This Time Had Better Be Different: House Prices and The Banks Part 2

SteveKeensDebtwatch
HousePricesandtheBanksPartII
April11th2011
This Time Had Better Be Different: House Prices and the Banks Part 2
Figure1
Bank Shares and House Prices 1880-2011

500
CPI-deflated Bank Share Index Real House Prices CPI-deflated All Ordinaries
400
Index 1880=100 (1997=100 for All Ords)
300
200
100
0 1880
1890
1900
1910
1920
1930
1940
1950
1960
1970
1980
1990
2000
2010
2020
Global Financial Database AUABIIM + ASX Financials; Nigel Stapledon House Price Index + ABS; Yahoo Financ
InlastweekspostIshowedthatthereisadebtfinanced,governmentsponsoredbubbleinAustralian houseprices(clickhereandhereforearlierinstallmentsonthesametopic).ThisweekIllconsiderwhat theburstingofthisbubblecouldmeanforthebanksthathavefinancedit.
Betting the House

Fortwodecadesafterthe1987StockMarketCrash,bankshavelivedbytheadageassafeashouses. Mortgagelendingsurpassedbusinesslendingin1993,andeversincethenitsbeenontheupandup. Businesslendingactuallyfellduringthe1990srecession,andtookoffagainonlyin2006,whenthe Chinaboomandtheleveragedbuyoutfrenzybegan.
www.debtdeflation.com/blogs
Page1
SteveKeensDebtwatch
Figure2
April11th2011
Bank Loans Australia

110 910 810 710
6 5 5 5 5 5 5 5 5 5
Real Estate Personal Commercial
$ million
610 510 410 310 210 110
0 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012
RBA Sheet B02
RegularreaderswillknowthatIplacetheresponsibilityforthisincreaseindebtonthefinancialsector itself,nottheborrowers.Thebankingsectormakesmoneybycreatingdebtandthushasaninherent desiretopumpoutasmuchaspossible.TheeasiestwaytodothisistoenticethepublicintoPonzi Schemes,becausethenborrowingcanbedecoupledfromincome. Theresaminorverificationofmyperspectiveinthisdata,sincetheonesegmentofdebtthathasnt risencomparedtoGDPispersonaldebtwheretheincomeoftheborrowerisaseriousconstrainton howmuchdebttheborrowerwilltakeon.Asmuchasbankshavefloggedcreditcards,personaldebt hasntincreasedasapercentageofGDP. Ontheotherhand,mortgagedebthasrisensevenfold(comparedtoGDP)inthelasttwodecades.
Page2
SteveKeensDebtwatch
Figure3
April11th2011
Bank Loans Australia

100 90 80 70
$ million
60 50 40 30 20 10 0 1988 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012
RBA Sheet B02
ThepostGFCperiodinAustraliahasseenafurtherincreaseinthebankingsectorsrelianceonhome loansduetoboththebusinesssectorsheavydeleveraginginthewakeofthecrisis,andthe governmentsreignitingofthehousepricebubbleviatheFirstHomeVendorsBoostinlate2008. Mortgagesnowaccountforover57percentofthebanksloanbooks,analltimehigh.
Page3
SteveKeensDebtwatch
Figure4
April11th2011
Loans by Sector
60 55 50 FHVB
Percent of total bank loans
45 40 35 30 25 20 15 10 5
0 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012
Theyalsoaccountforover37%oftotalbankassetsagainanalltimehigh,andupsubstantiallyfrom theGFCinducedlowof28.5%beforetheFirstHomeVendorsBoostreversedthefallinmortgagedebt.
Page4
SteveKeensDebtwatch
Figure5
April11th2011
Loans by Sector
40 35 FHVB
Percent of total bank assets
30 25 20 15 10 5
0 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012
Sohowexposedarethebankstoafallinhouseprices,andtheincreaseinnonperformingloansthat couldarisefromthis?Thereisnowayofknowingforsurebeforehand,butcrosscountrycomparisons andhistorycangiveaguide.
Bigger than Texas

ApersistentrefrainfromthenobubblecamphasbeenthatAustraliawontsufferanythinglikeaUS downturnfromahousepricecrash,becauseAustralianlendinghasbeenmuchmoreresponsiblethan Americanlendingwas.Itookaswipeatthatinlastweekspost,withachartshowingthatAustralias mortgagedebttoGDPratioexceedstheUSAs,andgrewthreetimesmorerapidlythandidAmerican mortgagedebtsince1990(seeFigure13ofthatpost). Similardata,thistimeseenfromthepointofviewofbankassets,isshowninthenexttwocharts.Real estateloansareahigherproportionofAustralianbankloansthanforUSbanks,andtheirrisein significanceinAustraliawasfarfasterandsharperthanfortheUSA.
Page5
SteveKeensDebtwatch
Figure6
April11th2011
Real Estate Loans Percent of All Loans

60
Percent of Commercial Bank Loans
55 50 45 40 35 30 25
Australia USA
20 1945 1950 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015
Moresignificantly,realestateloansareahigherproportionofbankassetsinAustraliathanintheUSA, andthisappliedthroughouttheSubprimeEraintheUSA.ThecrucialroleoftheFirstHomeVendors Boostinreversingthefallinthebanksdependenceonrealestateloansisalsostrikinglyapparent.
Page6
SteveKeensDebtwatch
Figure7
April11th2011
Real Estate Loans Percent of Assets

40
Percent of Commercial Bank Loans
Australia USA
35
FHVB
30
25
20
15
10 1970
1975
1980
1985
1990
1995
2000
2005
2010
2015
Never mind the weight, feel the distribution

ThenobubblecasedismissesthisAustraliaUScomparisonontwogrounds:
most of Australias housing loans are to wealthier households, who are therefore more likely to be able to service the debts so long as they remain employed; and housing loans here are full-recourse, so that home owners put paying the mortgage ahead of all other considerations..
However, there are other reasons why levels of household debt should not be a large
Bloxhammadetheformerclaiminhisrecentpiece:
concern. The key one is that 75 per cent of all household debt in Australia is held by the top two-fifths of income earners. (Paul Bloxham , The Australian housing bubble furphy, Business Spectator March 18 2011)
AlanKohlerrecountedaninterestingconversationwithoneofAustraliastopretailbankersacouple ofyearsagoonthelatterpoint:
There is some 'mortgage stress' in the northern suburbs of Melbourne, the western suburbs of Sydney and some parts of Brisbane, but while all the banks are bracing themselves for it and increasing general provisions, there is no sign yet of the defaults that are bringing the US banking system to its knees.
Page7
SteveKeensDebtwatch
April11th2011
We often see graphs showing that Australias ratios of household debt to GDP and debt to household income had gone up more than in the United States. So, while the US is deep into a mortgage-based financial crisis, it is surely a cause for celebration that Australia has not seen
even the slightest uptick in arrears.

