recent note titled If UK Chancellor George Osborne is a moron, Fitch’s Charlene Chu is a heroine “To be sure the UK is nowhere near the most expensive, with some of the usual suspects such as Canada, Australia and New Zealand even worse.”
So what explains such fast rise in real estate prices all over the world? Most of the western world is going through a phase of very low economic growth. Given this incomes haven’t been rising. In fact, they have been falling. As Gary Dorsch, editor of Global Money Trends newsletterpoints out in his latest newsletter “For Middle America, real disposable income has declined. The Median household income fell to $51,404 in Feb ‘13, or -5.6% lower than in June ‘09, the month the recovery technically began. The average income of the poorest 20% of households fell -8% to levels last seen in the Reagan era.”
A similar case seems to be playing out in Great Britain as well, wherein anyone looking to buy his first house has to shell out nearly half his income as an EMI. As Edwards writes “The Nationwide Building Society data shows that the average first time buyer in London is paying over 50% of their take home pay in mortgage payments – and that is when interest rates are close to zero.”
Given this, it is only fair to say that there is a housing bubble on. And the only possible explanation for it is the easy money policy run by governments and central banks all over the Western world to revive economic growth. A lot of money has been printed in recent years to ensure that interest rates continue to remain at low levels. As Edwards puts it “The London housing bubble is no longer driven by Asian or eurozone buyers looking for safe havens. This bubble, like the one in the mid-noughties, is about excessively loose monetary policy and light touch regulation.”
What is true about London is true about other parts of the Western world as well. Of course, the usual explanations defending the rapid rise in real estate prices are being made as well. The top reason on this list is that there is only so much land going around, and, hence, real estate prices can only go up. Then there are the usual reasons of population pressures and economic growth pushing real estate prices upwards.
It needs to be pointed out here is that land is really not an issue in countries like United States and Australia. And this reflects in the numbers as well. As Alan S. Blinder writes in After the Music Stopped “The historical comparison reveals a stunning—and virtually unknown—fact: On balance, the relative prices of houses in America barely changed over more than a century! To be precise, the average annual relative price increase from 1890 to 1997 was just 0.09 percent.”
This is something that George A. Akerlof and Robert J. Shiller also point out in Animal Spirits. As they write “Moreover, real home prices in the United States rose only by 24% from 1900 to 2000, or 0.2% per year. Apparently land hasn’t been the constraint on home construction. So home prices have had negligible real appreciation from the source.” Real home prices are prices which have been adjusted for inflation.
In Europe, land is limited, but the population growth rate is limited as well. In 2013, it is estimated that the population in the European Union went up by 0.21%. Also, real estate prices do fall in places where land is limited. Take the case of Japan. As Akerlof and Shiller point out“Urban land prices have recently fallen in Japan (where land is every bit as scarce as it is in other countries). In fact they fell 68% in real terms in major Japanese cities from 1991 to 2006.”
The other justification being made is that real estate prices are still way below the peaks they achieved during the 2006-2008 period. The 20 City S&P/ Case- Shiller Home Price Index is still 20.7% below the high it achieved in April 2006. Edwards has an explanation for this. As he writes “To those who say this is not a bubble because transactions or mortgage volumes are some long way off their 2007 peak, I say this is a classic case of anchoring. It’s exactly like 2007 when equity strategists compared equity valuations with the height of the 2000 bubble and concluded equities were cheap. Just because housing transactions and the volume of mortgage loans are below their peaks doesn’t mean we can’t be in the midst of another unsustainable house price bubble.”
To conclude, let me say that just because there is a global real estate bubble on, doesn’t mean that it will burst any time soon. As Roubini puts it “The global economy’s new housing bubbles may not be about to burst just yet, because the forces feeding them – especially easy money and the need to hedge against inflation – are still fully operative.”
The article originally appeared on www.firstpost.com on January 3, 2014
(Vivek Kaul is a writer. He tweets @kaul_vivek)