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Stunning indictment of 'Bubbles' Greenspan in WSJ Op-Ed

by Jerome a Paris Wed Mar 21st, 2007 at 09:35:23 AM EST

The fact that Congress is now holding hearings on the fallout from the second major asset price bubble in the last decade should prompt some broader questions. For example, what role did the Fed's loose monetary policy from 2002-2004 play in fueling the housing bubble? Should the Federal Reserve reexamine its policy of ignoring asset bubbles? Asset bubbles are harmful for the same reason high inflation is: Both create misleading price signals that lead to a misallocation of economic resources and sow the seeds for an inevitable bust. The unwinding of today's housing bubble is not merely an academic question; it is likely to inflict real hardship on millions of Americans. To reduce the risk of a similar outcome in the future, it is important that policy makers, economists, and policy analysts properly diagnose the root causes of the current housing bust, not just its symptoms.

The above paragraph is from an article simply titled Mortgage Meltdown in the Wall Street Journal Op-Ed pages. It's a stunning indictment of the monetary policy of the Fed over the Bush years.


It's been a while since I did a 'Bubbles' Greenspan diary (see some samples at the end of the diary). In the past year, the bubble more or less stopped growing, and we were in that "twilight zone" moment where it's too late to prevent the crash, but it hasn't actually happened (or, in the cartoons, the moment when the coyote is already over the cliff, but has not yet realised that there is ground under his feet anymore, and hasn't started dropping down). As the slow motion meltdown of the subprime mortgage industry continues apace now, we are clearly entering a new phase, where the consequences of the recklessness of the past few years are becoming increasingly visible and dire.

And people on the markets are beginning to say a bit louder what some have been saying for years now, i.e. that a nasty bubble was created by Greenspan's Fed, that it has made a number of dangerous investments possible, and that these are beginning to look like what they really were, i.e. reckless bets on ever increasing asset prices.

Federal Reserve officials and most economists believe the problems in the subprime mortgage market will remain relatively contained, but there is compelling evidence that the failure of subprime loans may be the start of a painful unwinding of a housing bubble that was fueled by easy money and loose lending practices.

Whether measured in absolute terms or time-tested metrics such as price-to-income or price-to-rent ratios, the rise in U.S. home prices during the past six years is unprecedented. What's more, not only has mortgage debt doubled during this time, but loans have been offered on imprudent terms (for instance, a no down payment, no income verification loan to a borrower with a checkered credit history).

Of course, loose lending practises were themselves generated by easy money: as asset prices went up, they seemed to be one way bets, and downside protection was increasingly seen as a useless protection and an unnecessary cost. With cheap liquidity sloshing around, returns on safe investments also went down, thus forcing investors and banks to take increasingly risky positions to earn decent returns.

Far from being limited to the subprime market, the data show these risky loan features have become widespread. According to Credit Suisse, the number of no or low documentation loans -- so-called "liar loans" -- has increased to 49% last year from 18% of purchase loans in 2001, a nearly three-fold increase. The investment bank also found that borrowers put up less than a 5% down payment in 46% of all home purchases last year. Inside Mortgage Finance estimates that nontraditional mortgages -- mostly interest-only and pay-option ARMs that allow the borrower to defer paying back principal or even increase the loan balance each month -- which barely existed five years ago, grew to close to a third of all mortgages last year.
This is reckless lending on a GRAND scale. Between a third and half of the market last year was made up of potentially dubious loans. Of course, optimists will cling to that "potentially". Thye shouldn't.

Foreclosure losses as a share of the economy will be small and most homeowners have a comfortable amount of equity in their homes. In fact, about one-third of homeowners have no mortgage and own their homes outright, but they are not the reason home prices have been driven to the stratosphere. Home prices -- like all prices -- are set at the margin.

It was the marginal buyer, particularly the subprime borrower and housing speculator, who drove prices higher. The easing of lending terms increased the demand for homes, and since the supply of homes is relatively fixed (or inelastic), this increase in demand quickly translated into higher prices. As the loose lending practices are inevitably reversed -- and there is a wide chasm between current lending practices and prudent lending terms -- fewer people will be able to afford to buy a house, which will reduce demand and push home prices lower.

Take out all the unsustainable, artificial demand, and today's prices look totally absurd. And the blowback will be just as dizzying as the climb, for the same reason:

It's not the size of foreclosure losses as a share of the economy that matters, it is the effect those losses have on the availability of credit. When banks (and investors in mortgage-backed securities) begin suffering losses, they inevitably pull back. This is why so many subprime companies have gone bankrupt virtually overnight; investors balked at buying subprime loans except at a steep discount, which produced immediate losses. In effect, their ability to profitably finance new loans was eliminated.

The whole market was one big pyramid scheme, with increasing leverage. With prices going up, banks were happy to lend to people with little money and no ability to pay back capital (counting on capital appreciation and a quick resale); the financial markets were happy to lend money to these lenders. The construction sector enjoyed a boom, the financial (and real estate) intermediaries made a lot of money, and consumers could use their money to buy more stuff in addition to buying houses. Asset price increases - which the process generated while it lasted - paid for it all.

Suddenly, higher repayment obligations (after the few easy early years) are kicking in, borrowers cannot pay - and cannot spend either, and their lenders are having trouble paying back their financiers. Prices are not going up anymore, and the whole cycle is no longer fed. Banks pull back finance, no new transactions happen, and the whole cycle collapses. Construction companies sit on unsold inventory; real estate agents see the number of transactions dry up; and the financial markets are left with huge assets of dubious value.

The twist is that nobody knows who actually holds these assets, as they have been sold, repackaged, re sold, transferred and spread around all over the financial universe. It will take a bit of time to unwind the whole thing. Early losses and difficulties will be kept silent and absorbed by institutions that have built up comfortable cushions in the boom years, but eventually some of it will come out - in probably unexpected places.