Please explain, I said to my dinner companion. Obviously, low unemployment and robust national income, including strong retail sales until recently, have been the most important part of it. But on the other hand, the US economy was doing okay until the mortgage bust happened; it was the sub-prime crisis that busted the US economy, not the other way around. Apart from that it is down to two things, he says: within the banks, sales did not gain ascendancy over credit in Australia to the extent that it did in the US; and US mortgages are
non-recourse whereas banks in Australia can have full recourse to the borrowers' other assets, which means borrowers are less inclined to just walk away. (Alan Kohler, Healthy by default,
Business Spectator August 21, 2008; emphases added)
KrisSaycegaveagoodcomebacktoBloxhamsmostofthedebtisheldbythosewhocanafforditline whenhenotedthattwofifthsofincomeearnersisquitealargepoolofpeople:
In fact, its nearly half the income earners. Is that number any different to any other economy? Youd naturally think the higher income earners would have most of the debt because theyre the ones more likely to want it, need it or be offered it. So with about 11.4 million Australians employed, that makes for about 4.6 million Australians holding over $1.125 trillion of household debt remember total household debt is about $1.5 trillion. That comes to about $244,565 per person. Perhaps were not very bright. But were struggling to see how that makes the popping of the housing bubble a virtual impossibility. (Kris Sayce, Are Falling House Prices Virtually Impossible?, Money Morning 18 March 2011)
ThebestcomebackstoAlanKohlersdinnercompanionmaywellbetimeitself.Impairedassets1didhit analltimelowof4.1%ofBankTier1Assetsand0.2%oftotalassetsinJanuary2008,butbythetime Kohlerandhisbankersatdowntodinner,impairmentwasontheriseagain.Impairedassetshavesince reachedaplateauof25%ofTier1capitaland1.25%oftotalassetsandthishasoccurredwhilehouse priceswerestillrising.Despitethepressurethatfullrecourselendingputsonborrowers,thisis comparabletothelevelofimpairedassetsinUSbanksbeforehousepricescollapsedwhenthe SubPrimeBoomturnedintotheSubPrimeCrisis(seeTable2onpage10ofthispaper).
Page8
SteveKeensDebtwatch
Figure8
April11th2011
Impaired Assets
50 5
Percent of Tier 1 Assets Percent of Total Assets

40 4
Percent of Tier 1 Capital
30
20
10
0 1994
1996
1998
2000
2002
2004
2006
2008
2010
0 2012
RBA Table B05
Percent of total assets
Sincerealestateloansareworthroughly7timesbankTier1capitalupfromonly2timesin1990it wouldnttakemuchofanincreaseinnonperforminghousingloanstopushAustralianbankstothelevel ofimpairmentexperiencedbyAmericanbanksin2007and2008.
Page9
SteveKeensDebtwatch
Figure9
April11th2011
Loans as percent of Tier 1 Capital

800 700 600 500 400 300 200 100 0 1990 1992 1994 1996 1998 2000 2002 2004 2006 2008 2010 2012
ThelevelandimportanceofnonrecourselendingintheUSisalsoexaggerated.Whilesomemajor Stateshaveit,manydonotandoneoftheworstperformingstatesinandsincetheSubprimeCrisis wasFlorida,whichhasfullrecourselending. Finally,thenevermindtheweight,feelthedistributiondefenceoftheabsolutemortgagedebtlevel hasanegativeimplicationfortheAustralianeconomy:ifdebtismorebroadlydistributedinAustralia thanintheUSA,thenthenegativeeffectsofdebtserviceonconsumptionlevelsarelikelytobegreater herethaninAmerica.Thisisespeciallysosincemortgageratestodayare50%higherherethaninthe USA.InterestpaymentsonmortgagedebtinAustralianowrepresent6.7%ofGDP,twiceasmuchasin theUSA.ItslittlewonderthatAustraliasretailersarecryingpoor. Ofcourse,theRBAcouldalwaysreducethedebtrepaymentpressurebyreducingthecashrate.But withthemarginbetweenthecashrateandmortgagesnowbeingabout3%,itwouldneedtoreducethe cashrateto1.5%toreducethedebtrepaymentburdeninAustraliatothesamelevelasAmericas.
Page10
SteveKeensDebtwatch
Figure10
April11th2011
Interest payments on mortgages

8 7 6
Australia USA
Percent of GDP
5 4 3 2 1 0 1975
1980
1985
1990
1995
2000
2005
2010
2015
SoifAmericasconsumersaredebtconstrainedintheirspending,Australianconsumersareevenmore sowithnegativeimplicationsforemploymentintheretailsector. ComparedtotheUSAtherefore,thereisnoreasontoexpectthatAustralianbankswillfarebetterfrom asustainedfallinhouseprices.WhataboutthecomparisonwithpastfinancialcrisesinAustralia?
This time really is different

