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Australia, meet Dubai

The property market is Dubai is crashing and burning as we speak.  It was inevitable of course, but never underestimate the perseverance of a property boom.

On that note I want to talk about the future here in Australia.  In 2010 and beyond I foresee the following sequence of events.

1. Rate hikes of another 0.5%
2. Property prices will flatten and fall in some areas
3. The government will run out of ways to keep housing demand propped up – we had more cash injections and foreign buyers (although as yet I can’t imagine what else may be dreamt up).
4.  Inflation will be a major concern again – the USD will recover and the fuel price here will head up.
5.  September 2010 will lead to another correction on the share market, taking the ASX200 down below 4000 again.
6.  But then a strong rebound in November up to 4400
7.  House price will stabilise at 10% below their peak (in nominal terms) but real growth in house prices will not occur until 2015.
8.  A Current Affair and Today Tonight will has specials about house prices crashing in certain areas and people being forced out of their homes by mortgagees.
9.  Even while this is happening, people will continue to shout and scream about a housing shortage and argue for reduced taxes on developers (even though we have the world's biggest houses)
10.  The 2011 census data will show that demolition rates were less than expected and that the total number of dwellings in Australia is higher than expected (the remarks by the RBA’s Ric Battellino seemed a bit pushy on the supply constraint issue).

It’s not a catastrophic forecast, but it seems reasonable to me. Anything I've missed?

Why all this property market discussion from an ‘environmentalist’?

I’ve been thinking of changing the title of this blog - mostly because the term environmentalist is associate with fairly extreme views on the protection of ‘natural’ environments and other species, and partly because I also have a keen interest in the property market.

But in my mind, understanding property is the key to a reasoned approach to preserving our quality of life by preserving environmental amenity. Maybe I am more of a ‘quality of life’ economist who believes there are many non-market goods, including the quality of, and accessibility of natural environments, that are major contributors to our well-being.

However the increasing fanaticism I have observed in some areas of the climate change movement, the lack of ability for some environmentalists to see the forest for the trees (pun intended), has lead me to distance myself from some of the core environmentalist views.

Take the topic of the moment, climate change. Why don’t we hear about

- Any potential benefits of climate change
- The statistical reality behind some of the conclusions
- Other important environmental issues that are cheap to address and provide immediate direct benefits

I feel like climate change is crowding out other local environmental concerns that will immediately contribute to quality of life of Australians.

In my mind, a quality combination of land use and environmental controls in our cities and towns can contribute far more to the well-being of society than other popular environmental issues.

So what then of the blog title? Any ideas? Or does the economist part imply a rational approach?

Is road congestion the best allocation mechanism?

Congestion is a darling topic of politics and the media, and a topic of many conversations around the barbeque. But what is it? Is it a bad thing? Do we want more of it or less of it?

I define congestion as a condition of a network (of roads or other conduits) whereby the existence of extra users slows the rate of progress of all other vehicles. Given this definition, there can be a little congestion, where progress of road users is slowed a little, or plenty of congestion, where progress is greatly slowed.

Real Estate Review

My colleague is looking for a real estate agent to manage her house after downsizing to an apartment, choosing to keep the house as an investment.

She is facing a conundrum I have faced before. How does one go about comparing the performance of property managers before committing to a management contract?

Can the market for property management services be competitive without reasonable access to information?

Are Chinese buyers affecting house prices?

Respected economist Alan Wood notes here why he believes small increases in foreign investment in the Australian real estate market will not have a tangible impact on home prices.

While it is nice to have a little calm to a situation that is sure to encourage exaggerated media spin, I’m not sure whether Wood’s claim holds - that because Chinese investors are a small percentage of buyers there will be little to no impact on prices. If we make one assumption, that Chinese buyers are willing to pay more than local and other foreign buyers, then his claim completely breaks down.

The following stories might help explain why.

Some empirical support for land economics

There has been a paper recently published by Andrew Leigh, Economics Professor at ANU, which empirically estimates the impact of stamp duties on the housing market.  I found out about this paper through Chris Joye’s blog at Business Spectator, although I regularly read the Core Economics blog, where it was also linked with some added thoughts from Andrew.  I mention this only because I have now been involved with discussions about the paper at these sites.

I need to quickly summarise Leigh’s findings before moving on to the important theoretical and political implications.

His main finding is that if stamp duties are raised, house prices will fall by more than in the increase in the tax.  Did you get that?  If you increase stamp duty, the total price of housing (price plus stamp duty) will fall.  Sellers suffer, buyers benefit.  It’s a classic land tax - there is no deadweight loss, as shown in the figure below.

In Japan you can glimpse the future

When I first visited Japan in 2004 I saw the future - trains, gadgets, vending machines - but most importantly, I saw some amazing toilets. Even now, when I have a conversation with people returning from Japan they always comment about toilets. If you’ve visited Japan you would know why – they range from traditional squatters, to high tech digital robots. The most best of them all will greet you, automatically lift the lid, warm your seat, wash and dry your backside, play your favourite music, and flush automatically.

Back in 2004 I saw one particular style that was simple and profoundly efficient, where the cistern was filled via a basin so that you could wash your hands with clean water, and then use that same water to flush the toilet.

