Making the news in China - Canada vulnerable to 'big deleveraging shock'

The Chinese headline reads: 诺奖得主：加拿大经济极端脆弱 楼市泡沫要破灭

If your Mandarin is a little rusty, it reads: "Nobel Laureate: Canadian economy is extremely fragile. Housing bubble about to burst” (hat tip VMD on Vancouver Condo Info)

It's Paul Krugman's article, which on this side of the ocean has been headlined: Paul Krugman warns Canada vulnerable to a ‘big deleveraging shock’

The Nobel prize winner suggested Canada is an important test case for what lies behind the 2008-09 recession and the sluggish recovery. In other words, if the U.S. experience is anything to go by, Canada might be undergoing a housing and debt bubble, and if so, he advised people to watch what happens next.

With interest rates at ultra-low levels and Canadian household debt and housing market stabilizing, market strategists and economists like Krugman here are scrutinizing every bit of economic data for clues on what the economic outlook will bring....

Krugman sees potential red flags in the large spread between U.S. and Canadian house prices, and the fact that Canadian household debt levels are climbing even as U.S. ones are declining.

"So if the new non-centered bank view is right, Canada ought to be quite vulnerable to a big deleveraging shock despite its boring banks," he wrote. “Of course, people have been saying this for several years, and it hasn’t happened yet — but remember, the U.S. housing bubble took a long time to pop, too."

So Krugman now joins the chorus waiting for the Canadian bubble to burst, it's lofty real estate values not appearing to have realistic means of support.

And more importantly that viewpoint is gaining coverage in China.

Meanwhile Scotiabank is out with a report that notes:

"housing corrections often last years...and this one is unlikely to be any different"

So if HAM (Hot Asian Money) is going to come flooding back to support our housing values, it's going to have to buck the conventional wisdom that Vancouver is overvalued and a sure investment loser.

Meanwhile locals continue to insist Vancouver isn't overvalued.  The latest tidbit comes from our bud Helmut Pastick who insists:

"Prices in Vancouver are... fairly valued... It's a wonder that prices aren't even higher"

Are you ready for another round of R/E hype about how 'now's the time to buy?'

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Email: village_whisperer@live.ca
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Remember, this bubble was deliberately created. Prices are NOT a reflection of inherent value

Yesterday we laid out the month-by-month evolution of our housing bubble since 2002 as seen in the average Vancouver single family house price.

Presented in that fashion, it makes a compelling list.

In a November 2011 article, the  Economist Magazine wrote: 

"Many of the world’s financial and economic woes since 2008 began with the bursting of the biggest bubble in history. Never before had house prices risen so fast, for so long, in so many countries..."

Never before have house prices risen so fast, for so long, in so many countries.

Think about that.

Despite the fact the evidence is all around us, many of us simply refuse to see what is going on.

Vancouver's house prices are not a reflection of inherent value. They are a by-product of a world-wide debt phenomena that was deliberately created.

Beginning with the dot com crash of 2000, and spurred on by the 9/11 terrorist attacks of 2001, policy was crafted to create an economic 'salvation'.

It began in America. US President George Bush, through cheap rates, lax regulation, government housing subsidies, presidential boosterism and financial engineering, managed to get the home ownership rate to 70% as part of a deliberate strategy to expand the economy.

A bubble was created BY DESIGN.

Economist Paul Krugman, writing in the New York Times on August 2, 2002, originally identified it:

The basic point is that the recession of 2001 wasn't a typical postwar slump, brought on when an inflation-fighting Fed raises interest rates and easily ended by a snapback in housing and consumer spending when the Fed brings rates back down again. 

This was a prewar-style recession, a morning after brought on by irrational exuberance. 

To fight this recession the Fed needs more than a snapback; it needs soaring household spending to offset moribund business investment. And to do that, as Paul McCulley of Pimco put it, Alan Greenspan needs to create a housing bubble to replace the Nasdaq bubble.