Which brings us back to our initial quote:

Asset bubbles are harmful for the same reason high inflation is: Both create misleading price signals that lead to a misallocation of economic resources and sow the seeds for an inevitable bust. The unwinding of today's housing bubble is not merely an academic question; it is likely to inflict real hardship on millions of Americans. To reduce the risk of a similar outcome in the future, it is important that policy makers, economists, and policy analysts properly diagnose the root causes of the current housing bust, not just its symptoms.

The root causes have been the combination of (i) a reckless administration spending like a drunken sailor (whether in the sinkhole of Iraq or in other corporate pork) and passing the cost on to future generation, (ii) an enabling policy by 'Bubbles' Greenspan's Fed, which unashamedly left the credit spigot open for a very long time (with ultra low 1% Fed rates) while saying nothing against the Bush deficits, (iii)complicit financial markets all too happy to gorge on the bonanza without any restriction, and (iv) clueless or complicit pundits cheering on the "economic miracle" and scolding those that did not participate (like Germany) for being stagnant and those that pointed at the bubble for being grumpy bores. Even the mild words of Jean-Claude Trichet, who recently restated the long standing policy of the European Central Bank (and before it, of the German Bundesbank) of worrying about broad money inflation and asset bubbles as well as about 'traditional' inflation, were mocked relentelssly in the financial press.

But, of course, assset inflation IS inflation, and the fact that it did not create consumer price inflation (because wages were kept down thanks to Chinese competition) did not mean it was not just as bad.

The unprecedented (and mostly artificial) 'prosperity' of the past few years has been captured exclusively by the very rich and their bankers. The task of the next few years will be to make sure that they also bear the brunt of the crash, and that they are kept away from the steering wheel for a long, long time. In a fair world, the poor and middle classes would not suffer any hardship, but we know that this will not be the case; the least we can do is to make sure that blame is properly apportioned and that the looting by the haves and the have mores is documented, publicised and seen for what it is so that at least it does not happen again. Because you can be sure that they will try again otherwise, over the dead body of the "lazy" middle classes.

Earlier Bubbles Greenspan diaries:
Greenspan's bubbles - more graphs
Greenspan's Bubbles: 'Too late to escape the consequences'
Debt to China - it's even worse than Krugman says
Bubbles Greenspan gets TWO blowjobs in the FT
Bernanke, inflation, China and the housing bubble
If Greenspan Was The Maestro, We're All Doomed by Drew J Jones
Bernanke faces tough year as he replaces 'Bubbles' Greenspan
That, which cannot go on forever, won't
WSJ on Bush economy: when in hole, stop digging

Display:
http://www.dailykos.com/story/2007/3/21/92519/0954

In the long run, we're all dead. John Maynard Keynes
by Jerome a Paris (etg@eurotrib.com) on Wed Mar 21st, 2007 at 09:58:24 AM EST
What are the implications for other countries with housing bubbles, such as Spain and the UK?

"It's the statue, man, The Statue."
by Migeru (migeru at eurotrib dot com) on Wed Mar 21st, 2007 at 10:34:41 AM EST
How many lenders have international exposure?

And I'm still not clear about what happens to the debts if the lender goes under. If the debt isn't bought - and if it's high risk, low quality debt there may not be much interest in buying it - does that mean that the mortgage effectively lapses and title passes to the inhabitant?

Or does the title end up in legal limbo?

by ThatBritGuy (thatbritguy (at) googlemail.com) on Wed Mar 21st, 2007 at 10:43:43 AM EST
[ Parent ]
How many lenders have international exposure?

Isn't that the point of this bit?

The twist is that nobody knows who actually holds these assets, as they have been sold, repackaged, re sold, transferred and spread around all over the financial universe. It will take a bit of time to unwind the whole thing. Early losses and difficulties will be kept silent and absorbed by institutions that have built up comfortable cushions in the boom years, but eventually some of it will come out - in probably unexpected places.

I'm asking more about 1) qualitative features that may be common to the other countries with bubbles, and signs to watch for; 2) whether one bubble popping won't prompt smart players in other bubbles to bail out, seeding the collapse of their own bubble; 3) whether lenders in other bubbles won't become wary and more conservative, causing credit to dry up and precipitating the end of the bubble.

By the way, I'm seeing all these ads in London trying to convince people to put their savings into "Property ISAs". I don't remember similar ads last year. Is that the next (last?) layer of the Ponzi scheme?

As for your other question, a risky mortgage is still an asset and it won't simply evaporate - it will go to some creditor or other of the lender that went belly up.

"It's the statue, man, The Statue."

by Migeru (migeru at eurotrib dot com) on Wed Mar 21st, 2007 at 10:57:36 AM EST
[ Parent ]
The Rule of Thumb: look at the monthly costs of purchase and rent of equivalent properties.  These should be roughly in line.  If not then something is out-of-whack.

She believed in nothing; only her skepticism kept her from being an atheist. -- Jean-Paul Sartre
by ATinNM on Wed Mar 21st, 2007 at 11:47:26 AM EST
[ Parent ]
We'd have to pay about 50% more for a mortgage than what we pay in rent where we live.

"It's the statue, man, The Statue."
by Migeru (migeru at eurotrib dot com) on Wed Mar 21st, 2007 at 12:30:28 PM EST
[ Parent ]
Holy Fiscal Insanity, Batman.

Neighbors toot a lot coke, eh?

She believed in nothing; only her skepticism kept her from being an atheist. -- Jean-Paul Sartre

by ATinNM on Wed Mar 21st, 2007 at 03:37:29 PM EST
[ Parent ]
We'd have to pay like 2-3 (or more) times as much where we live.
by R343L (reverse qw/ten.cinos@l343r/) on Wed Mar 21st, 2007 at 08:12:58 PM EST
[ Parent ]
Is that even worth it?

"It's the statue, man, The Statue."
by Migeru (migeru at eurotrib dot com) on Thu Mar 22nd, 2007 at 04:50:35 AM EST
[ Parent ]
No, I don't think so.
by R343L (reverse qw/ten.cinos@l343r/) on Thu Mar 22nd, 2007 at 03:45:37 PM EST
[ Parent ]
It's just too simplistic (though it's how I have always looked at speculative real estate and hence have never bought any!)

