Long time readers of whocrashedtheeconomy.com will remember a post back on the 28th of April last year about the Herengracht Real Location Value Index created by Piet Eichholtz dating back 350 years. It tracked house prices on Amsterdam’s Herengracht canal and shows over the 350 years when corrected for inflation house prices remain flat. After every boom, there is always a bust. Eichholtz’s index has just cropped up in an ABC article :

From boom to bust, the plot Sasbout bought for 4,600 guilders (2,100 euros) and which today might sell for several million euros on the prestigious canal, will in the long run always revert to some kind of price equilibrium.

Just now for Eichholtz, the arrow is pointing down. He says home-owners worldwide may need to brace for double-digit losses in once-booming markets, and even more in places with low birth rates like eastern Europe as well as Japan and South Korea.

“I’m really concerned about housing markets where the demographics look bad,” he said. “Then prices can really fall a long way.”

Closer to home, Nigel Stapledon, an economics lecturer at UNSW and past Chief Economist for the Westpac Bank has created a Real Price Index for Australia measuring house values of constant quality since 1880. A chart of his index is shown below along with the US Real House Price Index created by Robert Shiller.

It clearly shows the huge size of our housing asset bubble at present.

You just have to ask yourself, what happens when it corrects? That is a lot of money it has pumped into the economy through the wealth effect, home equity loans and the like. Even more frighting is that most OECD countries are in a very similar position, and as each day emerges there is talk about real estate prices falling in countries like Britain, Japan, China etc.

» Dutch history pointing to real estate fall - The ABC, 28th January 2008.
» Long term housing prices in Australia and some economic perspectives - Nigel David Stapledon, September 2007.

From U.S. recession to Global recession. . .

The U.S. economy may already be in recession; other countries might not be far behind.

Japan, Britain, Spain and Singapore, which together represent about 12 percent of the world economy, are vulnerable as fallout from the U.S. worsens their economic weakness. Even emerging markets, including China, are likely to suffer as exports to the U.S. wane.

It’s “highly likely” Japan is already in a recession or will enter one this quarter, Tetsufumi Yamakawa, chief Japan economist at Goldman in Tokyo, wrote in a report published today.

» Global Recession Risk Grows as U.S. `Damage’ Spreads (Update1) - Bloomberg, 28th January 2008

The median house price in Australia is now 50 per cent higher than the median price in the United States.

This is a huge disparity between the cost of housing in Australia and the US, and is not matched by a difference in incomes.

» The price of fish - Business Spectator, Alan Kohler, 26th January 2007

First it was subprime, then it was the home equity crisis. Today it is margin loans. In a day when the Australian Stock Market slumped 7.3%, making it the biggest fall in 28 years, debt was again playing its role.

With double digit returns as long as you could remember, it was hard to play in the stock market and not make money. The sheer ease of making money in the markets helped people make the decision to take out margin lending loans. These loans typically provided the investor a portfolio up to 2/3 larger than their equity. As stock continued to climb, these investors made the margin between the interest and the money to make on the stock. But as shares fall . . .

Geoff Wilson, from Wilson Asset Management, has told ABC Radio’s PM program, those investors that have used borrowed money to buy shares are having to sell, because their stocks’ values have fallen past a certain point.

“A lot of retail investors are being forced to sell out. Last Thursday was a record margin call day for investment banks around town,” he said.

“Then yesterday was another record, which was three times bigger than the previous Thursday, and I’m sure today will be another record margin call day.”

» Forced selling partly behind market fall: analyst - The ABC, 22nd January 2008

The Long Johns help you understand Subprime.

THE first real hint that something was wrong came in February last year. People started using the word “subprime” and talking about defaults in the US mortgage market.

….

The long-proposed theory of ‘decoupling’ is also breaking down, and market watchers are less convinced the Australian economy can withstand a US recession, despite China’s economic strength.

» Doubts surface on nation’s ability to withstand recession - The Age, 19th January 2008

US and British house prices are falling. Australian house prices are still rising. Housing here is protected in the short term by strong Australian growth, but that will not last forever.