Thereareatleastthreewaysinwhichwhatevermighthappeninthenearfuturewilldifferfromthe past:
On the attenuating side, deposit insurance, which was only implicit or limited in the past, is much more established now; and If the banks face insolvency, the Government and Reserve Bank will bail them out as the US Government and Federal Reserve didthough lets hope without also bailing out the management, shareholders and bondholders, as in the USA (if you havent seen Inside Job yet, see it);2 The bubbles in debt, housing and bank stocks are far bigger this time than any previous eventincluding the Melbourne Land Boom and Bust that triggered the 1890s Depression.
Onthenegativeside,however,wehavetheBigTrifecta:
Page11
SteveKeensDebtwatch
April11th2011
Illmakesomestatisticalcomparisonsovertheverylongterm,butthemainfocushereisonseveral periodswhenhousepricesfellsubstantiallyinrealtermsafteraprecedingboom,andwhathappenedto bankshareswhenhousepricesfell:
The 1880s-1890s, when the Melbourne Land Boom busted and caused the 1890s Depression; The 1920s till early 1930s, when the Roaring Twenties gave way to the Great Depression; The early to mid-1970s, when a speculative bubble in Sydney real estate caused a rapid acceleration in private debt, and a temporary fall in private debt compared to GDP due to rampant inflation; The late 1980s to early 1990s, when the Stock Market Crash was followed by a speculative bubble in real estatestoked by the second incarnation of the First Home Vendors Boost; and From 1997 till now.
Ichosethefirstfourperiodsfortworeasons:theyweretimeswhenhousepricesfellinreal(andonthe firsttwooccasions,alsonominal)terms,andbanksharepricessufferedasubstantialfall;andtheyalso standoutasperiodswhenanaccelerationindebtcausedaboomthatgavewaytoadeleveragedriven slump,whenprivatedebtreachedeitheralongtermorshorttermpeak(comparedtoGDP)andfell afterwards.TheyareobviousinthegraphofAustraliaslongtermprivatedebttoGDPratio.

Figure11
Australia's long term private debt to GDP ratio

160 150 140 130 120 110 100 90 80 70 60 50 40 30 20 10 0 1860 1870 1880 1890 1900 1910 1920 1930 1940 1950 1960 1970 1980 1990 2000 2010 2020
Percent of GDP
Fisher & Kent 1999; RBA Historical Data; Tables D02, G12
Page12
SteveKeensDebtwatch
April11th2011
TheyalsoturnupassignificantspikesintheCreditImpulse(Biggs,Mayeretal.2010)theacceleration ofdebt(dividedbyGDP)whichdeterminesthecontributionthatdebtmakestochangesinaggregate demand.3 TheCreditImpulsedataalsoletsusdistinguishthepreWWIImorelaissezfaireperiodfromthe regulatedonethatfollowedit:creditwasmuchmorevolatileinthepreWWIIperiod,butthetrend valueoftheCreditImpulsewasonlyslightlyabovezeroat0.1%.

Figure12
Credit Impulse in Australia 1860-1940

15 1893 1931
10
Percent of GDP
10
Impulse Mean (0.1 %)
15 1860 1865 1870 1875 1880 1885 1890 1895 1900 1905 1910 1915 1920 1925 1930 1935 1940
ThePostWWIIperiodhadmuchlessvolatilityinthedebtfinancedcomponentofchangesinaggregate demand,buttheoveralltrendwasfarhigherat0.6%.Thiscouldbepartoftheexplanationastowhy PostWWIIeconomicperformancehasbeenlessvolatilethanpreWWII,butitalsoindicatesthatrising debthasplayedmoreofaroleindrivingdemandinthepostWarperiodthanbefore. Ominouslytoo,eventhoughthepostWWIIperiodingeneralhasbeenlessvolatile,thenegativeimpact oftheCreditImpulseinthisdownturnwasfargreaterthanineitherthe1890sorthe1930s.
Page13
SteveKeensDebtwatch
Figure13
April11th2011
Credit Impulse in Australia 1955-Now

15 1975 1992
10
Percent of GDP
10
Impulse Mean (0.6 %)

1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015
15 1955
OnefinalfactorthatalsoseparatesthepreWWIIdatafrompostWWIIistherateofinflation.The1890s and1930sdebtbubblesburstatatimeoflowinflation,andrapidlygavewaytodeflation.Thisactually drovethedebtratiohigherinthefirstinstance,asthefallinpricesexceededthefallindebt.But ultimatelythosedebtswerereducedinatimeoflowinflation. The1970sepisode,ontheotherhand,wascharacterizedbyrampantinflationandthedebtratiofell becauserisingpricesreducedtheeffectivedebtburden.Whereasthefallsinrealhousepricesinthe 1890sandthe1930sthereforemeantthatnominalpriceswerefallingevenfaster,the1970sfallinreal housepricesmainlyreflectedconsumerpriceinflationoutstrippinghousepricegrowth.The1990 bubblealsoburstwheninflationwasstillsubstantial,thoughfarlowerthanitwasinthemid1970s. TodaysinflationstoryhasmoreincommonwiththepreWWIIworldthanthe1970s.Ourcurrent bubbleisburstinginalowinflationenvironment.
Page14
SteveKeensDebtwatch
Figure14
April11th2011
Australian inflation rate

30 25 20 15
Annual Smoothed Mean (2.78%)
Percent
10 5 0 5 10 15 1860 1870 1880 1890 1900 1910 1920 1930 1940 1950 1960 1970 1980 1990 2000 2010 2020 0
Nowletsseewhathistorytellsusabouttheimpactoffallinghousepricesonbankshares. The1880s1890s ThiswasthebankbusttoendallbankbustsjustlikeWWIwastheWartoendallwars.Bankshares increasedbyover75%inrealtermsasspeculativelendingfinancedalandbubbleinMelbournethat increasedrealhousepricesby33%.4Theroleofdebtindrivingthisbubbleandthesubsequent Depressionisunmistakable:privatedebtrosefromunder30%ofGDPin1872toover100%in1892,and thenunwoundoverthenext3decadestoalowof40%in1925. Theturnaroundindebtandthecollapseinhousepricesprecipitateda50%fallinbanksharesinless thansixmonthsashousepricesstartedtofallbacktobelowthepreboomlevel.
Page15
SteveKeensDebtwatch
Figure15
April11th2011
Bank Shares and House Prices

200 190 180 170
Index First Year = 100
160 150 140 130 120 110 100 90 80 70 60 1886 100
CPI-deflated Bank Shares Real House Prices