Rents dont seem to cover the cost of ownership in places like California where there has been steady population growth pressure.  And I suspect rents way over compensate in places like Detroit where you have trouble finding a buyer.  In growth markets there always seems to be pressure to get in before it goes up leading to rents being below costs.

by HiD on Thu Mar 22nd, 2007 at 06:12:02 AM EST
[ Parent ]
What happens to the debt when the lender goes under?

Depends on the bankruptcy laws of the country.  In the US a court will parcel out the assets of the company based on the results of a lawyer-heavy pie fight between the debt holders and stockholders.  In general, the holders of debt of the corporation are preferred over the stockholders.

A mortgage is an asset of the lender.

There is a very large global market for mortgage backed securities.  Somebody, somewhere, will buy the thing even if the mortgage is being paid off in rubber bananas.  ;-)  

[Can] the mortgage effectively lapse and title passes to the inhabitant?

No.  The inhabitant has only a percentage of ownership -- the equity -- of the property.  Getting that percentage and/or continuing to inhabit the property  depends on the laws of the country and the mortgage contract.  

In general, the inhabitant has the strengths: (1) they are in possession, (2) whoever ends up with the mortgage would rather have the stream of payments rather than the property.  There are specfic actions the inhabitant can take to help ensure continue 'ownership' but these are country specific.  

Or does the title end up in legal limbo?

The title is an asset of the corporation and will flow to the entity granted the mortgage -- in the US, at least.

She believed in nothing; only her skepticism kept her from being an atheist. -- Jean-Paul Sartre

by ATinNM on Wed Mar 21st, 2007 at 11:24:15 AM EST
[ Parent ]

Or does the title end up in legal limbo?

It does not in French law. Whether the lender is bankrupt or not does not relieve the mortgage. The good is locked up, and it will go to whoever gets the remains of the original lender... (probably unpaid creditors in the end of a couple of year bankruptcy procedure, or the State which is priority creditor if there are unpaid taxes)

The delay does mean that foreclosed goods could remain empty for several years before going back to market. During all this time, ultimate debt holder still will not know the amount of their loss. They certainly will not receive any interest. And the original inhabitants will be left in a tent under a railway bridge...

Pierre

by Pierre on Wed Mar 21st, 2007 at 11:39:01 AM EST
[ Parent ]
And the original inhabitants will be left in a tent under a railway bridge...

On the basis of what? If they kept making their payments nobody has a leg to stand on to evict them, especially not because the lender went bust.

"It's the statue, man, The Statue."

by Migeru (migeru at eurotrib dot com) on Wed Mar 21st, 2007 at 11:42:15 AM EST
[ Parent ]
Those lenders that went bust are precisely those who concentrate that 2% of american households who can't repay. They have some tens of % of their due interest which don't cash in. And they pooled all the mortgaged in a big basket, then resold it on the market (titrisation in french). So that gives us a corporate bond issued by the lending company, which is one week late on a coupon payment, and gets one week more delay every month... Enough to trigger most Credit Default Swap contracts (= bad, bad, bad).

The lender will file foreclosure requests like crazy, even under chapt. 11 protection (the judge would even require it to do so, by law !). They will keep a skeleton crew to foreclose houses by the day there is a delay in payment, "in the best interest of their creditors" (who will end up with shares in a portfolio of many many small goods of unknown condition, something very hard to value and manage).

Pierre

by Pierre on Wed Mar 21st, 2007 at 11:52:17 AM EST
[ Parent ]
You can be evicted (foreclosed on) even if you are making your payments on time? Because the lender is going under? That seems weird. Or maybe I'm confused...
by R343L (reverse qw/ten.cinos@l343r/) on Wed Mar 21st, 2007 at 08:16:43 PM EST
[ Parent ]
No. You can't be evicted when you pay on schedule (at least in a democracy...). But when your lender is on life support, it will evict you for a single day of delay because of sudden risk aversion and need for cash, whereas in normal times delays up to a week once in a while are no big deal and just incur a few % penalty.

Pierre
by Pierre on Thu Mar 22nd, 2007 at 02:34:59 AM EST
[ Parent ]
performing loans get sold off to other players.  It's happening now as the sub prime players fight to keep their heads above water and thereby not lose all their equity.
by HiD on Thu Mar 22nd, 2007 at 06:14:44 AM EST
[ Parent ]
You are not confused, as it is a weird scenario, and probably unlikely.

The ebb and flow of bankruptcy is moderated by judges who sit between the contesting parties. Nothing is done until the judge allows it. The first action is always to put some entity in charge to continue the status quo... taking over the process of collecting payments while the 'players' sort out their positions.

The average guy who doesn't want to screw up his future credit (the vast majority of people) will continue to pay on time and will continue to live in the house that they have a title to.

There will be some percentage of marginal persons who can't pay, but who will go to the bank and try to work something out. They will get a degree leniency, not much in the early stages but more as the banks situation gets too grim (too many unsold houses on hand or in jeopardy of bankruptcy.) That person will get to stay in 'ownership' of their house.

There will be some percentage of persons with no foreseeable way of keeping the house who decide to walk away. It may be tied to a job in another city they have to move to, with the knowledge that they can't sell the house in a reasonable amount of time or at a price equal to or greater than their mortgage, who can't make double payments, and who just walk away, damn the consequences.

But recent crashes show (1980s) that the number of people who don't make payments and actually get thrown out on their ears by some entity because of another entity's bankruptcy are pretty small. The banks keep trying to work with people who can make any payment at all.

There is a final likely scenario, which is that the bank in charge is allowed to sell the house to someone who has the cash or credit to buy it at a firesale price. These number of these sales are moderated by several factors; first, the sales have to get approval by the bankruptcy judge, second, the banks local interest is to not crash the values in their neighborhood since they have portfolios that will look bad if too many of their good clients can't sell their houses - a dwindling spiral, but dampened.

Never underestimate their intelligence, always underestimate their knowledge.