….

Even so, the OECD suggested in 2005 that Australian house prices were the most overvalued of any developed country relative to income or rents.

Our household debt and servicing costs relative to income are high. Households are exposed if rates rise sharply.

….

Some say that’s unlikely, but overpriced assets do fall. Do not assume Australian house prices will rise forever.

The article is correct. It appears there is to much focus on sub prime and the US, that sub prime is the only problem and that the US will go into recession in isolation.

The fact is, subprime was a trigger for the bursting of the housing bubble in the US. Subprime is just the first domino falling, hiding the underlying problem which is the housing asset bubble. This housing bubble is a global problem and most countries are not immune. Australian houses are more overvalued than both the US and UK, and Australian’s have much more household debt as a percentage of household disposable income.

» Meltdown puts heat on global house prices - The Herald Sun, 19th January 2008.

As subprime takes center stage, there appears to be more trouble in the woods. As house prices spiraled to dizzy heights, home owners used the equity in their homes, or their homes as ATMs to buy other goods and services. This was achieved with a home-equity loan. Now as house prices fall and any equity evaporates, the defaults are coming in thick and fast :

Subprime mortgages have taken a lot of blame for banks’ big losses. But there’s another problem lurking behind the mess: home-equity lending.

Buoyed by rising prices, borrowers increasingly tapped into the equity on their properties to finance a new car, renovations, or even a down payment, making equity a key source of consumers’ strength. But with the housing market in disarray and prices plunging, the business of home-equity lending is souring. At least $14.7 billion in loans and lines of credit were already delinquent through the end of September—the highest level in a decade

» The Home Equity Crisis Ahead - BusinessWeek, 16th January 2008.

A leading economic analyst says Australia’s strong resources sector could suffer if the United States economy slides into recession.

Craig James from Commonwealth Securities says the slowdown in the United States will have a follow-on effect for Australian shares, particularly the resources sector.

“If the US economy slows and there’s less spending by consumers and businesses, that means there’s less demand for say Chinese manufactured goods,” he said.

“If the Chinese economy sees less demand that means less resource demand from China for Australia.”

» US recession ‘could hurt Aust resources sector’ - The ABC, 14th January 2008.

The New South Wales Valuer General says a glut of properties in parts of western Sydney has led to a fall in land values in the past year.

» Land prices plummet in western Sydney - The ABC, 13th January 2008.

Dad believed when Maggie said:
Get a mortgage, buy a home, so dad took out a great big loan.
For a while there we were chuffed.
Now the market has collapsed and we are absolutely stuffed.
Our house, in the middle of the slump . . . .

“There is a clear and present danger of the world economy coming to a near standstill,” the UN’s Department of Economic and Social Affairs said in an analysis released today in New York. “The domino effect of a U.S. recession would be to knock down export growth from China, Europe and Japan, in turn reducing their demand for exports from developing countries.”

» UN Says U.S. Economy’s Housing Slowdown Risks Global Recession - Bloomberg, 9th January 2008.

A top bank says the feared recession in the United States economy has arrived.

A report from Merrill Lynch, one of the world’s leading financial management and advisory companies, says Friday’s employment report confirmed that the US is in the first month of a recession.

» US now in recession, top bank says - The ABC, 8th January 2008.

There has been this misconception that as our population gets older, most will own their house outright and hence more will be immune from the credit crunch gripping the world.

In today’s AFR they published this interesting graph :

It would seem while more and more of Australia’s population, aka the baby boomer population is exceeding 60 years, the number of households that own their home outright is dropping at a significant pace. In fact, in 2004 the portion of households with a mortgage exceeded that of the number of households that owned their house outright. There are now more households with loans than those without.

One has to ask, why is this? Is this the baby boomers making the most of spiraling property prices and taking out home equity loans to finance the bathroom or kitchen renovation, the boat, the 4WD or maybe an investment property? One thing this graph does prove is Australia’s love affair with debt.