1887 1888 1889 1890 1891 1892 1893 1894 1895 1896
TheexcellentRBAResearchpaperTwoDepressions,OneBankingCollapsebyChayFisher& ChristopherKent(RDP199906)arguesfairlyconvincinglythatthe1890sDepressionwasamoresevere DepressionforAustraliathantheGreatonemainlybecausethereweremorebankfailuresinthe 1890sthaninthe1930s.Theseverityofthe1890sfallinbanksharesmayrelatetothehigherlevelof debtin1890thaninthe1930sapeakof104percentofGDPin1892versusonly76percentin1932 (thepeakthistimeroundwas157percentinMarch2008). Thecorrelationofthetwoseriesinabsolutetermsisobvious(thecorrelationcoefficientis0.8),andthe changesinthetwoseriesarealsostronglycorrelated(0.42).
Page16
SteveKeensDebtwatch
Figure16
April11th2011
Change in Bank Shares and House Prices

75 25
45 30 15 0 15 30 45 60 75 1886
15 10 5 00 5 10 15
CPI-deflated Bank Share Index Real House Prices

1887 1888 1889 1890 1891 1892 1893 1894 1895
20 25 1896
Change in CPI-deflated House Prices
The1920s1940s The1920sbeganwiththeendofthegreatdeleveragingthathadcommencedin1892.Realhouseprices rosebyabout25percentinthefirsttwoyearsthoughmainlybecauseofdeflationinconsumer pricesandthenfluctuateddownforthenextfouryearsbeforeaminorboom.Butthemaindebt financedbubbleinthe1920swasintheStockMarket.
Change in CPI-deflated Bank Shares
60
20
Page17
SteveKeensDebtwatch
Figure17
April11th2011
All shares Shares and House Prices

400
350
CPI-deflated Share Accumulation Index Real House Prices
Index First Year = 100
300
250
200
150
100
100
50 1920
1922
1924
1926
1928
1930
1932
1934
1936
1938
1940
Therewashoweverstillacrashinbanksharesafterhousepricesturnedsouthinearly1929.Itwasnot assevereasin1893,andofcoursecoincidedwithacollapseinthegeneralstockmarket(Icantgive comparablefiguresbecauseofthedifferentmethodsusedtocompilethetwoindicesseethe Appendix).Butstilltherewasafallof24%inbanksharesover7monthsatitssteepest,anda39%fall frompeaktotroughprecededbya25%fallinhouseprices.
Page18
SteveKeensDebtwatch
Figure18
April11th2011

150 140 130
Index 1888=100
120 110 100 90 80 70 1920 100

1922 1924 1926 1928 1930 1932 1934 1936 1938 1940
Banksharesalsotrackedhousepricesoverthe20yearsfromtheRoaringTwentiesboomtothe beginningofWWII:thecorrelationwas0.44fortheindices,and0.47forthechangeintheindices.
Page19
SteveKeensDebtwatch
Figure19
April11th2011

75 25
45 30 15 0 15 30 45 60 75 1920
15 10 5 00 5 10 15

1922 1924 1926 1928 1930 1932 1934 1936 1938
20 25 1940
The1970sbubblewasthelastgaspofthelongperiodofrobustyettranquilgrowththathad characterizedtheearlypostWWIIperiod.Thepeculiarmacroeconomicsofthetimethestartof Stagflationcloudsthehousepricebubblepicturesomewhat(IdiscussthisintheAppendix),but therestillwasabighousepricebubblethen,andabighittobankshareswhenitended. ThiswasAustraliasfirstreallybigdebtfinancedspeculativebubble,whichmostcommentatorsand economistsseemtohaveforgottenentirely.ItsflavoriswellcapturedintheintroductiontoSydney Boom,SydneyBust:

Sydney had never experienced a property boom on the scale of that between 1968 and 1974. It involved a frenzy of buying, selling and building which reshaped the central business district, greatly increased the supply of industrial and retailing space, and accelerated the expansion of the city's fringe. Its visible legacy of empty offices and stunted subdivisions was matched by a host of financial casualties which incorporated an unknown, but very large, contingent of small investors, together with the spectacular demise of a number of development and construction companies and financial institutions. The boom was the most significant financial happening of the 1970s and the shock waves from the inevitable crash were felt right up to 1980. It was an extraordinary event for Sydney, and for Australia.(Daly 1982, p. 1)
60
20
The 1970s
Page20
SteveKeensDebtwatch
April11th2011
Housepricesrose40percentinrealtermsfrom1967till1974,andthenfell16percentfrom1974till 1980.Bankshareswentthrougharollercoasterride,followingPoseidonupanddownfrom1967till 1970,andthenrisingsharplyasthedebtbubbletookoffin1972,witha31percentrisebetweenlate 1972andearly1973.Butfromthereitwasalldownhill,withbanksharesfalling35percentacross1973 whilehousepriceswerestillrising. Butwhenhousepricesstartedtofall,banksharesreallytanked,falling54percentinjustsevenmonth during1974.

Figure20

170 160 150 140
Index Start=100
130 120 110 100 90 80 70 60 50 100
40 1967 1968 1969 1970 1971 1972 1973 1974 1975 1976 1977 1978 1979 1980
However,theextremevolatilityofbothassetandcommodityprices,andtheimpactoftwoshare bubblesandbuststhePoseidonBubbleofthelate1960sandtheearly1970sboomandbust eliminatedthecorrelationofbanksharepricestohousepricesthatappliedinthe1890sand1930s:the correlationoftheindiceswas0.46andofchangesintheindiceswas0.01.
Page21
SteveKeensDebtwatch
Figure21
April11th2011

75 25
45 30 15 0 15 30 45 60
15 10 5 00 5 10 15
20
75 25 1967 1968 1969 1970 1971 1972 1973 1974 1975 1976 1977 1978 1979 1980
Therecessionwehadtohaveremainsunforgettable.ThatplungebeganwithAustraliassecondbig postWWIIspeculativebubble,asBond,Skase,Connellandaseeminglylimitlesscastofwhiteshoe brigadersestablishedthelocalIvanBoeskyGreedisGoodchurchwithbankseagerlythrowing moneyanddebtintoitstithingbox. ItwouldhaveallendedwiththeStockMarketCrashof1987,wereitnotforthegovernmentrescues (bothhereandintheUSA)thatenabledthespeculatorsandthebankstoregroupandthrowtheirpaper weightintorealestate.
60
20
The 1980s
Page22
SteveKeensDebtwatch
Figure22
April11th2011
Business Debt to GDP