Frank Delaney ~ Ireland

by siegestate (siegestate or beyondwarispeace.com) on Thu Mar 22nd, 2007 at 04:16:05 AM EST
[ Parent ]
But if they stop making payments, and millions of others stop making payments at the same time, do creditors really have the resources to evict everyone - and to keep them evicted while the houses decay?

This might sound somewhat apocalyptic. But if what's happening in Detroit spreads across the rest of the US, the immediate social picture is going to become a lot more important than the financial fineprint.

by ThatBritGuy (thatbritguy (at) googlemail.com) on Wed Mar 21st, 2007 at 11:57:31 AM EST
[ Parent ]
Actually they do.  Local police and all that.  Then the properties are put on the market for whatever they can bring.  

Remember, the secondary institutions also have their debts to pay and they will be forced into bankruptcy if they cannot meet thier obligations.  When that happens you get a ripple affect as secondary and tertiary companies going belly-up.  And then the brown stuff really hits the windmill.

She believed in nothing; only her skepticism kept her from being an atheist. -- Jean-Paul Sartre

by ATinNM on Wed Mar 21st, 2007 at 12:21:37 PM EST
[ Parent ]
You can see that in action in Roger and Me. Considering that's a movie from 1989, I guess that makes 20 solid years of very, very tough times around Detroit [one only has to see the Flint school shooting segment in Bowling for Columbine to see things were just as bad 10 years ago].

"It's the statue, man, The Statue."
by Migeru (migeru at eurotrib dot com) on Wed Mar 21st, 2007 at 12:28:25 PM EST
[ Parent ]
Also, other art reference, may be more to the point of a nationwide problem, may be John Steinbeck, Of Mice and Men, and The Grapes of Wrath.

He really describes a world of migrant homeless people who walk streets of empty, locked houses. Of hungry people who watch the government burn crops to eliminate over production and maintain grain prices after they have collapsed because nobody could afford to buy bread.

Pierre

by Pierre on Wed Mar 21st, 2007 at 04:23:59 PM EST
[ Parent ]
That answers one of the questions. Because in the UK we have a fairly complicated situation that requires court orders and bailiffs.

The local police aren't part of the process. So there would be a certain level of inertia in the UK which might not be present in the US.

I suspect the lending network is more closely consolidated and tied to the big-league banks. There are doubtless some micro-lenders, but generally if you take out a mortgage you're dealing with a household name for whom mortgage lending is a significant but not overwhelming income source.

The banks won't fail. They may suffer much lower profitability for a few years, but in the UK they can easily afford that.

I think we may see a 20-30% price drop here, maybe 40-50% if lots of other bad things happen at the same time. That would leave maybe half (rough guess...) of the market with some equity.

Total wipe-out seems much likelier in the US than here. We do have low-cost blighted areas, but we don't really have anywhere like Detroit where everyone is heading for the hills.

by ThatBritGuy (thatbritguy (at) googlemail.com) on Wed Mar 21st, 2007 at 12:36:12 PM EST
[ Parent ]
Our banks will not fail. Have you noticed how much profit the likes of MS, GS, Citi and the others have been making?  They can take pretty big hit in the mortgage area without harming shareholder equity much.

It's the sub prime firms that are toast.  Those guys thought they were on easy street and will have all their equity evaporate.  After their equity is gone, the rest of the loss will belong to investors who have mortgage backed securities in their portfolios because they were greedy for yield.  People forget risk/reward does really mean RISK/reward.  The intermediaries like MS will have to eat a little, but not much.  They have good lawyers and wrote the rules of the game.

Very few homeowners are truly exposed to a wipeout.  Most of us just sat by watching a paper profit make our houses double or triple in value.  If it then peels back, big deal.  The fear is that the debt binge fueled by people that borrowed against their equity to buy fancy cars and European vacations will hit the overall economy and trigger a recession.  That could be, but it is overdue and probably needs to happen to bring the system back to a more stable position.

My guess is all those empty houses will end up occupied by the same people that owned them.  Just as renters which is what they should have been in the first place.

by HiD on Thu Mar 22nd, 2007 at 06:26:40 AM EST
[ Parent ]
I personally would like to see the buy-to-let speculators eat their investments. Leeches.

"It's the statue, man, The Statue."
by Migeru (migeru at eurotrib dot com) on Thu Mar 22nd, 2007 at 06:30:06 AM EST
[ Parent ]
I feel no pain for people who were just trying to grab a quick buck speculating.  I toured my first flipper blow up on sunday.  I can see it from my office.  The debt is now $3.6 million and it's to go on the courthouse steps shortly.  It's an ok house right on the ocean, but waaaaaaaaaaay over valued in my opinion.  Some a-hole bet on the come, over leveraged and will now lose whatever he/she invested in the project along with the ding dong that loaned him/her money.  

I do feel bad for marginal buyers who were conned into buying houses they couldn't really afford at real interest rates.  Those teaser rates to con people out of their down payment or closing cost fees are criminal.  perhaps we should ban any loan to a homeowner without a fixed interest of at least 5 years??
And 100% loans to owner occupied units should only come from govt agencies such that buyers get as much slack as possible to recover from income hiccups.

by HiD on Thu Mar 22nd, 2007 at 06:47:58 AM EST
[ Parent ]
the debt binge fueled by people that borrowed against their equity to buy fancy cars and European vacations

Now we know how Europe manages to survive - debt-fuelled American tourism! :-)

by afew (afew(a in a circle)eurotrib_dot_com) on Thu Mar 22nd, 2007 at 07:41:54 AM EST
[ Parent ]
what 3 weeks in Italy last year cost us.  And we stayed in 3 star or less hotels. Ouch.

but we didn't borrow to do it.  My BIL on the other hand has 3 vehicles, a travel trailer, motorcycles, every tool imaginable (and only magnesium cases to save weight).  How does he do it?  He was in debt up to his eyeballs as the cheezy commercial goes.  Spent virtually all of the $400K his house price ran up.  But at least they sold and didn't get stuck with it.

