Thinkingreally thinkingabout house prices Steve Keen University of Western Sydney Debunking Economics

What drives house prices? Conventional case: –Population pressure drives house prices Booming population Sluggish dwelling construction Demand exceeds supplyprices will rise My case –Money pressure drives house prices Booming credit drives prices up Stagnant credit will drive prices down Checking the numbers:

House Prices and Population Population Change vs House Price Change Volatile prices, not much variation in population; Lets zoom in… Sometimes correlated Sometimes not Overall correlation coefficient quite low: 0.21 –(versus maximum possible of 1.0) But this is just demand side; what about supply side?

?? House Prices and Population Density Population Per Dwelling Change vs House Price Change More volatility in population density, but something strange: Housing grew faster than population? –Isnt supply sticky? Density falling while prices rising? –Lets zoom in… Supply flow has exceeded population flow –Except for Correlation lower when supply also considered: 0.1 versus already low 0.21 But maybe this time is different?

House Prices and Population Density Yes, this time is differentits worse… Correlation now large and negative (-0.5) Huh? Rising population density means falling house prices? Noit means population pressure doesnt determine house prices What does then? –Money pressure does People dont buy houses –People with mortgages do…

Money makes the world go round… A little thinking: where do mortgages come from? –Conventional economists think from savings Savers money lent to borrowers Therefore (mortgage) debt doesnt matter –Saver can spend less –Borrower can spend more –Overall, no change in spending power –Therefore private debt has no impact on economy E.g., Nobel Prize winner Paul Krugman: –the overall level of debt makes no difference … one person's liability is another person's asset. (Krugman 2010, p. 3) –Theyre wrong In our banking system, loans create spending power

Money makes the world go round… Vice President of New York Fed put it this way in 1969: –In the real world, banks extend credit, creating deposits in the process, and look for the reserves later (Holmes 1969, p. 73) Ignored by conventional (Neoclassical) economists –Which is why they didnt see the GFC coming Essential part of my approach –Which is why I did see it coming Impact on house prices: –Rising house prices need accelerating debt The logic: –Aggregate demand = Income + Change in Debt –Change in debt plays crucial role in macroeconomics and asset bubbles…

Accelerating Debt Makes House Prices Rise Aggregate Demand = Aggregate Supply + Change in Debt –In symbols, AD = AS + Debt Greek Delta ( ) stands for Change in Spent on both goods & services and assets –AD = AS + Debt = AS + Net Asset Sales (NAS) –NAS = Price, times Fraction Sold, times Quantity In symbols, NAS = P A. A.Q A –Since level of demand determines prices Change in demand cause change in prices Rising house prices require accelerating debt: – AD = GDP + Debt = GDP + (P A. A.Q A ) So change in house prices should be correlated with accelerating private debtespecially mortgage debt…

Accelerating Debt Makes House Prices Rise Is there a correlation? Mortgage Impulse(Acceleration Mortgage Debt)/GDP Correlation = 0.42 –Twice the level of the rising population causes rising house prices argument –Four times the level of rising population density argument Accelerating debt also leads house price changes –Acceleration of mortgage debt now tells us where prices will go in 2-4 months time…

Accelerating Debt Makes House Prices Rise Accelerating mortgage debt leads house price change: In contrast, Population density useless as leading indicator Correlation falls when lead considered Upshot: to know what house prices will do in next 2-4 months, look at accelerating of mortgage debt now –(Lag has fallen in more recent data)

Decelerating Debt Makes House Prices Fall Mortgage debt is decelerating:Recent house price boom caused by First Home Vendors Boost Turned decelerating mortgage debt in 2008 into accelerating debt We sidestepped GFC by recreating housing bubble –But Australias different, isnt it?

Decelerating Debt Makes House Prices Fall Yes, China apart, its worse… Bigger mortgage bubble than USA: Australian households now more indebted than Americans

Responsible lending ??? Australian banks financed a bigger bubble than did USA

Not a bubble??? A bigger bubble with further to fall…

For more background (if you can cope!) My blog – My book (out in September) Whatll happen to the banks? Our banks more exposed than US

Tony Hayek House prices always rise?