More Housing Nonsense from Gittins
Ross Gittins’ column today is almost a perfect summary statement of all the nonsense written about housing in recent years. In particular, Gittins claims:
What many people don’t realise, I suspect, is that the housing boom effectively crowded out external demand (“net exports”). You can see this from two perspectives. The first is that, on the one hand, the housing boom added to consumption and so reduced saving while, on the other, it added to investment (in the housing stock). So, by reducing national saving and increasing national investment, the housing boom caused a widening of the current account deficit.
The problem with this argument is that it is simply not supported by the data. As we have pointed out on previous occasions, consumption and national saving as a share of GDP have been remarkably steady. Investment has boomed, of which housing makes up only a part.
The widely held perception to the contrary stems in part from the fact that the ABS does not highlight the national saving data in the national accounts release, for the simple reason that these data are so boring. They do report the household saving ratio, because it shows more colour and movement, but if you read the fine print, you will see that the ABS doesn’t believe its own numbers. In particular, they warn that the data are potentially subject to significant revisions which ‘can cause changes in the apparent direction of the trend.’
In fact, one can argue that it is the increased purchasing power of domestic production from improvements in the terms of trade that is driving income growth that is in turn driving consumption and house prices. In other words, consumption and house prices are jointly driven by strong growth in national income, not the other way around. Strong growth in the terms of trade is also driving the growth subtraction from net exports, as we substitute cheap imports for domestic production. This makes us better off in welfare terms, but you won’t see this looking at the domestic product account. In fact, the peak in annual growth in house prices coincides quite nicely with the growth peak in real gross domestic income.
Gittins goes on to argue:
The second way to think of it is that, thanks to the economic growth emanating from the housing boom, the unemployment rate fell steadily to a 28-year low of 5 per cent.
The Reserve Bank would not have wanted to see the economy growing any faster than it did. In its management of demand along the path it took, the Reserve kept the official interest rate higher than otherwise, which probably kept the exchange rate higher than otherwise, thereby crowding out net exports.
I trust Gittins is not seriously arguing that we should have a slower rate of economic growth and a higher unemployment rate, just so we can have lower interest rates, a weaker dollar and a better current account balance, but that is the clear implication of what he is saying. That is exactly the formula which brought us the early 1990s recession.
posted on 06 June 2005 by skirchner
in Economics
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“The problem with this argument is that it is simply not supported by the data. As we have pointed out on previous occasions, consumption and national saving as a share of GDP have been remarkably steady. Investment has boomed, of which housing only makes up only a part.”
Stephen you keep making this claim, but you don’t provide a shred of evidence to back it up.
Please, show us the data, and tell us where the investment dollars have been going if not into bricks and mortar.
Posted by .(JavaScript must be enabled to view this email address) on 06/06 at 02:40 PM
the problem in the early 90’s was a bubble but in commercial property which hit company balance sheets.
This time we has a bubble in housing.
Was it a bubble?
Well when over 40& of loans was by ‘investors’ who were getting a yields more than half that they would have recieved in either commercial, retail or industrial property and who were buying off the plan in th hope of selling it as it entered the market it seems that it smaells like a bubble, and looks like a bubble and tastes like a bubble.
also of interest is that you have all those people who ‘invested’ in apartments who are having to roll over their ‘investment’ loans because they can’t sell their apartments at prices they can afford.
This agian has all the appearances ofa bubble certainly similar to what Kindleberger wrote about.
given how current account blow-outs are usually solved then it seems to me that roscoe is on the money
Posted by .(JavaScript must be enabled to view this email address) on 06/06 at 02:56 PM
Following up DavidM and other commentators, I haven’t checked since this came up last time, but my recollection is that the growth in nominal investment has been dominated by dwellings, and that equipment investment hasn’t moved much.
The decline in the (hedonic) price of computers makes measured real investment in equipment look large, but I don’t think this is really relevant to the issues we are debating here.
As David says, feel free to point to data showing a different picture.
Posted by quiggin on 06/06 at 03:35 PM
John/David: I think Gittins says as much himself when he uses past tense to talk about the dwelling investment share of GDP. All of the investment components are highly cyclical, so we shouldn’t read too much into any single year’s data, but for Q1 05, plant & equipment spending is up 15.2% y/y compared to dwelling investment is down 3.8% y/y in chain volume terms.
The current downturn in dwelling investment has so far been quite modest compared to previous cycles, which is supporting its share of GDP, but this is not what the bubble brigage told us would happen!