55
50
45
Percent
40
35
30
25 1980 1981 1982 1983 1984 1985 1986 1987 1988 1989 1990 1991 1992
Havingplunged30percentinonemonth(October,ofcourse),banksharesrocketedupagain,climbinga staggering54percentin11monthstoreachanewpeakinOctober1988,asspeculatorsandthesecond incarnationoftheFirstHomeVendorsGrantdrovehousepricesup37percentoverjustoneandahalf years.Banksharesbouncedaroundforawhile,butoncethedeclineinhousepricessetin,bankshares againtankedfalling40percentover11monthsin1990.
Page23
SteveKeensDebtwatch
Figure23
April11th2011

170 165 160 155 150 145 140 135 130 125 120 115 110 105 100 95 90 1985 1986 1987 1988 1989 1990 1991 1992 100
Index Start=100
Thepositivecorrelationsbetweentheindicesandtheirratesofchangewhichhadbeenswampedbythe highinflationoftheearly1970sreturned:thecorrelationoftheindiceswas0.45andthecorrelationof theirratesofchangewas0.42.
Page24
SteveKeensDebtwatch
Figure24
April11th2011

75 30
45 30 15 0 15 30 45 60 75 1985
18 12 6 00 6 12 18

1986 1987 1988 1989 1990 1991
24 30 1992
Whichbringsustotoday.
Ihavearguedelsewherethatthecurrentbubblebeganin1997,butthedebtfinancethatfinallysetit offbeganfarearlierin1990.Thefactthatunemploymentwasexplodingfromunder6percentinearly 1990toalmost11percentinearly1994wasnot,itseems,areasontoberestrainedinlendingtothe householdsector.Itwasfarmoreimportanttoexpandthemarketingofdebt,andsincethebusiness sectorcouldnolongerbepersuadedtotakemoreon,thevirginfieldofthehouseholdsectorhadtobe explored.Mortgagedebt,whichhadflatlinedatabout16percentofGDPsincerecordswerefirstkept, tookoff,increasingby50percentduringthe1990srecession(from1990tillthestartof1994),and ultimatelyrisingby360percentoverthetwodecadesfrom19percentofGDPto88percentwiththe finalflingoftheFirstHomeVendorsBoostgivingitthatfinalpushintothestratosphere.
60
24
From 1997 till today
Page25
SteveKeensDebtwatch
Figure25
April11th2011
Debt to GDP
90 85 80 75 70 FHVB 15 14 13 12
Percent of GDP
65 60 55 50 45 40 35 30 25 20 15 1990 1992 1994 1996 1998 2000 2002 2004
10 9 8 7 6 5 4
Business Mortgage Unemployment

2006 2008 2010
3 2 1
0 2012
Percent of Workforce
11
By1997thesheerpressureofrisingmortgagefinancebroughttoanendaperiodofflatlininghouse prices,andthebubblesinbothhousepricesandbanksharestookoffinearnest. Theriseinbanksharesfaroutweighedtheincreaseintheoverallshareindex.5Banksharesrose230 percentfrom1997tilltheirpeakin2007,versusariseofonly110percentintheoverallmarketindex. Theincreaseinhousepricesalsodwarfedanypreviousbubble:anincreaseofover120percentover fifteenyears. BanksharesandhousepricesbothtankedwhentheGFChit:housepricesfell9percentandbankshares fell61percent.ButthankfullythecavalryrodetotherescueintheshapeoftheFirstHomeVendors Boostandbothhousepricesandbanksharestookoffagain.Housepricesrose17percentwhilebank sharesrose60percent(versusa45percentriseinthemarket)beforefalling12percentaftertheexpiry oftheFHVB.
Page26
SteveKeensDebtwatch
Figure26
April11th2011

350 FHVB 340 CPI-deflated Bank Shares 330 320 Real House Prices 310 CPI-deflated All Ordinaries 300 290 280 270 260 250 240 230 220 210 200 190 180 170 160 150 140 130 120 110 100 100 90 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012
Index Start=100
Thecorrelationbetweenbanksharesandhousepricesisagainpositive:0.51fortheindicesandalow 0.1forthechangeinindicesoverthewholeperiod,but0.46since2005.
Page27
SteveKeensDebtwatch
Figure27
April11th2011

75 30
45 30 15 0 15 30 45 60
18 12 6 00 6 12 18
24
75 30 199719981999 20002001 200220032004 20052006 200720082009 20102011 2012
Sonowweareontheedgeoftheburstinganotherhousepricebubble.Whatcouldthefuturebring?
Thereareseveralconsistentpatternsthatcanbeseeninthepastdata. Firstly,housepricesandbanksharesarecorrelated.Therewasoneaberrationthe1970sbutthat wasmarkedbypeculiardynamicsarisingfromthehistoricallyhighinflationatthetime.Generally,bank sharesgoupwhenhousepricesrise,andfallwhenthefall.Partly,thisisthegeneralcorrelationofasset priceswitheachother,butpartlyalsoitsthecausalrelationshipbetweenbanklending,houseprices, andbankprofits:banksmakemoneybycreatingdebt,risingmortgagedebtcauseshousepricestorise, andrisinghousepricessetoffthePonziSchemethatencouragesmoremortgageborrowing.Thebubble burstswhentheentrypricetothePonziSchemebecomesprohibitive,orwhenearlyentrantstrytotake theirprofitsandrun. Secondly,thefallinthebanksharepriceisnormallyverysteep,anditoccursshortlyafterhouseprices havepassedtheirpeaks.Holdingbankshareswhenhousepricesarefallingisagoodwaytolose moneyandconversely,ifyougetthetimingright,bettingagainstthemcanbeprofitable.Thatswhy JeremyGranthamandmanyotherhedgefundmanagersfromaroundtheworldarepayingclose attentiontoAustralianhouseprices. Thirdly,housepricesandbanksharesaredrivenbyrisingdebt,andwhendebtstartstofall,notonlydo housepricesandbanksharesfall,theeconomyalsonormallyfallsintoaverydeeprecessionor
60
24
When the bubble pops
Page28
SteveKeensDebtwatch
April11th2011
Depression.Thisisthecrucialroleofdeleveragingincausingeconomicdownturns,includingtheserious oneswheredebtfallsnotjustduringashortcyclepriortoanotherupwardtrend,butinanextended seculardecline. Thereisalsoonecautionarynoteaboutthecurrentbubble:thoughhistorywouldimplythatthereisa verylargedownsidetobanksharesnow,itsalsoobviousthatbanksharesfellagreatdealin200709, sothatmuchofthedownsidemayalreadyhavebeenfactoredin. However,oneverymetric:ontheratioofdebttoGDP,onhowmuchthatratiorosefromthestartof thebubbletoitsend,onhowbigthehousepricebubblewas,andonhowmuchbanksharesrose,this bubbledwarfsthemall. DebttoGDP The1997debttoGDPratiostartedhigherthanallbutthe1890sbubbleended,andthebubblewenton longafteralltheothershadpopped.
Figure28
Debt to GDP from Start of Bubble to End

