Even More From Steve Keen

Makes For Interesting Reading

Here’s the latest from Steve Keen, sent in by Pleiades.

So is the chopping of The Block a sign that the days of ever-rising house prices are over? Not if you listen to Christopher Joye (Property’s fine forecast, August 25). The median forecast of the “21 leading market economists” he polled was for 5 per cent growth in nominal house prices per annum for the next ten years, which Chris notes would suggest “that they will likely be 55 per cent higher in ten years’ time”.

Good luck with that. As Chris notes, my forecast wasn’t included, but it should be no surprise that I expect a fall in house prices of about 40 per cent over the same time period.

I differ with the 20 who predicted positive price growth for one simple reason: I focus on the role of debt in driving house prices. Having argued that debt drove prices up over the last fifteen years, I now expect debt to drive them down again.

The mechanism is simple – but it’s not part of conventional ‘neoclassical’ economics, which is why Chris and his surveyed market economists don’t consider it. Aggregate demand is the sum of income plus the change in debt, and this is spent on both goods and services and assets. There is thus a link between the change in debt and the level of asset prices (and the fraction sold, and the quantity produced, but I’ll focus on just house prices for now).

Going one step further, the change in aggregate demand is the change in income plus the acceleration of debt. There is thus a link between the acceleration of debt and the rate of change of house prices. If this relationship is strong, then rising house prices require that the rate of growth of debt rises over time.

The first thing that pops into my head is that the moment the real estate asset class starts to nose dive, the RBA would be cutting interest rates to shore it up as much as it can, because let’s face it, if the banks lost 40% on their mortgage books, there will be widespread panic. More likely is the scenario where the RBA is going to wind it back towards earlier norms slowly, but can it be done? At least for the next decade, you’d have to concede that Real Estate is a bad bet.

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