I see plenty of friends who complain about debt loads driving vehicles that cost $50K.  boo hoo hoo is what I'm thinking behind the smile and the nod.

by HiD on Thu Mar 22nd, 2007 at 07:25:37 PM EST
[ Parent ]
The Atlantic magazine had a "futuristic" article on this about a year ago that had millions of Americans living in trailer parks set up by the government due to bankruptcy and subsequent loss of homes. I don't see that specifically happening, but I have no idea how it will play out either because it's so hard to predict what will happen in an unstable system (and the social aspect in particular as you point out). The middle class isn't going to silently accept what amounts to a refugee camp existence while their homes sit empty. Things will get really ugly if the Chinese start buying up American properties which is a scenario I can see happening as they've got the cash to do it.

you are the media you consume.

by MillMan (millguy at gmail) on Wed Mar 21st, 2007 at 01:24:23 PM EST
[ Parent ]
millions of Americans living in trailer parks set up by the government

Oh, but that's worked so well in New Orleans....

by the stormy present (stormypresent aaaaaaat gmail etc) on Wed Mar 21st, 2007 at 01:48:26 PM EST
[ Parent ]
the housing will just be rented back to the same pool of people that were evicted from it.

The Grapes of Wrath model is wrong.  In that period, the land owners wanted people off their 20 acres so that they could consolidate the land into larger farms where machinery made for higher productivity.  Sorta like the Scottish highland clearances.   These bubble markets are in cities.  There's no upside in simply leaving housing empty vs. renting it.  Ownership may change but that's about it.

by HiD on Thu Mar 22nd, 2007 at 06:41:19 AM EST
[ Parent ]
I believe it is quite bad for several reasons:
  • There are many real estate investment vehicles on the stock market, and they are "globalized" just like everything. The minute they start losing fortunes in the US they will try to salvage their valuation by realizing their profits quickly in those markets that are still overvalued.
  • The MSM are globalized too, and enforce the idea that "real estate is crashing, full stop" just because it is crashing in the US (you know, the global village thing). A large part of the bubbles is in people's psyche. They were buying because the MSM told them it was going up forever. They will stop buying the minute the MSM tells them it is crashing.
  • The impact on consumer spending and the whole US economy will be terrible. Worldwide recession will ensue, possibly civil war and a new Iron Curtain in China. This is never good for real estate.


Pierre
by Pierre on Wed Mar 21st, 2007 at 11:45:45 AM EST
[ Parent ]
I'm not so sure things are quite as globalized as all that.

In Germany at least, there has not been a housing bubble in this decade; prices in most markets have remained steady at best, or steadily deflated. It would be interesting to know what the trends are in other European countries (outside of Spain and the UK).

That said, the global liquidity bubble has manifested itself in Germany in the form of (largely Anglo-Saxon) private equity funds acquiring businesses and commercial real estate. It will be interesting to see whether the bursting of the US home equity bubble will have any knock-on effects in the locust business.

The fact is that what we're experiencing right now is a top-down disaster. -Paul Krugman

by dvx (dvx.clt št gmail dotcom) on Wed Mar 21st, 2007 at 12:33:31 PM EST
[ Parent ]
I think the point is that while the housing bubble is not global, the financial instruments associated with it have become globalised and the large banks (also German ones) are probably all exposed to some extent. If there is a credit crunch, it will be felt in Germany, too. However, because there is not a housing bubble the credit crunch won't have the same effects there as in other places.

The Spanish economy is very dependent on the construction sector and we can have a recession in our hands if things break suddenly.

"It's the statue, man, The Statue."

by Migeru (migeru at eurotrib dot com) on Wed Mar 21st, 2007 at 12:38:18 PM EST
[ Parent ]
Click to see what hides inside bubbles...

by afew (afew(a in a circle)eurotrib_dot_com) on Wed Mar 21st, 2007 at 02:38:16 PM EST
[ Parent ]
Most excellent.

The fact is that what we're experiencing right now is a top-down disaster. -Paul Krugman
by dvx (dvx.clt št gmail dotcom) on Wed Mar 21st, 2007 at 04:44:54 PM EST
[ Parent ]
   * Worldwide recession will ensue, possibly civil war and a new Iron Curtain in China. This is never good for real estate.

Dry Humour of the Year Award.

by afew (afew(a in a circle)eurotrib_dot_com) on Wed Mar 21st, 2007 at 12:37:13 PM EST
[ Parent ]
Asset bubbles are harmful for the same reason high inflation is

But asset bubbles ARE inflation - albeit of asset prices...

"The future is already here -- it's just not very evenly distributed" William Gibson

by ChrisCook (cojockathotmaildotcom) on Wed Mar 21st, 2007 at 11:04:08 AM EST
my point.

In the long run, we're all dead. John Maynard Keynes
by Jerome a Paris (etg@eurotrib.com) on Wed Mar 21st, 2007 at 11:25:31 AM EST
[ Parent ]
Yes, but it's called 'growth' because rich people are doing it.

It's only 'inflation' if it's created by poor people asking for higher wages.

by ThatBritGuy (thatbritguy (at) googlemail.com) on Wed Mar 21st, 2007 at 12:00:22 PM EST
[ Parent ]
again.

In the long run, we're all dead. John Maynard Keynes
by Jerome a Paris (etg@eurotrib.com) on Wed Mar 21st, 2007 at 12:18:26 PM EST
[ Parent ]
And the Fed has to promote growth but discourage inflation...