160 150 140 130 120
Percent of GDP
110 100 90 80 70 60 50 40 30 20 0 1
1886 1920 1967 1985 1997
10
11
12
13
14
15
Years since start
ThoughtheactualdebttoGDPratiotodaydwarfsallitspredecessors,intermsofthegrowthofdebt fromthebeginningofthebubble,ithasonerival:the1920s.
Page29
SteveKeensDebtwatch
Figure29
April11th2011
Debt to GDP from Start of Bubble to End

200 190 180 170
Index start = 100
1886 1920 1967 1985 1997
160 150 140 130 120 110 100 90 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20
Years since start
HoweverthisispartlybecauseofdeflationduringtheearlyGreatDepression:deflationruledfrom1930 till1934,andthedebttoGDPratiorosenotbecauseofrisingdebt,butfallingprices.Thoughthe increaseindebtinthefinalthroesoftheRoaringTwentieswasfasterthanweexperienced,overthe wholeboomdebtgrewasquicklynowasthen,andithaskeptgrowingforfouryearslongerthaninthe 1920s.Eventhoughtheratioisfallingnow,itsbecausedebtisnowrisingmoreslowlythannominal GDP:westillhaventexperienceddeleveragingyet(unliketheUSA). HousePrices Theriseinpricesduringthisbubbleagainhasnoequalinthehistoricalrecord.
Page30
SteveKeensDebtwatch
Figure30
April11th2011
House Prices from Start of Bubble

240 230 220 210 200 190 180 170 160 150 140 130 120 110 100 90 80 0 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15
Index start = 100
1886 1920 1967 1985 1997
Years since start
BankShares Banksharesarealsoinaclassoftheirowninthisbubble,evenafterthesharpfallfrom2007till2009.In termsofhowhighbanksharepricesclimbed,thisbubbletowersoverallthathavegonebefore,and evenwhatisleftofthisbubbleisstillonlymatchedbythebiggestoftheprecedingbubbles,the1890s andthe1970s.
Page31
SteveKeensDebtwatch
Figure31
April11th2011
Bank Shares from Start of Bubble

340 320 300 280 260 240 220 200 180 160 140 120 100 80 60 40 20 0
Index start = 100
1886 1920 1967 1985 1997
10
11
12
13
14
15
Years since start
Its a long way from the top if youve sold your soul
Banklendingdrovehousepricesskyhigh,andtheprofitsbanksmadefromthisPonziSchemedragged theirsharepricesupwiththebubble(andhandsomelylinedthepocketsoftheirmanagers). Itsgreatfunwhileitlasts,butallPonziSchemesendforthesimplereasonthattheymust:theyarent makingmoney,butsimplyshufflingitandgrowingdebt.Whennewentrantscantbeenticedtojoin thegame,theshufflingstopsandtheSchemecollapsesundertheweightofaccumulateddebt.There areverygoododdsthat,whenthisPonziSchemecollapsesandhousepricesfall,bankshareswillgo downwiththem.
Appendices
Stagflation Between1954and1974,unemploymentaveraged1.9percent,anditonlyonceexceeded3percent(in 1961,whenagovernmentinitiatedcreditsqueezecausedarecessionthatalmostresultedinthedefeat ofAustraliasthenLiberalgovernment,whichruledfrom1949till1972).Inflationfrom1954till1973 averaged3percent,andthenrosedramaticallybetween1973and1974asunemploymentfell. ThisfittedthebeliefofconventionalKeynesianeconomistsofthetimethattherewasatradeoff betweeninflationandunemployment:onecostofalowerunemploymentrate,theyargued,wasa higherrateofinflation.
Page32
SteveKeensDebtwatch
April11th2011
Butthenthesocalledstagflationarybreakdownoccurred:unemploymentandinflationbothrosein 1974.NeoclassicaleconomistsblamedthisonKeynesianeconomicpolicy,whichtheyarguedcaused peoplesexpectationsofinflationtorisethusresultingindemandsforhigherwagesandOPECsoil pricehike.

