From Lew Rockwell:
The Lie That Blew Up the World
by Bill Bonner
We are still not sure that the great bull market in U.S. residential real estate has come to an end. What we are sure of, on the other hand, is that it isn’t at the beginning.
The great housing bubble may be dead, but it already has a certain corpse-like stink to it. The relatives are gathered in the parlor. The silver has already been packed up. The local priest is already on the scene, administering last rites.
True, we still don’t know exactly how the story will turn out. But it is time to begin preparing the obituary.
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Rich people pulled out their fat wallets and bought diamonds, art, apartments in Mayfair, on the Place Vendome, and at the Puerto del Sol. Prices soared, as the cost of living it up headed for the moon.But down at the other end of the income spectrum, the lower and middle classes were having a rough time. In the 10 years leading up to 2006, they had added $5.2 trillion to their debts – most of it on mortgages. This was nothing to worry about, said the experts, because their net worth had also gone up.
The price of the average house in America rose approximately 60% in the period. Compared to the type of gains the rich were getting in Malibu, Manhattan and Miami, a 60% gain was peanuts. But it was enough to lift the spirits of millions of ordinary people. Besides, in the preceding 100 years nothing like it had ever happened. Normally, house prices merely followed income and GDP gains…like a good hooker, walking 10 paces behind so no one notices. But in the last 10 years of Alan Greenspan’s reign, they took off at a sprint and were soon racing past everyone.
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Rising property prices were caused by a lie – that the feds could increase the world’s purchasing power by introducing additional “money” into the economy. Then, the lie led to a humbug…after which followed a delusion trailed by a hallucination.At the center of all these swindles was the idea that houses actually can go up in value. Readers may be taken aback. Everybody in America now knows that houses always go up in value. But it is not true. For 100 years…from 1896 to 1996…houses went nowhere at all – merely keeping up with GDP, inflation and income growth. Then, in the following 10 years – they rose remarkably.
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The more he looked at it as an investment, the more attractive it became. He could buy a house with no money down. That was another madness – which we’ll get to in a minute. But let us imagine that he acted as a conservative, prudent investor. He could buy a $200,000 home with a 20% down payment. So, he put down $40,000. Then, he got two forms of pay-off. Like a stock or a bond, he got a “dividend” – in the form of a place to live. A $200,000 house might rent for $2,000 a month. So, he figured he got $24,000 there. Plus, he got a capital gain – when the house went up in price. At 20% per year, this came to another $40,000. Whoa…what a bonanza! His $40,000 initial investment was throwing off $64,000 in “profit” – every year. All he had to do was pay a mortgage of say, $1,000 a month…and, of course, property taxes and expenses.One absurdity led to another…each one bigger than the last. The householder began to see that not only was his house a great investment, but that he must be an investment genius for taking advantage of it. The average wage in the United States in 2000 was only $37,565. He was making more than that – much more – just by living in his own house.
Please read the whole article, while all of what he is saying has been said, never have I seen it written so clearly (and with sarcasm)- great article.
KL
JB,
If this article does not get good play, it should be moved back to the top next week. Great article. Loved this qoute;
“Buffett still lived in the same house he bought 40 years ago, he noticed. What a dolt! He should have traded up…flipped…and refinanced”
Wonderful article. Trenchant and true.
Ditto to BC Bob, great article that should go on the top.
Among the many, many excelent points he makes is one that is almost surely lost on most people… that in order to realize all these “gains” they’ve made on their “investment”, they would have to SELL it. But, then what?
“in order to realize all these “gains” they’ve made on their “investment”, they would have to SELL it. But, then what?”
Sell it and then rent. I did, as did others on this blog. The equity from the house sale generates enough interest to pay all the rent.
“in order to realize all these “gains” they’ve made on their “investment”, they would have to SELL it. But, then what?”
This is why I never liked home equity loans being described as “cashing out equity”. You don’t cash anything out until you sell.
People are only now starting to realize that a home equity loan is just borrowing money from the bank and using your house as collateral. The debt needs to be repaid.
Jay,
You’re right!! Ditto!!
JB,
This article must move up next week.
Article: In 2004 and 2005, homeowners “took out” more than $1 trillion from their houses.
I believe there’s a real estate bubble out there. I also believe property prices are likely to drop 50% (or more) in markets like the Northeast and California. But the statement I have quoted is silly. Way silly. He makes this statement in the expectation that we will nod sagely, assume a pained expression and agree with him that this is some kind of major event. That’s a product of innumeracy, the same kind of thing he accuses the average American of.*
America is a rich nation. 1 trillion dollars is a big deal in China. Not in America. Assuming 50m households have mortgages, that sum represents $20,000 per household. Does that sound like a financial Armageddon?** This is of a piece with the author’s whole approach to analysis. He can’t find the time to figure out that this isn’t really a big deal, but does have the time to toss off a totally irrelevant anecdote about what he has in common with the “Bush family”. Basically, this guy is a gossip columnist, not an analyst.
* The average American just wants to be good at his job and couldn’t care less about being a numbers whiz. Bonner (the author) is supposed to be an analyst. What’s his excuse?
** To get a fuller picture, we’d also need to know if credit card balances have fallen or grown at a slower pace in that same time interval, since home equity loans are not merely substitutes for credit card loans, they are also cheaper and the interest is tax-deductible. But again, Bonner can’t be bothered. Or maybe he’s not as smart as he seems to think he is, and the average American isn’t as dumb as he seems to think they are.
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