At the time I saw a market for such a design in Australia. I visited Japanese kitchen and bathroom stores to see the price range for these types of toilets, and investigated possible shipping costs. Alas, I became distracted and never followed through with this idea.

Now it seems that popular toilet maker Caroma is making these very toilets in Australia and the US. Only 25 years after their invention in Japan.

For anyone who likes the idea but is not interested in buying a new toilet, you can get a step by step guide to retrofitting your own throne to have this functionality here.

As an economist I wonder why it took the market so long to adopt this simple innovation in our water starved nation.  Was everyone simply as bad as I am at following through their ideas?  Was there a stigma in Australia about washing your hands with 'toilet water'?  Now that it is available here in Australia, will it even catch on?

Unthinkable

I read a book that opened my mind recently. It is probably not on the best seller lists (is #53,525 rank in Amazon a best seller?). It is called The Unthinkable: Who survives when disaster strikes – and why.

This book examines the human response to fear in crisis situations and is presented in a very easy to read, non-scientific, yet analytical way.

A Redwater diverter for every new home?

Markets and opportunity. Peas and carrots.
Hand in hand go such things, and one would expect that in our new water conscious world, any device that can reduce water use in the home will go hand in hand with the phrase 'in demand'.

Here’s one device that has the benefit of being automatic and energy free.

It diverts the cold water sitting in the pipe between the hot water system and the hot tap to a storage (toilet, rain tank etc), then diverts the water back to the tap as it warms.
For all those whingers who need hot showers in Queensland it is probably a good water saving idea (yes, that's me).

I have, however, seen a nifty alternative. In Budapest I remember staying in an apartment that had a gas water heater bolted to the bathroom wall just one metre from the shower. Not only was the water in the pipe already warm from being inside, but there was hardly any water in the one metre of pipe anyway.

I’m not sure you can actually put gas water heaters indoors in Queensland, but one similar solution would be to have your water heater outside the shower wall.

Of course, if all that is a bit much and you still want to save water, you can just buy a diverter valve.

Psychologists at the RBA?

People have instinctual short sightedness. It is a primal trait. Each passing day adds risks to the realisation of future events. Our probability of dying increases, and the waiting time captures multiple risks of the event not occurring at all. In economese, that’s why we discount the future.

However, it is not all that simple. Behavioural economists have shown that people don’t discount in the expected rational way. Instead of treating each year into the future as capturing the same risk, each consecutive year is treated as less risky than the previous year – a concept known as hyperbolic discounting.

For instance, when offered the choice between $50 now and $100 a year from now, many people will choose the immediate $50. However, given the choice between $50 in five years or $100 in six years almost everyone will choose $100 in six years, even though that is the same choice seen at five years' greater distance

Why does the RBA need to know this?

The strategy of a gradual withdrawal of monetary stimulus by incrementally raising interest rates is meant to allow people time to adjust to higher interest rate levels. However, if people discount the likelihood and impact of each further interest rate rise, they will not adjust until it is too late anyway. The instinct of the masses will be to all but ignore the highly probably increases in interest rates in the near future.

This may be one reason for the long lags between execution and outcome in monetary policy.

A quarter of a percent increase in rates every month (1% over four months) is going to hardly register in our animal minds – each change is too marginal, and probability and impact of each future change is heavily discounted. A 1% immediate increase followed by no change for 4 months would actually change behaviour in the way the incremental approach is intended.

Have you heard people who have just bought a new house talk about the inevitable interest rate hikes – “We’ll deal with that when the time comes”. They are simply acting on instinct.

Fractal Finance

Ever heard of the Elliot Wave Theory? Maybe you have, but I hadn't until last week. Put simply, this theory suggests that markets behave is a predictable way which is not driven by fundamentals (actual production of goods, actual jobs, etc) but simply by human behaviour in the marketplace – the collective investor psychology.

The image below show the fundamental Elliot wave – 3 peaks (1, 3, 5) and two troughs (2, 4) on the way up, and two troughs (A, C) and one peak (B) on the way down.


While quirky (as an economist I like to think in terms of the fundamental patterns of production) this theory has a lot going for it.

Business stripped bare

This book is Richard Branson’s latest eye opener into the world of Virgin. The one man publicity machine takes the reader on a tour of his business philosophy and how the philosophy actually works in the realms of the Virgin empire.

I am a fan of Branson and the Virgin empire, for the most part because the company seems to bring competition to formerly uncompetitive markets. Virgin Blue is a classic case study – it revolutionised air travel in Australia. The budget carriers in Europe had already been vigorously competing for some years, and it was only a matter of time before the same thing happened down under. But without Virgin, would we have waited another 5-10 years for air travel competition?

Population caps: Social catastrophe or sound planning?

My favourite lobby group, the Property Council of Australia (PCA), have attacked South East Queensland Mayors for starting debate about limiting population growth in the region through town planning restrictions.  The PCA's argument is that restricting development in a region has disastrous social and economic impacts. They wield the crossed supply and demand swords to argue that house prices will sky-rocket in areas with restrictive planning regimes.

Not surprisingly, their arguments are flawed.  Here's why: