In answer to EScroogeJr bullish comments about the housing market
September 24, 2007
– Comments (5)
dear EScroogeJr,
what you call funny money other people call capital.
Yes indeed there is money left over in the economy when consumption goods are payed! Its used to finance capital goods! There is nothing funny about that! Its called capitalism for a reason.
(By the way there is also something fundamentally wrong with the way you define consumption..many of the services you somehow see as superfluous are of course real consumption too.)
What you correctly sense (but wrongly explain) is that for a long time now we have produced to much capital. There is more capital around then can be profitably invested. The result of that is that the prices of investmentopportunities rise. That is also called assetinflation.
Cheap credit is itself one of the effects of the overproduction of capital. Because of the leverage it makes possible, it also contributes as an extra cause to the assetinflation.
Under these conditions assetbubbles will form. We have had five until now (dot.com/tech; housing; creditrisk; commodities; china) One of those has burst; two are in the proces of bursting; two are still growing.
The overproduction of capital has not yet stopped. That is something i think you sense correctly as well. But you seem to conclude from that, that as long as the overproduction of capital continues bubbles cannot burst...or that the bursting will always result in the reforming of the (same) bubble all over again.
That conclusion is wrong. Capital is mobile. And riskperception is what gives it direction.
Lets look at the tech/internet bubble. The nasdaq reached 5000 in 2000. It lost most of that and now slowly is recovering. It still has not reached 3000 again. And that does not tell the whole story. Many techfirms have simply gone bankrupt. Think the the dot.com sector. Others are still looking at shareprices that are a mere fragment of their former highs.
Bubbles burst because "free"capital moves away if the riskperception changes..and usually it takes a very long time for it to return.
And then of course there is also capital destruction going on if a bubble bursts.
Now lets look at housing. The riskperception in housing has very definitely changed. It has become visible that to much houses have been build. It has also become visible that a large group of existing homeowners cannot pay their mortgages. Capital has begun to move away. That began at the most mobile level. Housing related stocks began to lose value. Then the Reits followed, then the Mortgage bank stocks. Then the credit itself dried up. Homeowners are the group who's capital is the least mobile: they live in it. So they are the most reluctant to move their capital out. And that of course means that they will lose the most.
How will this play out? The bubble will burst in slow motion. The housing market will continue to be a buyers market. They will expect prices to come down even further..and will wait for it. Sellers will have to take losses. That will mean they cannot afford to pay as much for their next house...etc..etc.
Bubbles will form and burst. Then a new bubble will form ..but it will form elsewhere.
That only stops if the overproduction of capital stops. But that is something for another discussion.
Frans Geraedts
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