Separating Spin from Fact on Australian House Prices

Steve KeenUniversity of Western Sydney

Debunking Economicswww.debtdeflation.com/blogs

www.debunkingeconomics.com

1985 1990 1995 2000 2005 2010 201550

100

150

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AustraliaUSA

Real House Price Indices

Year

June

198

6 =

100

B E

1600 1650 1700 1750 1800 1850 1900 1950 20000

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350

400

IndexMean 1628-1973 (198)

Herengracht Canal Real Price Index

Year

Index

1628 =

100

Dr Doom on House Prices?• How I am normally seen… Financial Review December 2010

• Some context:– Rebel economist (since 1972)– Specialist on “Financial Instability” (since 1987)– Expert Witness “Predatory Lending” case (in 2005)

Economic context• Saw this data while preparing case• Normal economist

thinking on this?– “No Problem”

• Rebel economist?– Crisis coming

when exponential growth of debt stalls

– Have to raise the alarm…1975 1980 1985 1990 1995 2000 2005 2010

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RatioExponential Fit

Australia's Private Debt to GDP Ratio till December 2005

• Logic behind normal “Neoclassical” economist thinking– “Debt doesn’t matter”

• Transfer spending power from creditor to debtor• No “macro” impact

Economic context• Rebel “Minksian” economist logic: Debt does matter

– Spending = Income plus Change in Debt– Demand collapses when Change in Debt falls– Must fall because exponential increase in Debt to

Income (GDP) ratio can’t continue…• Example: GDP growth 10%, Debt growth 20% (2006)

– GDP $1,000 bn– Debt $1,250 bn, Change in debt = $250 bn

• Total spending $1,250 bn• Next Year: GDP same, Debt growth slows to 10% p.a.

– GDP $1,100 bn– Debt $1,500 bn, Change in debt = $150 bn

• Total spending $1,250 bn—same as year before• Slowdown in debt growth can cause recession

+28%+28%

-14%-14%

Economic context• Slowdown duly arrived globally: the “Great Recession”

1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 20150

1 106

2 106

3 106

4 106

5 106

6 106

7 106

8 106

9 106

1 107

1.1 107

1.2 107

1.3 107

1.4 107

1.5 107

1.6 107

1.7 107

1.8 107

1.9 107

2 107

0

10

20

GDPGDP plus Change in DebtUnemployment

Aggregate Demand in the USA

US

$ b

illion

Year 2008

• From adding 28% to From adding 28% to demanddemand

• To subtracting 14% from To subtracting 14% from itit

• Steepest fall everSteepest fall ever

1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 20150

1 105

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1.4 106

1.5 106

0

10

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GDPGDP plus Change in DebtUnemployment

Aggregate Demand in Australia

US

$ b

illi

on

Economic context• But not so bad in Australia…

+23%+23%+2%+2%

• From adding 23% to From adding 23% to demanddemand

• To To still adding still adding 2% to it2% to it• We didn’t “de-lever”…We didn’t “de-lever”…

Economic context• 3 questions

– How bad is private debt today on the “Richter Scale”

– What could entice people into this much debt?• Debt like having a tooth pulled

– Undesirable for own sake• To market it, has to have side benefit

– “You look sexy with less teeth…”– How come Australia didn’t “delever”?

• Answers– Worst in History (twice Great Depression)– Speculation on Asset Prices (especially housing)– “First Home Vendors Boost”

Economic context• Biggest debt bubbles ever…

1860 1870 1880 1890 1900 1910 1920 1930 1940 1950 1960 1970 1980 1990 2000 2010 20200

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USAUS ex. FinancialAustralia

Debt to GDP Ratios since 1860

Economic context• Biggest asset bubbles ever… especially in housing

1900 1910 1920 1930 1940 1950 1960 1970 1980 1990 2000 2010 20200

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SharesProperty

American Asset Price Indices

Case-Shiller & Irrational Exuberance Data

Inde

x 19

00=

100

100

• Borrow to gamble on rising asset prices—a Ponzi Scheme

• Fortunately, Australia doesn’t have a housing bubble, does it?...

• Keep in mind how big Keep in mind how big US housing bubble looks US housing bubble looks on this chart…on this chart…

Economic context• US bubble doesn’t look so big any more…

1900 1910 1920 1930 1940 1950 1960 1970 1980 1990 2000 2010 20200

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USAAustralia

Real House Price Indices

Case-Shiller; Stapledon + ABS

Inde

x 19

00=

100

100

• But US prices driven by Subprime Debt

• Aussie banks have been more responsible, haven’t they?

Economic context• Depends how you define responsible…

197619781980198219841986 198819901992199419961998 200020022004200620082010 20120

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USAAustralia

Mortgage Debt to GDP

• Since 1990, Australian mortgage Since 1990, Australian mortgage debt has risen 3 times faster than debt has risen 3 times faster than USUS

• From 23% below to 13% above US From 23% below to 13% above US peakpeak

• But Australian houses are affordable, aren’t they?

• Glenn Stevens says so…

Economic context

• Reserve Bank of Australia (RBA) chief Glenn Stevens says he is not “terribly troubled” about the level of house prices in Australia.

• Mr Stevens said the ratio of income to house prices in Australia was “not exceptional by global standards“…

• “There is quite often quoted very high ratios of price to income for Australia, but I think if you get the broadest measures country-wide prices and country-wide measure of income, the ratio is about four and half and it has not moved much either way for ten years.

• "That is higher than it used to be but it is actually not exceptional by global standards.” (SMH March 16th 2011)

• Four and a half?...

House Prices to Incomes: “Four and a half?...”• Median Price to Average disposable income per

dwelling– House Prices:

• ABS House price series (2002-Now)• ABS House price index to extend back to 1986• Stapledon long term prices back to 1960

– National Disposable Income• RBA Table G12 data from 1960

– Population• ABS 310101 + ABS 32220ds10 for projections

– Housing stock• ABS 87520037 for flow of housing 1952-2010• ABS 4012 for housing stock 2003-09

• Average income 28% higher than median income

House Prices to Incomes: “Four and a half?...”• And the answer is… 8 times household disposable income

1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 20150

1

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3

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SydneyMelbourneFHOS

Median House Price to Average Disposable Income per Dwelling

• Median house 3 times as expensive as Median house 3 times as expensive as 1960s1960s

• 6 times 6 times averageaverage income income• 8 times median income8 times median income

• ““has not moved much either way for ten has not moved much either way for ten years”years”– Because government scheme has kept Because government scheme has kept

prices upprices up

House Prices to Incomes: No change in 10 years?• Most recent bubble began in 1997

1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 201580

90

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Index: Peak 150.6, 146 nowMean 101 (till 1997, Mean = 95)+ 3 St. Dev.- 3 St. Dev.First Home Owners Grant

House Price Index to GDP Per Head

Jun

e 1

95

3=

100

• Mortgage debt started bubbleMortgage debt started bubble• FHOG boosted & sustained itFHOG boosted & sustained it

The FHOG: Distorting house prices since 1983

Quarterly Change in House Prices after InflationBefore After All Data During Between Doubled

Mean 0.07% 0.94% 0.47% 2.17% 0.25% 3.10%

Min -5.53% -3.73% -5.53% -2.26% -2.26% -0.92%

Max 3.91% 7.86% 7.86% 7.86% 2.95% 4.93%

Std. Dev. 1.73% 2.17% 1.99% 2.71% 1.26% 1.83%

• No trend in real prices before FHOG; 1% p.q. after it• How it works:

• Buyer takes FHOG to Bank• Levers it up via LVR (70% in 60s, 97% now)• Bids up price by (say) 5 times FHOG• Vendor takes cash to Bank• Levers upgrade purchase by (say) another 5

times…• A double bubble

But what about population growth?• Dwelling growth exceeded population growth 1975-2006

– Did prices fall?

1975 1980 1985 1990 1995 2000 2005 2010 2015

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House Price ChangePopulation Per Dwelling Change

Population Density Change & Nominal House Price Change

Nom

inal

Hou

se P

rice

Cha

nge

Pop

ulat

ion

per

dwel

ling

chan

ge

• Correlation trivial (-0.06) & wrong signCorrelation trivial (-0.06) & wrong sign• What about recent immigration surge?What about recent immigration surge?

What about recent immigration surge?• Dwelling growth below population growth, & prices rose…

2006 2006.5 2007 2007.5 2008 2008.5 2009 2009.5 2010 2010.5 2011

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House Price ChangePopulation Per Dwelling Change

Population Density Change & Nominal House Price Change

Nom

inal

Hou

se P

rice

Cha

nge

Pop

ulat

ion

per

dwel

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chan

ge

Corr X1 X2 0.562

• Correlation significant (-0.56) but Correlation significant (-0.56) but wrongwrong signsign– What about “underlying demand”?What about “underlying demand”?

“No bubble” - “Underlying demand”?• Price rise explained by shortage of housing relative to projected

demand?– ‘ . . . the Council estimated a gap of around 85,000 dwellings

between underlying demand for and supply of housing at 30 June 2008. The Council developed a methodology for measuring the gap based on selected measures of homelessness… The measures used in the 2008 report were:

• 2008 gap size = additional private rental dwellings required in 2008 to increase the number of vacant private rental dwellings to 3 per cent of the total private rental stock

• + dwellings required to accommodate people who are homeless and sleeping rough or staying with friends and relatives

• + dwellings required to house marginal residents of caravan parks.’

National Housing Supply Council 2010, pages 65-66

“No bubble” - “Underlying demand”?

• Price rise explained by shortage of housing relative to projected demand?– “Gap between underlying

demand & supply” might explain need for housing

– But doesn’t explain monetary demand for it

• Homeless people driving up house prices?

• Illicit use of measure of need as basis for demand

• If you think he’s driving If you think he’s driving up house prices, I have a up house prices, I have a bridge I’d like to sell bridge I’d like to sell you…you…

Real driver of house-price bubble? MortgagesLending: New loans from 5% of GDP to 25% in 2000s• 0.51 correlation between new lending & change in prices

– 0.53 correlation when rising trend accounted for

1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012

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5

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25

30

New Lending % GDPAnnual Change in Price

Quarterly Change

New Lending and Change in Nominal House Prices

Year

Perc

ent p.a

.

Real driver of house-price bubble? Mortgages• Number of buyers rose with rising debt:

1975 1980 1985 1990 1995 2000 2005 2010 20150.1

0.2

0.3

0.4

PercentAverage 75-90Average 90-10

New Home Loans Number as Percent of Population

Year

Per

cent of

popu

lation w

ith n

ew loan

Real driver of house-price bubble? Mortgages• House prices follow mortgage debt

1975 1980 1985 1990 1995 2000 2005 2010 2015

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10

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30

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Mortgage debtReal house prices

CPI-deflated Mortgage Debt and House Prices

Year

Per

cen

t ch

ang

e p

.a.

Real driver of house-price bubble? Mortgages• Lead is about 9 months

12 10 8 6 4 2 0 2 4 6 8 10 12

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0.1

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0.5

Change in Real Mortgages & House Prices

Lag in months

Co

rrel

atio

n c

oef

fici

ent

Real driver of house-price bubble? Mortgages• Rise in debt far greater than rise in prices

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PriceDebt

Nominal Price and Debt per Dwelling

Year

Ind

ex J

uly

197

6 =

10

0 • House prices up 15 times since mid-1970sHouse prices up 15 times since mid-1970s• Debt per house up 55 timesDebt per house up 55 times• Divergence began in 1990Divergence began in 1990

• When mortgage debt to GDP began to When mortgage debt to GDP began to growgrow

What goes up must come down?

