WASHINGTON (MarketWatch) — U.S. home prices fell in March for the eighth straight month, confirming the beleaguered housing market has entered a double-dip recession, according to a closely followed index released Tuesday
Home prices in 20 major U.S. cities declined 0.8% in March on a non-seasonally adjusted basis, according to the Case-Shiller home-price index released by Standard & Poor’s.
Prices fell in 18 of 20 cities in March on a monthly basis. Only Washington, D.C., and Seattle showed advances. Over the past year, only Washington, D.C., has seen prices advance.
Housing has been plagued by issues that have created a Gordian knot for the sector.
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” Housing has been plagued by issues that have created a Gordian knot for the sector ”
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(???)
Why the strongly negative view on this news ?
Lower housing prices are certainly very good news for buyers; why ignore that completely ?
And it’s also positive news from a general economic perspective– U.S. housing was way over-built & over-priced in the now obvious Housing Bubble. Lower prices will clear the market of excess inventory. This necessary correction is painful to those who malinvested their capital… but it’s a cure — not a new malady to be lamented.
Well, to be fair, that line was written by the author of the linked article. Who, it’s fairly likely, does believe sinking house prices == bad.
I think the point is that all of the misguided policy to prop up housing prices has been a miserable failure. There is an argument against letting it crash instantly, thus preventing acute shock to the economy, but housing has been in decline for 5 years now. This wallowing period has drained certainty and left people unable to plan major decisions. If housing had been allowed to bottom, say 3 ago, it would now be a bright spot in the economy, and people would be able to make better, more productive decisions regarding otherwise-uncertain asset values.
Ottawa, Canada is also AFAIK still seeing housing prices rise, also due to the continuing expansion of federal government. This is occurring under the rule of a Conservative party which is considered (by the ignorant, blind public) to be some kind of penny-pinching, heartless, crypto-libertarians.
Ottawa has a strange and unbalanced form of growth however. Because of zoning restrictions and other problems such as the huge amounts of land owned by the federal government, the new houses are being built far from the government offices, and frequently on very poor ground. In some places the houses are being built on unstable clay deposits where they are prone to sink into the ground. And although the builders pay massive development fees to the city government, it appears that the city is giving away all this money to current and retired white-collar workers, and earmarking whatever is left for ridiculous capital projects such as a mass-transit tunnel to be built under the city center. The development fees are not, therefore, being used to either build new roads or repair the crumbling existing roads. So there are many thousands more vehicles moving around which are compressed into practically the same road system that existed 25 years ago … and that road system is literally falling apart under the strain.
Evidently the federal governments of USA and Canada are in a bubble, and judging by the rumblings from the ratings agencies they are getting ready for the blowoff phase.
Government bubble.
I like that description very much. Just like any other bubble, but with a longer time scale.
The single greatest practitioner of civil disobedience is the price system.
Well, no matter how hard the government tries to control the economy, it cannot change individual minds on what constitutes value and how much each individual is ready to spend in order to acquire value.
No matter how much they try to inflate the economy, people no longer have the resources nor the will necessary to buy a house, there is simply too much house.
The housing prices are falling down amidst an inflationary environment, this means that the housing prices would have fallen even lower without government intervention. No matter how much they try to prop up the housing market, it will fall down with respect to other commodities to it’s exact market price.
“The single greatest practitioner of civil disobedience is the price system.”
That’s an excellent quote and I will repeat it ad nauseam.
But I thought we were out of the recession as of 2009…Ha! The politicians probably believe their own lies and rhetoric.
http://www.businessinsider.com/gdp-adjusted-for-inflation-2011-5
An interesting take on GDP (interesting in that GDP is a silly made up number to begin with and has no relevance to my day to day life) that suggests the recession continues. Their inflation number seems off but again it is just a made up number to sell ads on CNBC.
We are out of the recession. We’re now in the Depression.
Back in the 1920′s, one man with a menial job could afford for an entire family of 10 children and buy a house without needing a mortgage and the wife was staying at home, cooking, cleaning and tending to the children.
Today, try to do that even on a high wage job. I don’t see how our civilization has progressed.
On my blog above I attack using some historical examples the concept that free banking could have prevented the housing bubble – the current fox/auatrian false history.