Yes... you read that correctly. The creation of a housing bubble was a deliberate economic stimulus move. And in Canada, our nation followed America's lead.

The financial stimulus created after the dot com crash and 9/11 - specifically designed to engineer "soaring household spending" - dramatically impacted the economy:

• Prior to 1999 you needed 10% for a mortgage and that mortgage had a maximum amortization of 25 years.  CMHC also had limits on how much you could buy with their insurance.
• Just after 1999 CMHC lowered the down payment to 5% with price limits on how much they would insure depending on the area. Amortizations were still 25 years. There would be no price limit on what they would insure if 10% or more was put down.
• By Sept. 2003 CMHC still only allowed 5% down on 25 yr amortizations, but they removed all price ceiling limitations. Now any mortgage would be insured regardless of the value of home purchased. 
• In March 2004 CMHC began allowing Flex-Down products which permitted the 5% down to be borrowed and 1.5% closing costs to be borrowed (essentially zero down, but 95% insured).
• In March 2006 you had  0% down, 30 yr amortizations. This became 0% down, 35 yr amortizations later in the year.  Interest only payments were allowed for 10 years.
• In November 2006 CMHC began allowing 0% down, 40 yr amortizations along with interest only payments for 10 years. 
• Canadian banks ramped up the easing in mortgage lending by allowing up to 7% cash back offers.  You could basically get paid if you bought a house.
• Not only were the rules surrounding the granting of money loosened, but CMHC's cap for granting mortgages grew from $100 Billion in 2006 to almost $600 Billion in 2012.

In the last seven years alone we’ve had more pro-real estate initiatives than in the quarter-century prior to that.

We've had the zero down, forty year mortgage. The ability to raid the RRSP fund for down payments. The Home Reno Tax Credit. Emergency interest rates. First-time buyer’s closing cost credit. Regulations that permit liar loans. Regulations that permit zero-down payments with cash back from mortgage lenders. And most significantly, CMHC absorbing all lender risk.

Cheap credit, artificially supressed interest rates and government policy have fuelled this real estate boom.

You must understand this... our sky-high real estate prices are not a reflection of real value but a by-product of a deliberate strategy to create a bubble and inflate the economy.

In many countries the bust of the boom created by these policies is well under way, but as the Economist noted last year:

"The bust has been much less widespread than the boom. Home prices tumbled by 34% in America from 2006 to their low point earlier this year; in Ireland they plunged by an even more painful 45% from their peak in 2007; and prices have fallen by around 15% in Spain and Denmark. But in most other countries they have dipped by less than 10%, as in Britain and Italy. In some countries, such as Australia and Canada, prices wobbled but then surged to new highs. As a result, many property markets are still looking uncomfortably overvalued."

Many here think that because our bubble has not burst yet that we are not really in a bubble and that our housing prices are not artificially inflated, but are a reflection of 'true value'.

When our Canadian bubble started to collapse in late 2008, the Conservatives moved in with massive stimulus to delay the collapse. The idea was to forestall the collapse long enough for the economy to recover and allow rising economic conditions to repair the market.

But this wasn't your average global recession (which typically last 1-3 years, 5 at most).

The Conservatives now realize the gamble won't pay off and by kicking the bubble down the road five years, the collapse could be even worse.

The fact of the matter is that the bubble is being unwound... or at least the economic stimulus that made it all possible is being unwound.

Real estate apologists are desperate to protect the image that our real estate is, in fact, a reflection of 'true value' (as we have seen the last few days on Global TV).  They are also desperate to pressure the Government to continue the artificial stimulus.

But that stimulus is unsustainable and Government must change course.

The Economist Magazine noted, Canada is "more overvalued than America was at it's peak." History tells us all asset bubbles created by excess credit ALWAYS bust.

These government policies have generated a tremendous malinvestment in real estate.

That it will be unwound is not in doubt. It's only a question of how quickly it will happen.