Longest time series shows no trend to real house prices

Source: http://papers.ssrn.com/sol3/papers.cfm?abstract_id=598

Herengracht Canal Amsterdam price data 1628-1973

Long periods of rising or falling real prices

But no trend over 350 years

Implies real house prices roughly constant

Deviations reflect bubbles/collapses rather than sustained trends

1600 1650 1700 1750 1800 1850 1900 1950 20000

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IndexMean 1628-1973 (198)

Herengracht Canal Real Price Index

Year

Ind

ex 1

628

= 1

00

What goes up must come down?• Prices already falling (SMH Today, Residex Figures):

• Trigger? Same as for rises—change in mortgage debt• Indicator: The “Credit Impulse” (Biggs, Mayer, Pick)

– Since aggregate demand = income + change in debt

– Change in aggregate demand = change in income + acceleration of debt• Credit Impulse = (Change in Change in Debt) /

GDP

Houses Median Month of February

February Quarter

February Year

ACT $537,500

1.27% -0.68% 7.24%

Adelaide $408,000

-0.48% -0.46% 2.05%

Brisbane $450,500

-0.34% -1.29% -3.86%

Darwin $514,500

-0.66% -0.98% 2.62%

Hobart $385,500

1.48% -2.29% 6.30%

Melbourne

$598,000

0.80% -0.19% 9.24%

Perth $480,000

-0.11% -2.17% -0.26%

Sydney $674,000

0.35% -0.23% 6.32%

Australia $443,000

0.92% -1.30% 4.27%

Credit Impulse & Unemployment• Major driver of economy ignored by neoclassical economics

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40

0

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Credit Impulse & Change in Unemployment

Cre

dit

Im

pu

lse

Ch

ange

in U

nem

plo

ym

ent

0

• Negative for 40 months in 1990s Negative for 40 months in 1990s recessionrecession

• Only negative for 26 months in GFCOnly negative for 26 months in GFC

HouseholdHouseholdDebtDebt

On UpsideOn Upside

BusinessBusinessDebtDebt

On UpsideOn Upside

HouseholdHouseholdDebtDebt

On UpsideOn Upside

BusinessBusinessDebtDebt

On UpsideOn Upside

Future Prospects?• Economy:

– Business credit impulse positive but petering out• China boom big positive…

2007 2007.5 2008 2008.5 2009 2009.5 2010 2010.5 2011 2011.5

10

0

10

YearlyQuarterly

Private Credit Impulse

2007 2007.5 2008 2008.5 2009 2009.5 2010 2010.5 2011 2011.515

10

5

0

5

10

BusinessMortgagePersonal

Quarterly Private Credit Impulse by Sector

• Housing Market:– Credit Impulse turning negative– Sharply so in latest data

Future Prospects?• Mortgage Credit Impulse driving prices down

2007 2008 2009 2010 20113

2

1

0

1

2

ImpulseFHOG

Credit Impulse from Mortgages by Quarter

• Lending Finance data yesterday (ABS Lending Finance data yesterday (ABS 5671) implies sharp falls in near 5671) implies sharp falls in near future:future:• Owner occupied housing -4.6% on Owner occupied housing -4.6% on

monthmonth• Personal -9.5%, Commercial -5.8%Personal -9.5%, Commercial -5.8%

Future Prospects?• Deleveraging reversed by FHOG now returning

5 5.5 6 6.5 7 7.5 8 8.5 9 9.5 10 10.5 11 11.5707172737475767778798081828384858687888990

ActualTrend before FHVB

Mortgage debt to GDP

Years since 2000

Perc

en

t o

f G

DP

FHVB Peak

• FHVB’s $100bn boost FHVB’s $100bn boost to economy now overto economy now over

• Sixth trick unlikely…Sixth trick unlikely…

Future Prospects?• Falling debt likely future scenario, as in USA

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MortgageBusinessPersonalGovernment

Debt to GDP by Sector

• Falling demand for Falling demand for mortgagesmortgages

• And therefore falling house And therefore falling house pricesprices