Monday, November 14, 2011

I'm Sorry, What?

Property buying losing appeal even as prices retreat

From the age. Time for a little Economics 102. The thing that caught my eye with this article was the 'even as' line.

Here we see the complacency or naivete of free press in creating asset bubbles. There are few institutions that employ economists. Research companies, Banks, Universities, Government Departments and one would hope, newspapers.

This headline itself was as I understand journalism, probably the product of an editor and not say, the journalist/economist etc that wrote the article. Because, OF COURSE you wouldn't buy property now, if you expect it to get cheaper.

Rationally, supply and demand curves sustain an equilibrium, where as the price of property goes down, demand increases, and as it goes up demand decreases.

The article itself draws the same conclusion on price expectations that Keynes did during the great depression moving on from Classical Economics (hence economics 102). Quite right, quite right. Only under duress would anybody buy today what they expect to be on sale tomorrow.

The article is still dissappointing though. It keeps referring to 'population growth' as a contributing factor to propping up property prices. I would be surprised if any actual analysis ever actually turned up any correlation between population size and house prices ever. Even somewhere like China where you see huge migrations from country to city, you have a cheap workforce living in shipping containers while they construct high-end apartment blocks that are bought and sold, despite nobody ever living in them.

There is alas a complete and utter truth to Michael Hudson's assertion that a 'house is worth as much as banks are willing to lend for it.'

I don't think the RBA's rate cuts though will upset the downward momentum of Australian property prices this time.

House prices are strange, they sustain their own momentum. I have a half baked theory using economics lingo, that houses are an example of good where the utility curve can't really apply. A utility curve generally maps the relationship between utility (satisfaction, happiness it is both and neither of these things) and price. But with houses the utility is often derived from the price. That is it is a speculative good. In good times the more you pay for it, the better you feel.

Imagine, if there was only one piece of property in the world. The previous owner bought it for $10,000 last year. What most people in a more diluted form do, is buy that has for $100,000 and note it's price has increased 1000%!!! in just one year, and feel enormously satisfied by their wise purchase decision.

Hopefully the ridiculousness of this investment strategy in the above example is transparent. It is less so when dealing with large numbers of buyers and sellers and properties. But basically, the houses get no more useful, bring in no more 'real' income (that is rent) but people pay ever increasing amounts for them.


Because they expect them to be sold at even higher prices.

This can continue almost indefinitely (although the money has to eventually come from somewhere) because it is a self fulfilling prophecy. You and I could become millionaires (on paper) with the willing participation of a lending institution by simply agreeing to buy the same pen off eachother at ever escalating prices.

What then, when the self fulfilling prophecy stops being fulfilled, it just becomes another self fulfilling prophecy, albeit one with a more concrete bottom than the others ceiling.

People will not buy because they expect prices to go down. Owners on the otherhand will try and rush their properties onto the market 'before it's too late', creating supply demand imbalances that will push prices down. This will cause panic amongst those holding hot-potato-mortgages and reluctance in those that would buy in.

The prices will drop, they will drop at a rate of acceleration akin to gravity and people will get hurt.

Sadly it will be many people who followed the advice of those loved ones that wanted them to never feel such hurt financially.

This is why you shouldn't believe everything you read (in a Newspaper).

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