House price crashes do cause real economic problems through creating negative balance sheets on banks, but they cant be avoided once house prices become overvalued. There is an article there on how the Chinese house price bubble is likely to provoke a Chinese banking crisis with global implications.
Faux austrian economics is exceptionally weak on these issues holding to outdated ideas on credit and banking.
Mr. Lainton, I don’t think you have an accurate grasp of Austrian economics if you think the Australian land boom is an example of it’s weakness. The key cause of the inflationary boom/bust cycle, as I understand it, is credit expansion caused by fractional reserve banking. Rothbard says this amounts to fraud. So while the 19th century Australian banking system may have been very lightly regulated, it is better termed “fraudulent banking” than “free banking.”
Indeed, since CBs are enablers of fractional reserve banking and credit expansion, and their existence serves to not allow markets to be free, it is absolutely fallacious to call any place with a CB a “free” banking system.
Not at all as I demonstrate in my post there are examples of housing boom/busts in jurisdictions with 100% reserve banking. Islamic banks in UAE are a good example, housing booms in Amsterdam in the 17th Century are another. This is a black swan – it disproves the modern Austrian theory of the housing cycle.
All that is required for such a boom to occur is for the bank to mis(over)value the default value of the asset loan is lent against (land). This is a true Hayeckian Austrian point. Rothbard is mistaken on this point.
Also in a free market if the demand for credit is high but less available in full reserve banking the laws of supply and demand and the quanity theory of money tell us that the velocity of money will, increase. In fact this has happened in every housing boom in history whatever the banking system. For example properties being sold several times a day at ever higher prices (as in the pre-repression Florida land boom).
How can a free marketeer believe in banning financial intermediation – a critical function of free markets – because those undertaking it ‘cant be trusted’ to value assets secured against loans. I cant think of any bankers that advocate free banking that hold to Rothbard’s impractical and inconsistent position.
There is no getting around this point – there is a lacuna in Austrian thinking on this point – it needs a new theory of credit and banking.
Uh huh. All of your examples show fractional reserve banking at work. The property bubble in Dubai was due to excess liquidity created by FRC throughout the world. Islamic banks bought the bubble and paid for it. Not exactly a repudiation of a 100% reserve requirement. All you’ve proven is that, politically, the solution to the problem is most likely impossible.
As for companies not having access to credit, they would have access to real credit. Sustainable credit. Amsterdam flourished under a 100% reserve requirement.
You are redefining ‘fractional reserve’ out of all meaningful use.
Islamic banks are 100%. You are right, there was excess liquidity, but not from fractional reserve, but investment from ‘real’ wealth, sovereign wealth derived from oil. Too much money all at once going to other sectors of the economy before it had time to adjust without a bubble. Liquidity yes, fractional reserve no, quite different transmission mechanism.
In those 100 years Amsterdam had the mother of all propert bubbles – referred to wrongly as the ‘tulip bubble’ read your fred harrisson. It finished them off as a global power.
Exactly what is your definition of ‘fractional reserve’ – is it meaningful if it can be stretched to any case where there are no reserve requirements, 100% reserve requirements or even no banks in the western sense?
Are you serious? UAE central bank flooded the market with new money (created out of thin air). Real interest rates were negative in Dubai. How do you think that happened? This is investment without savings as its backing. This is exactly what “Austrians” say causes the boom/bust cycle. Central banks throughout the world have been doing the same. And oil being over $100 a barrel has nothing to do with “real” wealth. It wouldn’t be there without central banking and FRC.
As for the tulip bubble, Doug French has done an excellent recap of that experience. Read his book … the Austrians have an explanation.
I honestly don’t think you understand the argument here. To say that the Dubai bubble has nothing to do with central banking and FRC is patently absurd.
There was no CB in Melbourne in 1892 – dont read history through a modern ideological lens.
The UAE dinar is fixed to the dollar, its not led the fed, they couldnt print money to excess of exchange rate inflows from oil revenues or they would have depreciated the currency and created arbitrage opportunities causing banking collapse.
UAE had a central bank, not free banking, but 100% reserve banking in its private banks. Even if you hold your view it is not compatable with Rothabrd who holds that full reserve per se is the solution.
