Bubbles-A A +A
An Independent View
Monday, October 29, 2012
THE market for any product at any time may be considered as "hard," "in equilibrium," or "soft." A hard market is one in which the demand tends to exceed supply. Hence, from the law of supply and demand, prices will tend to rise.
If a market is in equilibrium, demand and supply are fairly equal and prices will be relatively unchanged. A soft market occurs when supply exceeds demand so there is a tendency for prices to fall. We should recognize that a soft market does not necessarily mean that a bubble is coming, although price corrections may take place. For the past half century, the Hong Kong housing market has exhibited fluctuations between fairly hard and fairly soft but the outcome has generally been that prices rise with incomes. In other words, it is a 'real' market fuelled by real incomes.
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What causes bubbles?
The US 2007-2009 housing bubble was caused largely by the financial services sector breaking all the rules of prudent banking. A major factor was that mortgages were being given to people who had little or no chance of being able to repay unless their incomes increased enormously in a short period of time. This was because the repayments started low and then were increased dramatically. One can argue that the borrower should not have taken on a loan that he could not handle, but borrowers, in the past, were used to dealing with reputable financial institutions that would not lend unless they thought the borrower could repay.
Once the borrower could not repay, the property was re-possessed by the lending organization. [Re-possession, in practice, is more rapid in the US than the Philippines, although there are some on-going cases in the US which are based on whether the re-possession processes were short-circuited].
Many properties were re-possessed at roughly the same time. Also, the lending market dried up because the expected cash inflows were not happening so the lenders had no money to lend. The system, predicated on an inexorable increase in property prices, collapsed.
The collapse was made more severe because the collateral on which loans were made were worth less than the loan. Other financial institutions, such as AIG, which accepted the risks (collateralized debt obligations) associated with previously risk-free loans were brought to their knees and were bailed out by the US taxpayer via the US government.
The US has shot itself in the foot. It has lost sight of the fact that its economic growth was always substantially dependent on first generation immigrants. Now it has a churlish immigration policy which, despite pre-election promises, has not been addressed in President Obama's first term. Twelve million people live illegally in the United States which means they cannot, in practice, safely become involved in activities such as house purchase, in which they may become known to the authorities. A careful easing of immigration laws would result in legitimizing some of the illegals who would then be able to move freely in the community and engage in normal activities such as house purchase. The increased demand could have mitigated some of the effects of the housing bubble.
Bubbles may also occur when items are purchased largely or solely for investment and not for their intrinsic merits and uses. Investors are fickle and may suddenly decide to sell because they believe that the future capital appreciation of the item is not assured. The herd instinct of investors can therefore cause bubbles to burst. This contributed to the US house market collapse in 2008 and has and will cause excessive fluctuations in prices of artworks.
Some artists, for no particular reason, suddenly become popular and others fall out of favor. Currently, Vermeer is 'in' and Warhol is 'out'.
A bubble is not an extension of a soft real market. It requires the additional disadvantages of unrealistically heightened demand, either by artificially facilitating purchase or by whimsical investment.
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Can bubbles happen here?
There were many disturbing features associated with the impeachment trial of CJ Corona. One of these was that his family mopped up some of the substantial liquidity associated with the fruits of his professional toils by purchasing a disputed number of high rise apartments around the National Capital Region (NCR).
Senate President Enrile, who was not born yesterday, suggested to lead prosecutor Tupas that he should also consult the Batangas Registrar of Deeds to see whether Corona's property investments went further afield. I believe that this suggestion was not followed up, or, if it was, then the results were not made publicly available.
To invest in property solely on the basis of expected capital appreciation is, as I said earlier, one of the possible components of bubble formation.
There are other disquieting features about the property market in the NCR. One is the surge in property developers' marketing creativity. I, and many others who have never shown any interest in property outside Negros, and in any case have no available liquidity, receive endless messages exhorting us to invest in shoeboxes in the Manila conurbation. Another unreassuring aspect is the assertion in the media that there is no bubble [strident claims that there is no bubble is often an indication that a bubble is forming-this was demonstrated in the US in early 2008].
The print media is particularly guilty of this phenomenon, partly due to its dependence on advertising revenue from the property sector. Nor are we happy about the use of "celebrities" to sell properties. We are not enamored with the prospect of paying more for our dwellings because they have been "endorsed" by the likes of Paris Hilton or Anne Curtis.
Prospects are not bleak, however. The Philippines has a low rate of property ownership but this is rising due to the many professionals in the 25-34 age range who are earning enough to get onto the property ladder. Demographics are very much to the advantage of the economy, with over 60 percent of the population being under 35.
We would like to see government efforts being made to decentralize the economy.
Effective decentralization would decrease the chances of property bubbles occurring because the risk of bubbles would be spread throughout the Nation.
At present, there is too little economic activity taking place in the provinces and correspondingly too much in NCR. The quality of life away from NCR is, for many, much higher. Bacolod City was recently awarded, using reasonable criteria, the accolade of being the Nation's Most Livable City. We agree. This is underpinned by the enormous variations in property prices. P1.6 million, to take an example, provides a pleasant house and lot in Bacolod but with a guide price of P80, 000 per sq. meter in a high rise in NCR the same amount only buys 20 sq. meters. Not even enough to swing a cockroach.
The banking sector is, as it should be, careful as to its lending policy. This, of course, reduces the possibility of bubbles occurring. Lending constraints specified by Bangko Sentral ng Pilipinas work in the banks' favor because they tend to generate higher profit margins than if there were a free-for-all in the housing lending market.
The market may be somewhat soft now but we shall not see the equivalent of the US housing bubble of 2008.
"The world's a bubble; and the life of man
Less than a span " - Francis Bacon (1561-1626)
Published in the Sun.Star Bacolod newspaper on October 29, 2012.