Currently, "narrow" inflation (CPI) is higher than the Fed wishes (2%), but the Fed can't raise rates to fight it, because of the knock-on effect on variable mortages. Stuck, the Fed. Does Bernanke dream of throttling Greenspan?

by afew (afew(a in a circle)eurotrib_dot_com) on Wed Mar 21st, 2007 at 12:46:14 PM EST
[ Parent ]
Thank you, thank you, thank you for this most reasonable assessment.   I'm looking to buy right now, but the prices are still too high.  Really unmoored.  I so appreciate your mentioning the the income and comparative rent basis for figuring out what purchase price makes sense.  I've been saying this to myself, but have had to endure listening to realtors dribble on about how you can't try to "catch the bottom," and how this is just a great time to buy, blah blah blah.  It is truly a breath of fresh air to read your commentary on this.  I especially endorse your  last comments about how it should be the big-timers who suffer for this.  But, I agree--they won't.  If I end up little better off than I was 20 years ago, plus the twenty years of real personal growth (not inflated numbers on paper), that's okay.  My kids are grown now.  We survived.  (fingers crossed)  I am guardedly optimistic that as long as there is no escalation of the war (which I have to admit I have one eye out for) we'll be alright.
by jjellin on Wed Mar 21st, 2007 at 08:04:04 PM EST
Maestro Greenspan is perfect on anti-predicting market trends.

Despite sitting atop an organization with the largest concentration of financial brainpower since Alexander Hamilton sat there alone, Greenspan respectively found himself optimistic before a recession (1990); pessimistic before a great boom (1996, irrational exuberance); optimistic before another recession (2000); and pessimistic before an even-greater boom (2003). While not a bad central banker by any reasonable reckoning, Greenspan always has been an abysmal forecaster. To wit, here's a passage from the Fed meeting of June 27-28, 2000.

The staff forecast prepared for this meeting continued to suggest that the economic expansion would moderate gradually from its currently elevated pace to a rate around or perhaps a little below the growth of the economy's estimated potential.

Um, the economy went into a full recession only six or so months after that meeting adjourned.

This inverse soothsaying must have been the better part of his job.

His best warning was

Bad loans are made in good times.

So true now. But who was paying attention before?

by das monde on Wed Mar 21st, 2007 at 08:52:13 PM EST
By the way, the competition of diaries on economics here on this blog is astounding. Please excuse me for pimping my own related stuff. We are talking about debt propelled economy, after all.
by das monde on Wed Mar 21st, 2007 at 08:54:42 PM EST
[ Parent ]
stunning ignorance of the dynamic us market.  virtually everyone agrees that this is a profits issue, not a liquidity issue.  14% of subprime borrowers are behind. that means 86% are current and some investors might get burned. we have a full employment economy. hoping this is the death knell for the us economy is laughable. it might come, but not because of sub prime. wishful thinking by those who think capitalism does not work. it is not without costs, but it works; deal with it.
by tomcunn (tomcunn@execpc.com) on Thu Mar 22nd, 2007 at 12:36:00 AM EST
extent your anti-Americanism?   A column questioning American economic policy is a STUNNING INDICTMENT, while a column by the Economist or the FT regarding a hint of criticism of France is , aghast, an ignorant attack by the NeoCons.

And on top of that

It's a stunning indictment of the monetary policy of the Fed over the Bush years.
,,,,didn't Greenspan serve during Bush I, Clinton for 8 years, Bush II.  Like there was no technology bubble in Clinton's years?  

I am submitting your CV to Murdoch and attaching this hyperbole.  I think he'll be calling you in the next few days.

by wchurchill on Thu Mar 22nd, 2007 at 12:59:21 AM EST

didn't Greenspan serve during Bush I, Clinton for 8 years, Bush II.  Like there was no technology bubble in Clinton's years?  

The big difference is that there were shrinking budget deficits (and then surpluses) during the dotcom bubble, and growing incomes for all. But I agree that the "bubbly" side if Greenspan was already visible then. The only difference is that letting the first bubble (dotcom) grow could be attributed to something other than malicious policy (hesitation to burst a party in the middle of obvious technological change), whereas the next bubbles, from 2002 onwards, are part of a clear and consistent policy framework. The runaway budget deficits should never have been supported to the extent they were, and the low, low interest rates were on their face criminal considering the scale of asset price appreciation that took place.

As to France vs US economy point, you'll note that the WSK Op-Ed pages are systematic cheerleaders of the US economic model (and bashers of the French one), so a column in these pages fundamentally criticising that US model is, yes, stunning, whereas a critique of the French model in these same pages is par for the course.

And if you fail to see any criticism of France on a regular basis in what I write, you are not reading carefully.

In the long run, we're all dead. John Maynard Keynes

by Jerome a Paris (etg@eurotrib.com) on Thu Mar 22nd, 2007 at 01:36:30 AM EST
[ Parent ]
huh?
The big difference is that there were shrinking budget deficits (and then surpluses) during the dotcom bubble, and growing incomes for all. But I agree that the "bubbly" side if Greenspan was already visible then. The only difference is that letting the first bubble (dotcom) grow could be attributed to something other than malicious policy (hesitation to burst a party in the middle of obvious technological change), whereas the next bubbles, from 2002 onwards, are part of a clear and consistent policy framework. The runaway budget deficits should never have been supported to the extent they were, and the low, low interest rates were on their face criminal considering the scale of asset price appreciation that took place.
This must be a joke,,,,this comment is really absurd.  

And if you fail to see any criticism of France on a regular basis in what I write, you are not reading carefully.
And maybe you could provide five examples of such criticism.
by wchurchill on Thu Mar 22nd, 2007 at 03:44:55 AM EST
[ Parent ]
Jerome is not a homer.  
by HiD on Thu Mar 22nd, 2007 at 06:35:26 AM EST
[ Parent ]
what's wrong with honesty?  jerome criticizes anything american, and defends anythhig french.  c'est ca!
by wchurchill on Thu Mar 22nd, 2007 at 06:53:16 AM EST
[ Parent ]
nope. far far to Faux News oversimplified.  

he points out the hypocrisy of the American and British financial press and their selective use of data to fit pre-conceived notions/political agenda.  He also criticizes the French govt where he disagrees with them.
He's far more balanced than the WSJ or CNBC clones.

by HiD on Thu Mar 22nd, 2007 at 08:41:44 AM EST
[ Parent ]

This must be a joke,,,,this comment is really absurd.  

Would you care to argument that?


The big difference is that there were shrinking budget deficits (and then surpluses) during the dotcom bubble, and growing incomes for all.

