The Wilder View

Housing bubbles around the world: looks pretty bad

Housing bubbles around the world (click to enlarge):


The chart illustrates price-rent ratios for some of the most notorious housing bubbles – Ireland, Spain, the UK, and the US – indexed to 1997. The price-rent ratio can be compared to a price-earnings, or even better a price-dividend, ratio in finance. It measures the relative value of the asset: the price of the asset (purchase price of a home) divided by its flow of fundamental value (rental income earned or the value of having a roof over your head). As the price-rent ratio grows, the market value moves away from its fundamental value.

The bubbles have been extreme, and there is probably still some downward price momentum left in the pipeline for many of these markets. Ireland’s housing market, while having experienced the biggest relative bubble, has seen its price-rent ratio rise since Q3 2008. Crashing economic fundamentals have driven down rents (the denominator), and likewise the relative value of owning a home.

I included the German price-rent ratio to show that housing bubbles are not uniformly the root cause of economic decline. The German housing market saw a bump early during the reunification years; but currently, it’s falling exports brought on by anemic global demand (US demand to be sure) that caused the German economy to contract by 3.8% in Q1 2009. And for those of you who think in annualized terms (the European Commission releases the quarter on quarter growth rates), that’s a 14.3% decline. Ouch!

Originally published at the News N Economics blog and reproduced here with the author’s permission.

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