Figure32
20 50 19 Inflation 18 Unemployment 17 Debt 16 40 15 14 13 12 30 11 10 9 8 20 7 6 5 4 10 3 2 1 0 0 1954 1956 1958 1960 1962 1964 1966 1968 1970 1972 1974 1976 1978 1980
Percent of GDP
Thelatterargumentiseasilyrefutedbycheckingthedata:inflationtookoffwellbeforeOPECsprice hike.
Percent p.a.
Page33
SteveKeensDebtwatch
Figure33
April11th2011
Oil Price
20 20 19 19 Inflation Rate 18 18 Oil Price 17 17 16 16 15 15 14 14 13 13 12 12 11 11 10 10 9 9 8 8 7 7 6 6 5 5 4 4 3 3 2 2 1 1 0 0 1954 1956 1958 1960 1962 1964 1966 1968 1970 1972 1974 1976 1978 1980
Global Financial Database
Dollars p.b. West Texas Intermediate Crude
Theformerhassomecredenceasanexplanationforthetakeoffintheinflationrateworkerswere factoringinboththebargainingpoweroflowunemploymentandalaggedresponsetorisinginflation intotheirwagedemands.
Percent p.a.
Page34
SteveKeensDebtwatch
Figure34
April11th2011
Inflation and Change in Wages

36 34 32 30 28 26 24 22 20 18 16 14 12 10 8 6 4 2 0 2 4 1970
Inflation Nominal Wages Real Wages
1972
1974
1976
1978
36 34 32 30 28 26 24 22 20 18 16 14 12 10 8 6 4 2 00 2 4 1980
RBA Table G06, Column I
Wage change percent p.a.
TheNeoclassicalexplanationforwhythisriseininflationalsocoincidedwithrisingunemploymentwas KeynesianpolicyhadkeptunemploymentbelowitsNaturalrate,anditwasmerelyreturningtothis level.ThiswasplausibleenoughtoswingthepolicypendulumtowardsNeoclassicalthinkingbackthen, butitlooksalotlessplausiblewiththebenefitofhindsight.
Inflation percent p.a.
Page35
SteveKeensDebtwatch
Figure35
April11th2011
Inflation and Unemployment 1955-Now

18 16 14 12 10 8 6 4 2 0 0 19761980
Inflation Unemployment
2 1955 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015
Thoughinflationfellfairlyrapidly,andunemploymentultimatelyfellafterseveralcyclesofrising unemployment,overtheentireNeoclassicalperiodbothinflationandunemploymentwerehigher thantheywereundertheKeynesianperiod.Soratherthaninflationgoingdownandunemployment goingup,asneoclassicaleconomistsexpected,bothrosewithunemploymentrisingsubstantially.On empiricalgroundsalone,theneoclassicalperiodwasafailure,evenbeforetheGFChit.

Table1
Policydominance Keynesian Neoclassical Years 19551976 1976Now AverageInflation 4.5 5.4 AverageUnemployment 2.1 7 Therewasafarbetterexplanationofthe1970sexperiencelurkingindataignoredbyneoclassical economics:thelevelandrateofgrowthofprivatedebt.AsyoucanseefromFigure32,privatedebt, whichhadbeenconstant(relativetoGDP)sincetheendofWWII,begantotakeoffin1964,andwent througharapidaccelerationfrom1972till1974,beforefallingrapidly. Thedebtfinanceddemandforconstructionduringthatbubbleaddedtothealreadytightlabormarket, andhelpeddrivewageshigherinbothaclassicwagepricespiralandahistoricincreaseinlaborsshare ofnationalincomewhichhasbeenunwoundforeversince.
Page36
SteveKeensDebtwatch
Figure36
April11th2011
Wages share of GDP

68 66 64 62
Percent
60 58 56 54 52 1960 1965 1970 1975 1980 1985 1990 1995 2000 2005 2010 2015
Inflation,higherunemploymentthatweakenedlaborsbargainingpower,antiunionpublicpolicyand anapproachtowagesettingpolicythatemphasizedcostoflivingadjustmentsbutignoredsharing productivitygains,allcontributedtothatunwinding. Thesharemarketindices Thebankshareindexusedinthispostwascompiledbycombining3datasources.Workingbackwardsin time,thesewere:
The S&Ps ASX 200 Financials Index (AXFJ) from May 2001 till now; A composite formed from the prices for the 4 major bank share prices that matches the value of the Financials Index from 2000 till May 2001; and Data from the Global Financial Database from 1875 till 2000, which in turn consists of three series: o "Security Prices and Yields, 1875-1955," Sydney Stock Exchange Official Gazette, July 14, 1958, pp 257-258 (1875-1936), together with D. McL. Lamberton, Share Price Indices in Australia, Sydney: Law Book Co., 1958; and o The Australian Stock Exchange Indices, Sydney: AASE, 1980; and o Australian Stock Exchange Limited, ASX Indices & Yields, Sydney: ASX, 1995 (updated till 2000)
FromaperusaloftheGFDdocumentationandacomparisonoftheBankingandFinanceindextothe broadermarketindex,itappearsthatthebankindexisastraightpriceindexpre1980,whereasthe GFDsdatafortheoverallmarketisanaccumulationindextill1980andapriceindexafterthat.These
Page37
SteveKeensDebtwatch
April11th2011
inconsistenciesmakeitimpossibletocomparethetwoovertheverylongterm,butthemovementsin eachatdifferenttimeperiodscanbecompared(andthecomparisonisalsofinefrom1980on).
Figure37
6
110
Bank Share Index Market Index

110
5
1980
10000
1000
100
10
1900
1950
2000
Bernanke,B.S.(2000).EssaysontheGreatDepression.Princeton,PrincetonUniversityPress. Biggs,M.,T.Mayer,etal.(2010)."CreditandEconomicRecovery:DemystifyingPhoenixMiracles."SSRN eLibrary. Daly,M.T.(1982).SydneyBoom,SydneyBust.Sydney,GeorgeAllenandUnwin. Fisher,I.(1933)."TheDebtDeflationTheoryofGreatDepressions."Econometrica1(4):337357. Krugman,P.andG.B.Eggertsson(2010).Debt,Deleveraging,andtheLiquidityTrap:AFisherMinsky Kooapproach[2nddraft2/14/2011].NewYork,FederalReserveBankofNewYork&Princeton University.

