Working Papers

The Biggest Bubble in History?

House prices feature on the cover of The Economist.  With its usual hyperbole, the Economist claims that house prices are now ‘the biggest bubble in history.’  Its benchmark for this claim is the percentage change in the capitalisation of the housing stock relative to GDP.  Apart from the dubious stock versus flow comparison, the Economist would have us believe that this is all pure asset price inflation: 

the biggest increase in wealth in history was largely an illusion.

The many real factors that might be contributing to an increased capitalisation of the housing stock are all irrelevant apparently.  With all the authority of a hellfire preacher, The Economist claims to have seen it all coming and proclaims ‘the day of reckoning is closer at hand.’  It is all just so shriekingly obvious to The Economist.  It’s everyone else that must be stupid:

The rapid house-price inflation of recent years is clearly unsustainable, yet most economists in most countries (even in Britain and Australia, where prices are already falling) still cling to the hope that house prices will flatten rather than collapse.

I would suggest that what economists are clinging to is the intellectual modesty The Economist magazine surrendered a long time ago. 

The great Max Corden once said that worrying about something that is ‘unsustainable’ is like worrying about the growth rate of a teenager.  Australia’s experience both historically and with the current moderation in house prices certainly points to the ‘flatten’ rather than the ‘collapse’ scenario.  The fact that falling house prices have made the cover of The Economist, notorious as a contrarian indicator, is perhaps the most reassuring sign yet.

posted on 17 June 2005 by skirchner in Economics

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Stephen, there must come a point at which even you becomed concerned that a bubble is developing?  Sure, The Economist has predicted 20 of the last 3 bubbles, but lets not pretend bubbles don’t happen.  Were you just as confident there was no bubble in US tech stocks at the turn of the century?

Posted by .(JavaScript must be enabled to view this email address)  on  06/17  at  05:07 PM

I accept that there are asset price booms and busts and house prices are far from being immune to them.  My objection is to the characterisation of this process as a ‘bubble.’  It is a term used to avoid analysis rather than advance it.

Booms and busts are not an exception to the normnal processes of asset price determination, they are an essential part of it and not necessarily a bad thing.  This article comes very close to my view on ‘bubbles:’


Posted by skirchner  on  06/17  at  08:16 PM

I have a hard time buying the “bubbles are good” argument considering what happened in Japan in the 1990s, and the still unresolved consequeces of the dot com bubble in the US.  It seems that bubbles create a short burst of prosperity followed by years (decades?) of economic pain.

However, I’m unconvinced that central banks should attempt to deflate bubbles late in the cycle rather than let them run their natural course.  The RBA probably made things worse than they otherwise would have been in the late 80s.

It would be nice if bubbles could be prevented somehow, or nipped in the bud early in the cycle, but perhaps that’s just wishful thinking.

Posted by .(JavaScript must be enabled to view this email address)  on  06/17  at  08:56 PM


As a trader, you can take from me, that you cannot predict a crisis, you can only react top it. I have seen far too many people die a traders death predicting the demise of something.
There is an old traders’ adage about the current account deficit that can be related to other areas.

The current account deficit becomes a problem only when it becomes a problem. No one minute before.

So it’s well and good trying to predict a fall in real estate, I have being reading this since 2000.

If I had taken that advice I would still be living in a rented house since then. Meanwhile 5 years disappeared from my life!

Posted by .(JavaScript must be enabled to view this email address)  on  06/21  at  05:04 PM

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