Is this false in any way?


The only difference is that letting the first bubble (dotcom) grow could be attributed to something other than malicious policy (hesitation to burst a party in the middle of obvious technological change), whereas the next bubbles, from 2002 onwards, are part of a clear and consistent policy framework.

I was being nice to Greenspan with the first bubble, but I'll be happy to indict him for that one too. Clinton did the budget bit, and he did reduce that. As to Greenspan's policy after 2002, look at the quotes provided lower in the thread (where Greenspan brags about dealing with the consequences of the dot com crash) and look at his highly supportive comments for the Bush tax cuts, despite their obvious impact on the budget deficit.


The runaway budget deficits should never have been supported to the extent they were, and the low, low interest rates were on their face criminal considering the scale of asset price appreciation that took place.

Again, I'd be interested to see you argue on the substance of that sentence. Do you think the budget deficits were reasonable? Do you think the 1% fed rate was justified for as long as it was? Do you think asset prices are not overvalued right now?

In the long run, we're all dead. John Maynard Keynes

by Jerome a Paris (etg@eurotrib.com) on Thu Mar 22nd, 2007 at 10:21:09 AM EST
[ Parent ]
  • does criticism of European energy policy (or the lack thereof) count?

  • does criticism of the lack of spine of our governments in dealing with renditions, airline information confidentiality, NATO expansiveness count?

  • does criticism of the disaster that was president Chirac count?

  • does criticism of the French elites that fail to defend what they built only a few years or decades earlier count?

  • does criticism of the CAP count?

And that's just off the top of my head.

In the long run, we're all dead. John Maynard Keynes
by Jerome a Paris (etg@eurotrib.com) on Thu Mar 22nd, 2007 at 10:25:17 AM EST
[ Parent ]
au revoir, mon ami.  c'etait tres proche, trop proche.
by wchurchill on Thu Mar 22nd, 2007 at 02:14:50 PM EST
[ Parent ]
What do you mean? Did I offend you somehow?

In the long run, we're all dead. John Maynard Keynes
by Jerome a Paris (etg@eurotrib.com) on Thu Mar 22nd, 2007 at 03:45:55 PM EST
[ Parent ]
no, not at all.  all the best my friend.  It's a great blog and your leadership is truely wonderful.
by wchurchill on Thu Mar 22nd, 2007 at 04:19:16 PM EST
[ Parent ]
That column is not, in your view, an indictment? Is it not stunning, coming as it does from the WSJ Op-Ed pages, an outlet extremely well known for a quite different point of view?

An ignorant attack by the NeoCons? Where are you getting that language from? Not from Jérôme's objections to FT articles, certainly. You made it up yourself. If anyone is guilty of rhetorical exaggeration, you are.

It's probably a waste of time pointing this out, but what we object to in the FT is mostly the peddling of conventional wisdom about markets and "reform". It would be inexact to say that America has nothing to do with this - by and large, corporate America promotes free-market ideology in the world and the American economy is held up as an example to follow - but the focal drive of our comments is opposition to market fundamentalism, not anti-Americanism.

by afew (afew(a in a circle)eurotrib_dot_com) on Thu Mar 22nd, 2007 at 04:49:54 AM EST
[ Parent ]
you miss my point afew.  I was saying that for jerome, anything negative about America is stunning, and insightful.  While if the FT or the Economist takes a different point of view regarding France, it's a Neocon attack.  Go back to Sept 2005 and you'll find Jerome and others railing about the US budget deficit.  and the horrible impending outcome.  Now it's the high risk people borrowing money to buy their homes.  And whoa to be to us because the price per barrel of oil if going to be $100/barrell.  
well do you or jerome realize that missing a forecast by 40% just doesn't allow you to preach to all of us.  What the f,,,,?  Maybe you could tell us something that might actually happen????
by wchurchill on Thu Mar 22nd, 2007 at 06:47:23 AM EST
[ Parent ]
I was saying that for jerome, anything negative about America is stunning, and insightful.  While if the FT or the Economist takes a different point of view regarding France, it's a Neocon attack.

Well, you miss my point. The sweeping generalisation of "anything negative about America" and the language of "a Neocon attack" are precisely what I was taking issue with - and accusing you of rhetorical exaggeration. Read what I said about what we argue against in the FT or the Economist. It's not America per se, and it's not neocons (who, btw, would be associated rather with foreign policy and warfare than the economy), but the free-market, or laissez-faire, ideology.

Now, insofar as the American economy is held up as an example of the virtuous working of that ideology, it seems perfectly justifiable to disagree and point to problems. You seem to react to that as "anti-Americanism", and you seem to think that criticisms of the American economy are to be proved or disproved as if they were forecasts, or market calls. (Though this isn't a financial market, it's a discussion forum.) Just because there has been no major crunch to date does not disprove that the American economy may be fuelled by dangerous levels of debt. That view is held by many qualified people, Americans among them, and it seems a perfectly respectable view to me.

You also take a very narrow view of the $100 oil series. The whole point of that was, again, not to make a market call, but to publicize the notion that the era of cheap oil was coming to an end. Do you dispute that notion? In any case, you misinterpret completely - woe would be to you, meaning Americans? It's the whole damn planet that's concerned here, we're all in this together. It's not, as you seem to believe, another scurvy attack on America.

by afew (afew(a in a circle)eurotrib_dot_com) on Thu Mar 22nd, 2007 at 08:31:08 AM EST
[ Parent ]
re-read perhaps

what I got out of that was that it was shocking to see this on the  WSJ opinion page (Cheerleader central) compared to their usual one sided rubbish.  The paper is great, but the opinion page is an exercise in fellatio of all things Republican/American 99% of the time.  

Some of his rhetoric is a bit overheated I'd say, and his conclusions a bit on the "to the barricades" side for me, but I don't see this one sided viewpoint you do.

As for the "preaching" crack and what follows -- manners count.  

by HiD on Thu Mar 22nd, 2007 at 08:50:33 AM EST
[ Parent ]
This article series on Greenspan is very interesting.