ThenotestoTableB05statethatImpairedassetsreferstotheaggregateofareportingbanksnonaccrualand restructuredexposures,bothonandoffbalancesheet,plusanyassetsacquiredthroughtheenforcementof securityconditions.Offbalancesheetexposuresinclude,interalia,commitmentstoprovidefundsthatcannotbe cancelledorrevokedandthecreditequivalentamountsofinterestrate,foreignexchangeandothermarket relatedinstruments.
1
Page38
SteveKeensDebtwatch
April11th2011

OK,socallmeanoptimist! Oneofthemanyissuesthatdistinguishesmyapproachtoeconomicsfromneoclassicaleconomistsismyfocuson therolethatchangesindebtplayinaggregatedemand.Neoclassicaleconomistswronglyignoretheroleof aggregatelevelofdebtbecausetheyseedebtassimplyatransferofspendingpowerfromoneagenttoanother sothatthereisnochangeinaggregatespendingpowerifdebtrises.ThisisthereasonthatBernankegavefor ignoringFishersdebtdeflationtheoryoftheGreatDepression(Fisher1933): Fisher'sideawaslessinfluentialinacademiccircles,though,becauseofthecounterargumentthatdebtdeflation representednomorethanaredistributionfromonegroup(debtors)toanother(creditors).Absentimplausiblylarge differencesinmarginalspendingpropensitiesamongthegroups,itwassuggested,pureredistributionsshouldhave nosignificantmacroeconomiceffects(Bernanke2000,p.24) AnditstheexplicitassumptionthatKrugmanusesinhisrecentpaperontheGreatRecession: Ignoringtheforeigncomponent,orlookingattheworldasawhole,theoveralllevelofdebtmakesnodifferenceto aggregatenetworthoneperson'sliabilityisanotherperson'sasset.(KrugmanandEggertsson2010,p.3) Thisshowstheirignoranceofthecapacityforthebankingsectortocreatespendingpoweroutofnothing,and thuscreatespendingpowerintheprocess.Icoverthistopicindetailintheseposts (http://www.debtdeflation.com/blogs/2010/09/20/deleveragingwithatwist/and http://www.debtdeflation.com/blogs/2010/10/19/deleveragingdecelerationandthedoubledip/) 4 StapledonsindexcombinesSydneyandMelbourne,sothisfigureunderstatesthedegreeofriseandfallin Melbourneprices. 5 Thetwoindicesarenowcomparable,whereasforthelongerseriestheywerecompiledindifferentways.
3 2
Page39

This Time Had Better Be Different: House Prices and The Banks Part 2

Caricato da

Informazioni sul documento

Descrizione originale:

Titolo originale

Copyright

Formati disponibili

Condividi questo documento

Condividi o incorpora il documento

Opzioni di condivisione

Hai trovato utile questo documento?

Questo contenuto è inappropriato?

Copyright:

Formati disponibili

This Time Had Better Be Different: House Prices and The Banks Part 2

Caricato da

Copyright:

Formati disponibili

SteveKeensDebtwatch

Bank Shares and House Prices 1880-2011

Index 1880=100 (1997=100 for All Ords)

InlastweekspostIshowedthatthereisadebtfinanced,governmentsponsoredbubbleinAustralian houseprices(clickhereandhereforearlierinstallmentsonthesametopic).ThisweekIllconsiderwhat theburstingofthisbubblecouldmeanforthebanksthathavefinancedit.

Betting the House

Bank Loans Australia

Real Estate Personal Commercial

610 510 410 310 210 110

RBA Sheet B02

Bank Loans Australia

Real Estate Personal Commercial

RBA Sheet B02

Percent of total bank loans

Real Estate Personal Commercial

Percent of total bank assets

Real Estate Personal Commercial

Sohowexposedarethebankstoafallinhouseprices,andtheincreaseinnonperformingloansthat couldarisefromthis?Thereisnowayofknowingforsurebeforehand,butcrosscountrycomparisons andhistorycangiveaguide.

Bigger than Texas

Real Estate Loans Percent of All Loans

Percent of Commercial Bank Loans

Moresignificantly,realestateloansareahigherproportionofbankassetsinAustraliathanintheUSA, andthisappliedthroughouttheSubprimeEraintheUSA.ThecrucialroleoftheFirstHomeVendors Boostinreversingthefallinthebanksdependenceonrealestateloansisalsostrikinglyapparent.

Real Estate Loans Percent of Assets

Percent of Commercial Bank Loans

Never mind the weight, feel the distribution

even the slightest uptick in arrears.

Percent of Tier 1 Assets Percent of Total Assets

Percent of Tier 1 Capital

RBA Table B05

Percent of total assets

Sincerealestateloansareworthroughly7timesbankTier1capitalupfromonly2timesin1990it wouldnttakemuchofanincreaseinnonperforminghousingloanstopushAustralianbankstothelevel ofimpairmentexperiencedbyAmericanbanksin2007and2008.

Loans as percent of Tier 1 Capital

Real Estate Personal Commercial

Interest payments on mortgages

This time really is different

Illmakesomestatisticalcomparisonsovertheverylongterm,butthemainfocushereisonseveral periodswhenhousepricesfellsubstantiallyinrealtermsafteraprecedingboom,andwhathappenedto bankshareswhenhousepricesfell:

Australia's long term private debt to GDP ratio

Credit Impulse in Australia 1860-1940

Impulse Mean (0.1 %)

Credit Impulse in Australia 1955-Now

Impulse Mean (0.6 %)

Australian inflation rate

Annual Smoothed Mean (2.78%)

Bank Shares and House Prices

Index First Year = 100

160 150 140 130 120 110 100 90 80 70 60 1886 100

CPI-deflated Bank Shares Real House Prices

Change in Bank Shares and House Prices

CPI-deflated Bank Share Index Real House Prices

Change in CPI-deflated House Prices

The1920s1940s The1920sbeganwiththeendofthegreatdeleveragingthathadcommencedin1892.Realhouseprices rosebyabout25percentinthefirsttwoyearsthoughmainlybecauseofdeflationinconsumer pricesandthenfluctuateddownforthenextfouryearsbeforeaminorboom.Butthemaindebt financedbubbleinthe1920swasintheStockMarket.

Change in CPI-deflated Bank Shares

All shares Shares and House Prices

CPI-deflated Share Accumulation Index Real House Prices

Index First Year = 100

Bank Shares and House Prices

120 110 100 90 80 70 1920 100

CPI-deflated Bank Shares Real House Prices

Change in Bank Shares and House Prices

CPI-deflated Bank Share Index Real House Prices

Change in CPI-deflated House Prices

Change in CPI-deflated Bank Shares

Bank Shares and House Prices