The theory needs to be generalised to account for excess liquidity in situations where there is no fractional banking, free banking, full reserve banking and no banking. Excess liquidity is a risk in all market economy structure, it is a law of markets.
Austrians arnt following their own principles enough.
The responses so far seem to be – there was a bubble so there must of been fractional reserve banking -illogical guys. No there was not – so fractional reserve banking cannot be the sole cause of bubbles.
In the absence of central banks and fractional reserve banking and bankruptcy protection:
Depositors pay a fee to have a bank store their money. Individuals can also invest money in a bank, which is then lent to borrowers. Under this system, could banks fuel a housing bubble by overestimating the future value of real estate? Yes, but only if enough individuals were keen to risk their money investing in banks. And those who chose not to invest would be, in the main, immune from the ill effects of the bubble, so long as they didn’t buy real estate near the top.
Would borrowers be keen on mortgages which, if real estate prices went south, might mean the borrower would be in debt the rest of his life? Yes, there would be such fools. But fewer fools than under our current system where the State forces lenders to forgive debt.
Overall, I don’t think the severity of the boom/bust cycles would be as bad as under our current system. Individuals would have less reason to invest in banks, since the purchasing power of their money would be more likely to maintain itself, or increase, over time.
No in full reserve banking it decreases over time discouraging saving, several Austrian authors have written on this disagreeing whether it is a good or bad thing. I think its a bad thing and the costs outweigh the benefits. There are better ways of damping booms and busts.
You presume that debt forbearance is a bad thing, banks dont want to do it and the state forces them to. Not true universally. In the uk at the moment the opposite is the case. Forbearance is profoundly countercyclical, foreclosure can cause a double dip – i have a detailed post on the issue here – look up too ‘the paradox of deleveraging’ – i.e. if every bank forecloses at once you get a recession.
http://andrewlainton.wordpress.com/2011/06/01/will-us-housing-market-trigger-a-double-dip/
Warning its macro – a language the degenerate generations of Austrians have yet to learn
How are you defining ‘excess liquidity’? If a bank has a 100% reserve requirement, it can only lend out what is deposited, where is the excess liquidity? If you’re defining it as money and credit created and loaned beyond what is held in reserves, this is only possible under fractional reserve banking. I personally am not fully anti-fractional reserve banking, I believe it could be an option on the free market if depositers are aware of how their money is being used.
And are you claiming that there was not a housing bubble? Your writing is a bit hard to decipher.
Does Austrian economics portray fractional reserve as the sole source of economic miscalculation?
Without fractional reserve banking would the housing bubble been of the same size?
It is commonly held that it was foreign investment that caused the runup in Australian land values so your assertion that fractional reserve banking had no part in that buildup is left lacking.
“Arguably the definitive bubble in Australian history occurred during the 1890s, following several decades of economic and population growth fuelled by government investment in infrastructure, intensified agricultural development after early settlement and the emergence of a substantial domestic manufacturing base funded by local and UK capital. Aggregate overseas investment, primarily from the UK, in the four major colonies from 1876 to 1880 was around £33.6 million. That climbed to £70 million from 1881 to 1885; from 1886 to 1890 it was £100 million (of which over 50% went to Victoria).
“Those problems had overseas counterparts: the spectacular collapse of UK promoter Jabez Balfour (1843-1916) in 1892 for example involved £7 million – the equivalent of several billion dollars in today’s values. However, along with a withdrawal of funds from overseas and reconstruction of local savings and trading banks they resulted in a general crisis of confidence.”
http://www.caslon.com.au/boomprofile6.htm#roaring
Clarification:
Without fractional reserve banking would the recent housing bubble been of the same size?
We are getting somewhere in recognising that there can be multiple sources of miscalculation in a bubble, I would still argue that fractional reserve banking is not the primary driver – any expansion in credit must require a perceived growth in an asset more than nominal returns interest rate.What causes that growth in returns mass hysteria alone?
In the Homer Hoyt/Henry George theory land cannot expand as quickly as other factors of production in a growing economy it has low or no elasticity of supply – so this is the origin of the cause – effect relationship creating the demand for credit.
This demand would have existed had Austrailia had exchange controls in the 1880s cutting off the flow of inward investment.