Greenspan's formula of reducing market regulation by substituting it with post-crisis intervention is merely buying borrowed extensions of the boom with amplified severity of the inevitable bust down the road. [It] has adopted the role of a cleanup crew of otherwise avoidable financial debris rather than that of a preventive guardian of public financial health.

[...]

Greenspan, notwithstanding his denial of responsibility in helping through the 1990s to unleash the equity bubble, had this to say in 2004 in hindsight after the bubble burst in 2000: "Instead of trying to contain a putative bubble by drastic actions with largely unpredictable consequences, we chose, as we noted in our mid-1999 congressional testimony, to focus on policies to mitigate the fallout when it occurs and, hopefully, ease the transition to the next expansion."

By "the next expansion", Greenspan meant the next bubble, which manifested itself in housing. [...]

Greenspan also supported President George W Bush's $1.3 trillion tax cut of 2001 and the additional $674 billion tax cut of 2003, which instead of helping the economy merely shifted debt from the private sector to the public sector in the form of fiscal deficits and sovereign debt. Instead of increasing savings from the tax cut, the private sector promptly took on more debt. The tax cut so favored the rich that the tax savings from the low-income earners mostly go to pay interest on the loans funded by tax savings of the rich.

When asset prices rise, it reflects a change in the money supply/asset relationship, meaning more money chasing the same number of assets. Thus when asset prices rise, it is not necessarily a healthy sign for the economy. It reflects a troublesome condition in which additional money is not creating correspondingly more assets. It is a fundamental self-deception for economists to view asset-price appreciation as economic growth. A housing bubble is an example of this.

The last article of the same analyst Henry C K Liu is

Why the subprime bust will spread

Also notice a parallel article (by other analyst)

The subprime dominoes in motion

by das monde on Thu Mar 22nd, 2007 at 02:09:40 AM EST
Liu can often be read in the Asia Times along with other interesting commentators.
by afew (afew(a in a circle)eurotrib_dot_com) on Thu Mar 22nd, 2007 at 04:59:05 AM EST
[ Parent ]
'Scuse, now I see that you're in fact linking to the Asia Times!
by afew (afew(a in a circle)eurotrib_dot_com) on Thu Mar 22nd, 2007 at 05:11:28 AM EST
[ Parent ]
Sorry to jump in late

Honestly, I think folks are REALLY missing the point here.  The WSJ isn't jumping on Greenspan for any of the reasons they give.  What they are pissed about is:

  1. The fact that Greenspan had a few chances to raise rates and for probably sound reasons, failed to do so.  There is NO greater crime on Wall Street than failing to raise interest rates.

  2. The fact that little fish came to swim in their pond and like all such new rich trash, they embarrassed folks.  The next thing you know, there will be talk of "reform" in Washington, and we cannot have THAT now can we.

I yield to no person on earth in my total disdain for Alan Greenspan.  I have thought him a fool since he worked for the Ford administration.  But I don't think either the tech bubble nor the housing bubble was his fault.

There are real institutional reasons why this last real-estate bubble happened that have nothing whatever to do with Greenspan.

  1. "The laws of the land were written in the interests of the petty real estate speculator" proclaimed Veblen at his most observant.  People forget that land speculation is even MORE basic and fundamental to the nation than the cultivation of tobacco.  It is what we do!

  2. The barriers to entry are astonishingly low.  In many cases, dabbling in real estate is what people do when their unemployment checks run out.

  3. A sub-prime market for mortgages is almost inevitable when the economic dynamic is the systematic destruction of those kinds of jobs that lead to high credit-rated scores.  If banks don't lower their lending standards, they have no business--or very little.

  4. Information in how to play the real estate market is widely available in USA.  There are TV programs on how to dress up a house for sale, invest with no money down, property flipping, etc.  Bookstores sell score of titles on how to get rich.  So recruiting new players is a continuous project.

  5. It is damn difficult to watch someone make, say $100,000 on a property owned for 6 weeks, when you are making $46,000 working 2200 hours a year.  At the height of this madness, everyone knew someone who had made magic money in real estate.  It seemed almost irresponsible or lazy not to join in the fun.

  6. Banks lend money to real estate speculation when almost no other venture is funded.  This is thought of as "conservative" behavior.  The money that the Fed was pumping into the system went to real estate because their are so few places to put it to work.  Banks will NOT fund basic research into more efficient PV cells, for example, but they WILL fund the 42nd high-rise condo development in a given urban area because someone can show them a document that claims there is a market for at least four of them.

And so on.  There are so many institutional reasons for this behavior, I forget most of them.  All I know is that I have now lived through three of these real estate fiascos and they are VERY messy.  I lived in St. Paul when they overbuilt downtown office space and the market collapsed in 1982.  I'd bet good money that there is still today prime office space in some of those buildings that has never been rented.


"Remember the I35W bridge--who needs terrorists when there are Republicans"
by techno (reply@elegant-technology.com) on Fri Mar 23rd, 2007 at 03:11:15 AM EST
Both Wall Street and the article beg for cynicism on the part of the thinking public, but some of your details seem contradictory:
  1.  Wall Street becomes theatrical everytime the Fed meets to review rates, for fear they will raise them.
  2.  There is basically nothing but... new rich trash left in Wall Street, even if they think they can look down on the newer...

As to the institutional reasons for the bubble, number 2 seems pretty disconnected from reality.  The new sub-prime market may have blurred the barriers, but it cannot be said that barriers are low:  Ask first time buyers.  As to the unemployed dabbling in RE, the argument falls by its own counter-weight.

  1.  That availability of information has existed in the US for at least two decades...

  2.  Again, it seems greatly exaggerated in numbers and frequency, for the general population.  The timing of the paperwork itself, plus all related costs are barriers for that kind of "dream" turnarounds.

However, yes, it has happened again and it has to do with short-term profit myopia and market greed.

Our knowledge has surpassed our wisdom. -Charu Saxena.
by metavision on Fri Mar 23rd, 2007 at 12:22:08 PM EST
[ Parent ]


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