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Email: village_whisperer@live.ca
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What we cannot seem to see

I read a great quote today:

"Many of the world’s financial and economic woes since 2008 began with the bursting of the biggest bubble in history. Never before had house prices risen so fast, for so long, in so many countries..."

That's how a recent Economist article, 'House of Horrors 2: The bursting of the housing bubble is only half over', begins. And it makes a statement that few in Vancouver truly understand. It bares repeating:

"Never before had house prices risen so fast, for so long, in so many countries"

Vancouver's house prices are not a reflection of inherent value. They are a by-product of a world-wide debt phenomena that was deliberately created. Click the image below to enlarge and read a critical quote uttered by economist Paul Krugman on August 2, 2002:

In America, US President George Bush almost singlehandedly, through cheap rates, lax regulation, government housing subsidies, presidential boosterism and financial engineering, managed to get the home ownership rate to 70% as part of a deliberate strategy in expand the economy. A bubble was created BY DESIGN.

In Canada, Prime Minister Stephen Harper added fuel to the bonfire.

In the last six years we’ve had more pro-real estate initiatives than in the quarter-century prior to that.

We've had the zero down, forty year mortgage. The ability to raid the RRSP fund for down payments. The Home Reno Tax Credit. Emergency interest rates. First-time buyer’s closing cost credit. Regulations that permit liar loans. Regulations that permit zero-down payments with cash back from mortgage lenders. And most significantly, CMHC absorbing all lender risk.

Cheap credit, artificially supressed interest rates and government policy have fuelled this real estate boom.

You must understand this... our sky-high real estate prices are not a reflection of real value but a by-product of a deliberate strategy to create a bubble and inflate the economy.

In many countries the bust of the boom created by these policies have started. But as the Economist notes:

"The bust has been much less widespread than the boom. Home prices tumbled by 34% in America from 2006 to their low point earlier this year; in Ireland they plunged by an even more painful 45% from their peak in 2007; and prices have fallen by around 15% in Spain and Denmark. But in most other countries they have dipped by less than 10%, as in Britain and Italy. In some countries, such as Australia and Canada, prices wobbled but then surged to new highs. As a result, many property markets are still looking uncomfortably overvalued."

Many here think that because our bubble has not burst yet that we are not really in a bubble and that our housing prices are not artificially inflated, but are a reflection of 'true value'.

They are wrong. We ARE in a credit inflated bubble, a bubble that is part of a world wide phenomena. And that bubble is unsustainable.

As the Economist concludes, the worldwide housing bust is only half over and the full impact is yet to begin in many countries.

Canada is one of those countries.

We are, as the Economist notes, "more overvalued than America was at it's peak."

Unfortunatly most of us cannot seem to see that.

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Email: village_whisperer@live.ca
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Oh Yeaaah!

Prime Minister Pierre Elliot Trudeau once said that 'People who live at the foot of great mountains are often the last to climb them.'

A succinct analogy about introspective navel gazing that aptly defines Vancouver.

The latest external observer who can see what so many here cannot is Paul Krugman of the New York Times.

Now... I am not a Krugman fan. One of the media's chief promoters of the Keynesian policies driving the Federal Reserve, I have disagreed with a great many of Krugman's columns. But even Krugman appears to be recognizing what got us into the current worldwide financial mess.

Yesterday, Krugman wrote:

• "My take on the US economic crisis has increasingly been that banks were less central than many people think, while the housing bubble and household debt are the key players."

As Krugman comes to grips with this reality he opines that this is why financial stabilization by itself wasn’t enough to produce a V-shaped recovery.

We won't go into the massive amount of debt deleveraging that must occur to rebalance the economy. What stands out is Krugman's next comment.

Looking northward, across the border, Krugman weighs the combination of Canada's ever growing housing bubble with it's ballooning household debt and opines:

• "If I take all that seriously, I should be very worried about Canada."

Those of us who aren't overdosing on the Maple Syrup Kool-Aid are too, Paul.