The other untold current account deficit story is that Australia has become a net exporter of direct investment capital in recent years, which shows up in the current account deficit, but not in local investment. At least part of the current account deficit is funding the globalisation of Australian business investment, surely a good thing!
Posted by skirchner on 06/06 at 04:35 PM
“in chain volume terms”
But this seems to be the crucial issue. The volume stats tell one story, the current expenditure stats a very different one.
As regards our status as a net exporter of investment capital, I find it hard to see how this can be seen as a positive, given that we are a massive importer of capital in general. Assuming rationality, investors and lenders are predicting low inflation and default rates, but weak growth in profits.
Posted by quiggin on 06/06 at 05:03 PM
I agree completely that the current downturn in dwelling investment has been reasonably modest (so far, the boom has yet to peak across the country) but I cannot fathom how you can deny that there *was* a boom. You only have drive around any major city in Australia and the evidence is all around you.
I don’t believe I am a member of the ‘bubble brigade’ but I do believe housing prices have got ahead of the fundamentals. 30 years ago we were paying 3-4 times the median income for the median Sydney house, now we’re pay closer to 9 times. How is that sustainable over the long term, especially when the boomers want to cash in their investment properties when they retire in 5 years? However, I can’t see a crash in nominal prices happening, a slow grinding decline over the course of a decade is more likely.
Posted by .(JavaScript must be enabled to view this email address) on 06/06 at 05:08 PM
David, I have been very careful not to deny that there has been a boom in both dwelling investment and house prices. I have been making only two very modest claims: (1) housing is only a small part of the saving-investment imbalance that determines the current account deficit and is in reasonable cyclical bounds; and (2) economic growth (especially income growth) is just as likely to jointly explain house prices and consumption as vice versa. This is very different from the impression Gittins is trying to convey.
John: would agree that there are issues around the deflators, but I think the arguments for looking at this in real terms are stronger. The deterioration of the net income deficit is largely attributable to the very high profitability of foreign-owned Australian equity capital. I guess you could argue that the level of retained earnings might have fallen (haven’t checked), which in turn might imply a weak profits outlook, but profits are certainly not the problem at the moment.
Posted by skirchner on 06/06 at 06:38 PM
(1) You wrote: “The current account deficit is attributable to an investment boom in which housing has played a relatively small part”. In fact, the data shows that dwelling investment has grown faster than other forms of investment over the course of the housing boom and the expansion of the CAD.
(2) Very low interest rates, easy credit, and Australians natural inclination to invest in property, explains the increase in house prices. Tax breaks like negative gearing and the halving of CGT rate simply added fuel to the fire, but the boom would have still happened. Tax systems in other countries aren’t as generous to property investors, but they still had real estate booms.
Posted by .(JavaScript must be enabled to view this email address) on 06/06 at 08:52 PM
David:
“Very low interest rates, easy credit, and Australians natural inclination to invest in property, explains the increase in house prices”.
I would call this the fuel. Easy credit conditions were caused by the RBA’s lax policy.
“Tax breaks like negative gearing and the halving of CGT rate simply added fuel to the fire, but the boom would have still happened”.
This is the funnel used to direct the effect of easy credit and RBA’s bad policies. Let’s not forget, that we had negative gearing forever, but the sector has not always boomed. Tax policy may
direct the boom to the most tax efficient haven. It doesn’t cause booms without a credit expansion,
I think, when looking at boom and busts one thing is always clear. If you want to see what caused the boom and then the bust always follow the money trail. In other words look for the credit expansion. This has occurred from the Tulip
mania, the South Sea bubble to the tech crash.
Posted by .(JavaScript must be enabled to view this email address) on 06/08 at 03:28 PM
“Let’s not forget, that we had negative gearing forever, but the sector has not always boomed. Tax policy may direct the boom to the most tax efficient haven. It doesn’t cause booms without a credit expansion”
I agree completely. That was the point I was trying to make. The real driver is the low interest rates introduced by central banks around the world in an attempt to engineer a soft-landing after the shocks of the tech wreck and 9/11.
Posted by .(JavaScript must be enabled to view this email address) on 06/08 at 03:59 PM
Stephen, Gittins is banging on about the housing boom again today. I’m sure you agree with every word (not):
http://smh.com.au/news/Opinion/Beware-the-bang-if-the-property-bubble-bursts/2005/06/14/1118645806260.html
Posted by .(JavaScript must be enabled to view this email address) on 06/15 at 10:23 AM