to be seen; deflation is a real risk in Europe and house prices seldom hold their value in a deflationary environment.
In Spain, as in most jurisdictions, a borrower who defaults must pay the bank back for any deficit that arises on the sale of a foreclosed property. Closer to home in Alberta, on the other hand, the homeowner (under certain circumstances) can just hand the house back to the bank with no residual liability. Some U.S. states allow the homeowner to walk away from the post-foreclosure debt. In Ontario the laws are more onerous; the homeowner (borrower) must pay the difference (deficit) after defaulting. In Spain this requirement has led to protests and squatters occupying empty apartments. According to the National Institute of Statistics in Spain, more than 13 percent of properties are vacant. Of course, extraordinarily high unemployment in Spain forced many borrowers to default on mortgage payments (and even rent payments). Spaniards are reluctant to declare personal bankruptcy since there is no debt discharge. “All the present and future income of the debtor must be used to pay back ... debts.”[5]
In the United States, unemployment rates never reached the highs in Spain and other peripheral European countries of over 25 percent, but the United States still experienced a dramatic housing collapse. The debt levels associated with housing surged and then house prices fell, leaving the borrower to sink underwater — meaning they owed more on their mortgage than the house was worth. As recently as 2011 more than 50 percent of mortgage-carrying homeowners under the age of forty were underwater. Of course the measure of underwater is somewhat subjective as appraisals during a real estate crisis are just estimates. There is no way to know what the house would sell for in a distressed market with so few buyers.
According to Zillow, a company that operates the largest home-related online marketplace in the United States, at the end of 2012 about 27 percent of mortgaged homes in the United States had loans greater than their value, an improvement from 31 percent at the end of 2011.[6] Another 18 percent of homes carried mortgages that were 80 to 100 percent of the home value, which made them dangerously close to going underwater if the market slumped again due to a recession. The housing recovery in 2012 moved a number of homes into the positive column from the negative although it also makes them more likely to be put up for sale, which threatens to slow the recovery in house prices.
These numbers in Spain and the United States are merely statistics to those of us in Canada who are used to consistently rising house prices punctuated by the occasional brief pause or slight decline in the price trend. It can’t happen here, people believe, since it hasn’t happened for more than twenty years going back to the 1990s. But why couldn’t it happen here? It’s obviously happened in the United States and Spain. Are we really that different? As well, it did happen here in the early 1980s and the 1990s, so it could happen again. Or, as the saying goes, “perhaps this time it’s different.”
The U.K. Experience
Figure 3.3 [7] shows that housing prices in the United Kingdom soared to bubble levels as values tripled from 1998 to 2013. This British bubble, like Canada’s, grew to be even bigger than the 2006 peak in the United States. Speaking about his home country of England in March 2014, Roger Bootle, chief economist of Capital Economics, told the Daily Telegraph: “It is easy to persuade people that property is a one-way bet and for speculative behaviour to take hold. This is happening now. It isn’t only about greed. It is also about fear — the fear that if you don’t buy now, you will never be able to afford to. This feeds on itself and a bubble inflates.”[8]
The fevered behaviour he cites, which seems to be widespread among former colonies, might be related to the English common law structure of land ownership or central bank policies, or to the view that British Commonwealth countries are a safe haven. Whatever the reason, home prices in the United Kingdom, Canada, Australia, and New Zealand seem to be leading the way in overpriced housing bubbles that have yet to correct in the early part of the twenty-first century.
Bootle goes on to say: “For the next year or so at least, the housing market is cast in its time-honoured role of creating an illusion of prosperity and helping the governing incumbents to win the next election.”
A well-intentioned but misguided program in the United Kingdom is adding fuel to the fire. The help-to-buy program allows people to get into real estate that they couldn’t afford without help. Here is what economic commentator Francis Coppola said, with some sarcasm, about the scheme in September 2013:
The latest crackpot scheme for helping people to buy ridiculously overvalued property is the U.K.’s help-to-buy scheme. The first version of this scheme was effectively a subsidy to house builders, since it guaranteed part of the mortgage on new build houses only. Not surprisingly, house builders loved it and almost everyone else hated it. It was panned by the Chancellor’s own department, and the IMF and the Organisation for Economic Co-operation and Development (OECD) both expressed concern about its possible effect on an already overblown housing market. So of course the Government is now extending it — to buyers of existing houses and remortgages.[9]
In September 2014 the U.K. government added a 20 percent discount on home purchases for first-time buyers to the scheme.
Mark Carney, former head of the Bank of Canada and now governor of the Bank of England, brought with him Canada’s penchant for using housing as a stimulus for the economy while risking an unsustainable bubble in the process. Of course, the housing bubble in England is observed mostly in London and is driven by the city’s elite status as the world’s leading financial industry centre.
But what about a country very similar to Canada, where every major city has house prices that are unaffordable?
The Bubble Down Under
In January 2000, according to the Reserve Bank of Australia (RBA), bank lending to persons for housing as owner-occupiers was A$165 billion. In September 2013, bank lending to the same category reached a total of A$800 billion, an increase of five times. This runaway growth in debt leverage makes Canadian speculators look timid. To accomplish this mind-boggling increase in debt there are four banks, all ranked in the top twenty in size in the world, which is odd for a country of just twenty-three million. According to Lindsay David, author of Australia: Boom to Bust, “the banks have ‘bet the bank’ on Australian real estate and natural resources.”[10]
We saw in Figure 1.2 that the Australian house-price-to-income ratio is more than 35 percent above the long-term trend line, an overpriced housing market that is very near to Canada’s ratio. Recall from Figure 1.1 that Australia and Canada stood out as two markets with the most rapid house price increases in last forty years.
Incomes failed to keep pace with house prices in Australia, meaning that Australians devote an ever-larger portion of their disposable income to housing. Obviously, they must enjoy their houses a lot or, similar to Canadians, they believe that prices will keep rising indefinitely and they don’t want to miss out on speculative gains. Certainly it wouldn’t be a shortage of land causing the price increases, since, like Canada, Australia is one of the least densely populated countries in the world. In fact it’s a great irony that three of the most sparsely populated countries in the world — Norway, Australia, and Canada — have such expensive housing.
In September 2014, the RBA reported that “the composition of housing and mortgage markets is becoming unbalanced. This has been evident in the current strength of investor activity in the housing market … the apparent increase in the use of interest-only loans … might also be consistent with increasingly speculative motives behind current housing demand.”[11]
Australia’s central bank, like the Bank of Canada, issues warnings but there is little they can do to restrain speculation short of jacking up interest rates. Australia enjoyed a decade-long surge in incomes due to favourable