With each passing month, more and more Vancouverites are convinced we are immune from a real estate-led economic downturn.

Too many people refuse to recognize/acknowledge that emergency level interest rates is the only thing that stands between many families and financial disaster, especially here in Vancouver.

The outcome is not going to be pretty.

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Krugman talks about Canada

Sorry about the lack of posts for the last few days. I have been enjoying the glorious weather and it has left little time for sitting down at the computer.

If anyone reads the comments section, you will note that the seller referred to in the last post has opted to contribute a comment to the blog.

For those who do not know, the real purpose of this blog is to augment the lively debates I have with my work colleagues. I preach my real estate/economic mantra ad nauseum and, rather that torment my colleagues 24/7, I try to restrict my thoughts to only half my waking hours. Referencing articles, reposting info from other sources... that's what I use this blog for: a place where colleagues who are really interested come, read and then the conversation at work moves outward from there.

(Of course, this is the world wide web. And a side benefit is that so many others around the Province, Country, World had stumbled across this site. I benefit from those others who share their thoughts with me and I am pleased anyone really cares enough to drop in here to read what I have to offer on any given day.)

Currently at work there is an interesting situation developing. Two co-workers have recently sold their homes. Both have taken dramatically different paths when it came to selling and what they are going to do with the proceeds.

In the last post I outlined one of them. Both have, this week, given me permission to speak more in depth about their general situations.

Later this week I will expand on them (and hopefully you will see at least one of them once again offer their own thoughts in the comments section.

Today, however, I note with keen interest that Paul Krugman has been moved to comment on the Canadian economy and real estate situation.

Krugman is an American economist, Professor of Economics and International Affairs at Princeton University, Centenary Professor at the London School of Economics, and an op-ed columnist for The New York Times. In 2008 he won the Nobel Memorial Prize in Economics for his contributions to New Trade Theory and New Economic Geography. He was also voted sixth in a 2005 global poll of the world's top 100 intellectuals by Prospect.

But above all he is the leading media champion of the Kenysian stimulus being used to combat the current worldwide economic crisis... which means, I am not a great fan.

To his credit, however, Krugman saw the housing collapse coming in the United States long before many others did (see, amongst others, this article he wrote in August 2005.

Now Krugman has some interesting thoughts about Canada. Speaking to the Canadian Bar Association on Sunday, Krugman spoke of the impending economic buffeting that is about to hit Canada.

Mr. Krugman said that Canada cannot be complacent in the face of disturbingly bleak global conditions, because Canadians spend too much relative to their household incomes and that our country's housing bubble has yet to burst.

(which is exactly what has been said here).

“Canada is by no means insulated,” he said. “Canadians borrow an awful lot. Savings rates have been very low. Household debt relative to income is very high here.”

Krugman recognises what so many of us seem completely oblivious towards as we carry on with our day to day lives. He expressed grave concern that the world economy is “drifting” along with high unemployment rates and low consumer spending instead of steadily recovering. Our biggest trading partner, the United States, is facing propects for its economy that are dismal: “I don't see when it will end.”

“Interest rates are as low as they can go, yet the economy is depressed,” he said. “This is a very weird place to be... When everyone decides that they want to save more and spend less, the economy shrinks. And when the economy shrinks, businesses see even less reason to invest and so investment falls.”

It means there are dark economic times ahead, but how many people in our everyday lives understand and appeciate that?

Krugman noted that interest rates are getting so low that it will soon be impossible for central governments to use them as a lever to stimulate borrowing and spending.

“The traditional response has run out of ammunition. It’s about as low as you can go,” Mr. Krugman said. “So we have depressed economies that need a solution.”

Krugman didn't go there, but I continue to maintain the writing is clearly on the wall. There is a tremendous amount of deleveraging to be done around the world - and particularly in Canada.

In Canadian real estate, it has only just begun.

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Email: village_whisperer@live.ca

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