I agree though that some forms of banking can considerably worsen the situation, but that that history teaches us that the current housing bubble would have been much worse with free/wildcat banking even with a gold standard.
My argument is that the focussing of fire on a central reserve bank is misplaced. This point seems to be conceded as the argument now is whether the problem is fractional reserve banking even in a system of free banking
In the credit free full reserve world you dont get economic growth so bubbles are repressed. I concede the point but it gets you nowhere economicially
Consider Micheal Rowbotham’s argument
‘since debt and the interest on the debt can only be paid in the same form of money, the total debt (principal plus interest) can never be paid in a debt-based monetary system unless more money is created through the same process. For example: if 100 credits are created and loaned into the economy at 10% per year, at the end of the year 110 credits will be needed to pay the loan and extinguish the debt. However, since the additional 10 credits does not yet exist, it too must be borrowed. This implies that debt must grow exponentially in order for the monetary system to remain solvent’ No profits fill the gap – hence in a market economy profit rates tend to equal interest rates.
This is the french circuitist argument, banks endogenously create money to fuel growth, if there is no miscalculation this explains the profit puzzle. Jeremy Bentham made the same in point a pamplet 300 years ago http://mpra.ub.uni-muenchen.de/20371/. Credit fuels growth – in full reserve banking you get deflationary growth – see the Austrian Steven Horowitz http://books.google.com/books?id=DFv6OzeBWpQC&pg=PP3&dq=steven+horwitz++banking&sig=VZasp_8pGVvpQsFKMI3W9yp4AlM#PPA231,M1 which is painful as it depresses savings.
Friedrich von Hayek, in his nobel prize speech 1974 accepted that bank credit and fractional reserve banking — even if they contributed to business cycles — were necessary as “the price we pay for a speed of development exceeding” that which would otherwise be possible, and that “financial institutions have never been prohibited from holding fractional reserves”.
Austrian Geoge Selgin has argued ‘As for fractional reserve banking, I think it’s a wonderful institution and that it’s crazy to argue that we need to get rid of it to have a stable monetary regime. Those self-styled Austrian economists, mostly followers of Murray Rothbard, who insist on its fraudulent nature or inherent instability are, frankly, making poor arguments. I don’t think the evidence supports their view, and that they overlook overwhelming proof of the benefits that fractional reserve banking has brought in the way of economic development by fostering investment.’
Consider the origins of fractional reserve banking. John Law created it as a wheeze to pay off the French war created debt in the time of Lois the XVI – the flaw though was not fractional reserve but his ‘real bills’ doctrine, that credit backed by assets is not inflationary. Credit expanded on the false value of assets was inflationary and caused the Mississippi bubble, people had so much cash they hired hunchbacks in paris as writing desks, the next year they were begging on the streets.
Henry Thornton destroyed the real bills theory – suppose actual capital yields (or land yields) returns higher than the rate of interest (or discount) charged by the banks? Would not investors demand an interminable amount of notes – however “real”? Bills offered for exchange into notes, he argued, might not readily be “limited” as the Real Bills advocates argued. Inflation must thus ensue. Thornton’s analysis formed the germ for the later “cumulative process” of Knut Wicksell. The argument is that the expansion of the money supply must be limited and predictable.
With the rise of financial intermediation we have in effect seen a return to a real bills approach by banks and actually a huge lessening of the power of central banks.
The rothbard argument is because money supply can rise too quickly through exuberant lending it should never rise. If it gets too hot in the desert the sun should never come up.
@ maggie – i define liqidity in the macro sense – that is the total amount of spendable funds available in an economy – an increase can come from more than credit i.e. petrodollars in an oil state. Excess liquidity can have lots of causes not all of which are solely monetary in source.
Yes there was a credit bubble debt fuelled, but the causes of that are embedded deeper in economic laws than this half centuries flavour of the month banking system – they are endemic to capitalism. Rothbard to me seems to want to wish away one of its key components.
I think what you’re doing here is taking one aspect of Austrian thought, and inserting it into your own understanding of economics, and then marveling at the contradictions. I don’t think these would be present were you to examine the Austrian school of thought as a whole.
