Housing Bubbles And Market Sense
Hugh Pavletich FDIA
Friday January 9, 2009
Recently - Professor Paul Krugman
of Princeton University wrote within a brief New York Times article Bubble Blindness
“The big mystery is the (economists) failure to see the housing bubble. The data screamed “bubble”even in real time. And
there was no excuse for thinking that such things don’t happen in efficient markets, not with the dead body of the
dot-com bubble still warm.”
“So why did so few people point out the obvious? One answer may be that macroeconomists, in particular, didn’t want to
go up against bubble denier Alan Greenspan, which might get them blackballed from Jackson Hole and all that. But
overall, the failure to see the most obvious bubble in my lifetime remains a puzzle.”
This inexcusable failure is not a “puzzle” Professor Krugman.
Within a recent Boston Globe article Paradigm Lost
, Drake Bennett wrote –
“But academic economists are (experts). And with very few exceptions, they did not predict the crisis either. Some
warned of a housing bubble, but almost none foresaw the resulting cataclysm. An entire field of experts, dedicated to
studying the behavior of markets, failed to anticipate what may prove to be the biggest economic collapse of our
lifetime. And now that we are in the middle (or is it the start?) of it, many admit they are not sure how to prevent
things from getting worse.”
“As a result, there’s a sense among some economists that, as they try to figure out how to fix the economy, they are
also trying to fix their own profession”.
By no means however, did the economics profession have a monopoly on “housing bubble blindness”.
Michael Lewis, author of Liars Poker
wrote recently within a Portfolio com article The End of Wall Streets Boom
- most within the finance and investment sector, appeared to be oblivious to the existence of housing bubbles and even
less aware of their consequences. As Michael Lewis explains – during late 2004 - only a few, such as Steve Eisman, Ivy
Zelman and Meredith Whitney understood that the core problems were the inflating housing bubbles –
“At the end of 2004, Eisman, Moses and Daniel shared a sense that unhealthy things were going on in the housing market.
Lots of firms were lending money to people who shouldn’t have been borrowing it. They thought Alan Greenspan’s decision
after the internet bust to lower interest rates to 1% was a travesty that would lead to some terrible day of reckoning.
Neither of these insights was entirely original. Ivy Zelman, at the time the housing market analysis at Credit Suisse,
had seen the bubble forming very early on. There is a simple measure of sanity in housing prices, the ratio of median
house price to income. Historically, it runs around 3 to 1, by late 2004, it had risen nationally to 4 to 1.’All these
people were saying it was nearly as high as some other countries’ Zelman says ‘ But the problem wasn’t just that it was
4 to 1. In Los Angeles it was 10 to 1 and in Miami it was 8.5 to 1. And then you coupled that with the buyers. They
weren’t real buyers. They were speculators’. Zelman alienated clients with her pessimism, but she couldn’t pretend
everything was good. ‘It wasn’t that hard in hindsight to see it’she says ‘It was very hard to know when it would stop’.
Zelman spoke occasionally with Eisman and always left these conversations feeling better about her views and worse about
the world. ‘You needed the occasional assurance that you weren’t nuts’ she says. She wasn’t nuts. The world was.”
Funds Manager John Paulson
of Paulson & Co also read the situation accurately and took enormous market positions and boosted his funds by $US15 billion as the
markets teetered in 2007.
It was during mid 2004 the writer of this article (Performance Urban Planning
) became concerned again (I had had some political success in dealing with this issue in the mid 1990’s in New Zealand)
- initiated and teamed up with Wendell Cox of Demographia
to generate the Annual Demographia International Housing Affordability Surveys, based on the Median Multiples, of the
major urban markets of the English speaking world (2005 1st Edition; 2006 2nd Edition
; 2007 3rd Edition
; 2008 4th Edition
; 2009 5th Edition release date Monday January 26, 2009).
The political, industry and professional responses to these Annual Surveys in the early stages could be diplomatically
described as “cool” – and the “thaw” only began when the New Zealand Planning Institute strongly supported
the Annual Demographia Surveys in early 2007 – and I responded
Globally - the other key professions besides “economics” involved with urban economics –being property appraisal /
valuation and urban planning – have had surprisingly little to say publicly with respect to these crashing global
housing bubbles, which in turn almost collapsed the global financial system. Their “sorry performance” during these
events needs to be urgently examined by leaders within these professions, political authorities and the wider media as
Within a recent Forbes article Alan Greenspan, ''Savant Idiot''
, Michael Thomas harshly assesses the performance of the former Chairman of the US Federal Reserve, Dr Alan Greenspan –
who with the current Chairman Dr Ben Bernanke (refer Bernanke: There's No Housing Bubble to Go Bust - Washington Post
), appears to have been equally oblivious to the existence of the current global housing bubbles.
This explains why they have been panicked in to “splash economics” – without even beginning to articulate the urgent
need to deal with the structural issues that created the problems in specific urban markets at the local level and the
regulatory and disclosure problems at the national level.
Within his Greenspan article - Michael Thomas - in speaking of what a sound tertiary education should be all about,
quotes John Alexander Smith, Professor of Moral Philosophy at Oxford University message to new students during the early
years of the 20th Century –
“Gentlemen –you are now about to embark on a course of studies that will form a noble adventure…..let me make this clear
to you…nothing that you will learn in the course of your studies will be of the slightest possible use to you in
afterlife – save only this – that if you work hard and intelligently, you should be able to detect when a man is talking
rot, and that, in my view, is the main, if not the sole purpose of education.”