At the heart of Austrian economics is that value is subjective. Each person will rank available goods and services on a scale from greatest to least utility based on their own perceptions of reality, and this determines how much they are willing to pay for things. Because people are act on limited and often incorrect information, and are subject to inconsistency and whim, our assignments of utility will vary from person to person and even within people over time. Furthermore, there is no iron law that says the aggregation of perceived utility (demand) must parallel actual utility at any given point in time. Rather, because investors and consumers often mistake short-term anomalies for long-term trends, the overall demand for an asset at times will be much higher than it should be, and when new information becomes available that indicates the divorce between perception and reality, the perceived utility, and thus the demand, and thus the price for the asset will come crashing down. So rather than precluding that bubbles will not happen without fractional reserve lending, the Austrian school *guarantees* that they will occur simply as a consequence of rational (or irrational) decisions being made based on incomplete information.
The functional problem with fractional reserve banking and central banking (to say nothing of the moral one) is that they send misleading signals to investors about the scarcity and utility of money relative to all other things, and as a consequence they make bubbles bigger by delaying corrections that would have come were information to arrive as it normally would. The Austrian contempt for central banks is not misplaced. We need central banks like a fish needs a bicycle.
I’ve lifted the following quote from Mike Shedlock’s blog:
“…place the blame where it belongs, on the Fed. The Fed held interest rates too low, too long. Money was too loose, banks lent.
Blaming banks for lending when real interest rates are hugely negative is tantamount to placing a bottle of vodka in front of an alcoholic, telling the alcoholic it is the best vodka in the whole world, then blaming the alcoholic for what happens next.”
The argument about the theory of value is precisely mine, subjective misvaluation explains exhuberence, but that this can occur under many different institutional structure of financial intermediation.
I do know the subjective theory of value.
Now what is the real problem, is it a central bank- freebank thing, is it a full-reserve-fractional reserve thing or is it a real bills-hard money thing. Noone has pinned this down? Or is it like a cube with good and bad corners of the three degrees of freedom.
I concede that setting a rate of interest below the natural rate feeds a bubble.. But this has equally happened under free banking where new money enters the sector they set an interest rate below the natural rate feed a house price boom and go bust.
You need more than to explain the fuel you need to describe the engine. You need to do more to cure an alcoholic than replacing whisky with beer, you need to find out and fix what caused the disease in the first place. Putting it simply booms are caused by a gap between interest rates and asset price returns – giving false perception of risk free arbitrage – real gaps not subjective ones and wholly irrespective of time preference. You need to explain both sides or you have an incomplete theory – not just the interest rate but also why – for a time – asset prices are higher. Minksy here is good reading.
“You need more than to explain the fuel you need to describe the engine.”
Do you still not understand? Human miscalculation *is* the engine! It will happen in the course of human events as long as people are people. But by fraudulently distorting the availability of money, fractional reserve banking fuels miscalculation. Central banking allows fractional reserve banking to occur with less risk, and further distorts valuations in its own ways. So we have one fire and two ways of dumping gas on it. The solution to not having the fire in the first place is for people to be completely omniscient and completely rational. I for one am not going to hold my breath for that to ever happen. On the other hand, we can do something about the two institutions that consistently make the problem worse: abolish central banks, and inform people about what happens to their money when they put it in a bank.
Do you not understand between what and what.
My concern is that it must be between a real interest rate and an asset price. Its a two way gap. The austrian theory only looks at the interest rate. Even if one accepted the austrian theory view of frac reserve this is not a sufficient theory logically to explain cycles. There has to be a cycle of asset prices rising faster than interest rates to generate the perceived arbitrage opportunity that fuels this.
The austrian theory is if you break it down that people in demanding credit are defrauding themselves. This just isnt good enough. Of course entrepreneurs will demand credit if they see a chance – it is what they do. The Rothbard theory is fundamentally anti mengerian, anti hayeckian and anti Boehm Baweckian on this point – on you know what they didnt oppose fractional reserve banking.
It requires an explanation of why certain assets are in short supply at certain points in time to generate the profit opportunities. What is your explanation?
Again, I don’t think you’re as familiar with Austrian economics as you think you are. I’m certain that Rothbard and Hayek would agree that if you got down to brass tacks, the necessary and sufficient cause of all malinvestment is human propensity for error. Anything else that provides misleading signals is not the cause of bubbles, but instead acts as a catalyst in turning bad decisions that would be a speed bump into an epic disaster.
I may not be understanding you correctly, but it sounds to me like you want the market to be something that it isn’t. The market is a sort of popularity contest and is subject to the same limitations of all the human actions that constitute it. Humans have brains that are wired to help us evade bear attacks, and even when we are trying to do tasks like decide to buy or sell a commodity, the bear attack evasion subroutine is always running, so we herd together, and the market will jump up and down. That’s not the only problem with our mental hardware, just an example of course. But as we are limited, so the market will be limited, and creating a different market with perfect pricing that is based on knowledge that we can’t ever attain is a fool’s errand. We simply don’t have the tools for the job.
However, the market that we have right now, undesigned as it is, is still a good system of sending signals to producers and consumers about what society needs. If something is scarce and in demand, and produce it and you will be rewarded, while you can only consume it at the cost of other consumption. If you think that something is undervalued, buy it! If you think something is too expensive for what it does, short sell it. In doing this, you send signals to other people about your opinions on its value. You can be the change you wish to see in the world.
Im entirely modest about my knowledge of Austrian economics and I think you post is very well crafted.I am provoking some debate I hope in a sphere of knowledge has become a little too ‘orthodox’ in its heterodoxy. One of the points I bang on about here and on my blog is that if rationality is so limited and there are aspects of human behaviour in groups which expose our flaws this rather undermines the Misean praxeology, as it implies that there are certain aspects of group behaviour in markets which are ‘pre-human’ such as in anthills, bird flocks, beaver mounds and beehives.This is not an attempt to undermine simply to suggest a wider view.
“One of the points I bang on about here and on my blog is that if rationality is so limited and there are aspects of human behaviour in groups which expose our flaws this rather undermines the Misean praxeology, as it implies that there are certain aspects of group behaviour in markets which are ‘pre-human’ such as in anthills, bird flocks, beaver mounds and beehives.This is not an attempt to undermine simply to suggest a wider view.”
Explain how. Are you trying to suggest the behaviour is -not- purposeful, and if so on what basis? Because ‘rational’ on the Misesian view is simply purposeful behaviour. It is not a very high standard of rationality, and a lot of critics of Austrian econ get this very basic point wrong, setting up strawman attacks on it. Still others tend to conflate it with emotionlessness or lack of errors, but it’s neither of these.
BTW if your understanding is only modest, it’s best not to make sweeping, bold claims and throw about terms like “faux” Austrian economics, don’t you agree?
I think that you don’t know as much about Austrian economics as you think you do. I’m certain that Rothbard and Hayek would agree that if you got down to brass tacks, the necessary and sufficient cause of bubbles is the human propensity for error. Any misleading signals given to actors in the marketplace are not causes themselves per se but rather they are catalysts that turn mistakes that would be mere speed bumps into epic disasters.
I may be misunderstanding you, but you seem to want the market to be something that it isn’t. The market does not know everything, but instead can only reflect the knowledge of all human participants within it. It’s a popularity contest of sorts and as such it will be limited by eveything that limits us. For instance one of our limitations is that our brains are wired to help us evade bear attacks, and so things like buying and selling a commodity are subject to the bear evasion subroutine, which leads us to herd together, and as a result the market will ignore things for too long sometimes and overreact other times. People will overestimate supply, people will underestimate supply, people will overestimate demand, people will underestimate demand. But since nobody knows the future, any attempt to make some perfect pricing system that anticipates every event for the rest of history is a fool’s errand.
However, as Hayek said, the undesigned marketplace that we have is the best tool available for allocating resources within society. Prices are signals. If something is expensive, it is a signal telling people to produce more of it, or consume less of it. All market participants help steer the ship. If you think something is undervalued, buy it. If you think something is overvalued, then short sell it. In doing this, you inform the rest of society about your opinion of said thing’s value. When spurious signals are sent through fraud, counterfeit, price fixing, etc., we are unable to discern which information we are getting is good and which is bad, and our decisions cannot possibly be improved compared to what they would have been if we were acting on only good information. If you have a problem with this explanation, I don’t blame you. Having a problem with the human condition is a neurosis that we all have. You’re in good company.
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