Yet – seasoned long term property market developers and investors (not the “bubble bunnie” variety) were well aware of
the housing bubbles – and indeed – many non property people with common sense and market sense, knew well that “there
was something seriously wrong” with the inflated bubble values.
Most successful property developers and investors have no formal tertiary qualifications in property studies, planning
or economics. Generally – they are “educated”with practical experience in other fields – where they are constantly
exposed to “risk management” to refine these skills, prior to moving in to the property field. The products of the
tertiary institutions are generally employed by these people for clerical type duties – as they more often than not lack
the practical training, entrepreneurial aptitude and will to be wealth creators.
An excellent brief article Perhaps Economists Should Be Picking Vegetables
by Efrain Rojas, outlines the story of his poor parents, who were smart enough to avoid the bubble prices of California
- only recently purchasing two houses there with no mortgages. Mr Rojas states –
“It was abundantly clear to them that the housing market was insane and due for a catastrophic collapse, based upon the
anecdotal evidence they saw around them i.e. half million dollar homes in places where people were lucky to make $10/hr.
If you were an economist and did not see this coming, you should seriously reconsider the value of your education and
maybe do something with a tangible value to society, like picking vegetables”.
The question that needs to be asked is – why have Mr and Mrs Rojas (largely un schooled farm laborers of Southern
California) more “market sense” than Dr Alan Greenspan, Dr Ben Bernanke and the vast majority of “schooled” economists,
urban planners and property appraisers / valuers?
Have the standards at many social science tertiary institutions slipped to the extent that they are essentially “rot
factories” today, churning out people disabled with degrees, incapable of adding value to society?
The major problems with respect to the training of economists have been known for at least the past two decades, as
outlined within Mark Skousens article The Perseverance of Paul Samuelson
and Alan Ebensteins article The Poverty of Samuelson's Economics
. Ebenstein states –
“There is in academic economic theory a growing unease, an unease that the entire approach of the field may be in error.
The unease is reflected in the growing criticism of the prevailing method of ‘doing’ academic economics – the great
emphasis placed on complex and difficult formulas to express economic activity.”
“Paul Samuelson is still perhaps the pre-eminent representative of the contemporary approach in academic economic
theory. Is Samuelson’s mathematical method of presenting economic theory of value, or should it be placed in the trash
heap of history?”
“There is a difference between intelligence and relevance of intellectual academic output. The most brilliant
individuals – individuals whose intelligence far outstrips the rest of us – can be completely wrong in their factual
appraisals of the world………In short, Samuelson is a great mathematician, but he knows little about economic activity. He
does not understand how the market works”.
The 5th through 11th Editions of Samuelson’s hugely influential standard textbook “Economics 101” incorporated a graph
showing that economic growth in the Soviet Union was catching up on the United States. The 1988 12th Edition provided a
table declaring that between 1928 and 1983, the Soviet Union had grown at a remarkable 4.9% annual growth rate,
illustrating that GDP per capita would soon surpass that of the United States.
The Soviet Union and communism collapsed within 12 months. It was subsequently learnt that the Soviet Union’s GDP was
smaller than that of the Netherlands.
Just another serious Samuelson blunder – one that should have sent shock waves through the profession of economics 20
We should therefore not be surprised that the finance sector is currently “agonizing” over the flaws of the Value at
Risk Models, as outlined within RISK Mismanagement - What Led to the Financial Meltdown - NYTimes.com
As these current unnecessary global housing bubbles are in the long and destructive process of wiping out something in
the order of $US100 trillion to $US200 trillion of bubble asset values globally
(the equivalent of 2 to 4 times Annual Gross World Product), it will be interesting to observe whether the economics,
planning and property appraisal / valuation professions, have the internal capacity to make the necessary changes – or -
have it forced on them, by public and private employers increasingly recognizing that there is little value in many of
the current crop of courses.
What seems certain is that people with valueless degrees and without the capacity to “add value”(in the widest sense of
the term) both within the public and private sector, will no longer be employable within their chosen fields. It would
appear that the United States (and other countries too) can look forward to growing numbers of vegetable pickers with
soft social science degrees.
National / State Governments must with urgency - pragmatically develop and make the necessary changes to put in place a
“performance based relationship” to suit local conditions with Local Government, as outlined within the writers paper Getting performance urban planning in place
, to ensure that the current structural impediments to the provision of affordable housing are dealt with as soon as
Professor Edward Glaeser
of Harvard University puts forward most constructive suggestions within a recent article Two Ways to Revamp U.S. Housing Policy - Economix Blog - NYTimes.com
. Professor Glaeser states –
“The only path towards widespread affordability is to build more, which requires reducing NIMBYist regulations.
Localities tend to put their own interests ahead of the national interest by restricting building in order to keep
prices up and reduce congestion. The federal government should increase its efforts to counter this tendency. After all,
stopping building in one area just leads to building and more congestion somewhere else. In other settings, when groups
try to increase prices by restricting supply, the government sends in the antitrust police.”
The simple reality is that peoples housing should not exceed three times their annual household income. For urban
markets housing to be at or below a sustainable three times annual income – new supply must be allowed on the fringes at
2.5 times the median annual household income of a particular urban market.
There will be no economic recovery until the residential construction sector is allowed to provide new housing at or
below three times household income – allowing the finance sector to participate with confidence as well.