The Australian Property Bubble Explained with Steve Keen

[youtube id="brX18YrTPTY" align="left" mode="lazyload" maxwidth="500"] In today's episode economist Steve Keen explains why Australia is in a property bubble and what you can do about it. Is there currently an Australian property bubble? Some experts say that there is and that prices in property could fall by as much as 40% or more. While other experts say that we aren't. Today, I have with me an expert in the Australian property bubble, an economist, Steve Keen, who understands this issue like nobody else. I was really excited to get him on and to understand why he believes that we are in a property bubble in Australia, to talk through some of the statistics and to also really get an idea of is this bubble likely to pop in the near future and what can we do about it as investors. I'm really excited to have this interview today on whether or not Australia is experiencing a property bubble and what we can do about it. I do want to apologize ahead of time for the quality of the recording. The internet at my house wasn't performing very well when we did this and we're talking to each other on the opposite sides of the world. Unfortunately, there are some areas where the audio cuts out or it's not too strong and the video can be quite pixelated. So just beware of that, I do apologize for that, but there wasn't much I could do. But this definitely an interview worth watching. Steve: Okay. Let's see if it works with me calling you. Ryan: Okay, cool. Steve: Share screen. Start. Let's see. Ryan: Alright it's just loading. Steve: Yeah. Ryan: Okay. Yup, I can see it. Steve: Okay. That particular graph is what I'm calling a smoking gun of credit. So the red line is GDP. The blue line is GDP plus change in debt, which is basically credit – plus credit. And the black line is credit graphed on the right hand side. Okay. Whenever the blue line's above the red line, credit is adding to demand. When it's below the red line, because people are paying off debt more than they're taking on new debt, credit's reducing demand – credit's negative. Ryan: Which basically never happens on this graph. Steve: Well, it never happened in Australia so let's take a look at the American, just give me a sec to get to the right part of it. Right chart here. This is all charts for a book I'm writing right now on the topic. I've got to change that. That's the UK. Where's the USA? This will give you just as Australian in private debt. This is when I started calling the crisis to understand why. So the dotted line's the exponential fit to the Australian data and the American data in ratio of private debt to GDP. Ryan: Okay. Steve: See the trends? Okay. Ryan: Yes. Steve: So exponential increase ratio of debt to GDP. It's not the actual level. So here's the chart from America. Same when I showed you for Australia a minute ago. Ryan: Okay. Steve: Where you have the GFC maximum boosted demand coming out of credit being positive and then it plunges. And for quite some time, it's negative, so it's taking demand out of the economy. So we side stepped that. Australia's went down to here and bounced up again. And that was because of the impact of the first homeowner's scheme. These people dived in and took on mortgages. Ryan: Yup. I remember that time. Steve: And they fall. The trend for this to go negative. Yeah. And then the second time, around 2012 when, again, we started having a decline in mortgage debt growth. That's when people started borrowing for all the investment projects in mining. So it boost kind of the business side. And then, as debt started to slow down, they were actually rising as a percentage of GDP. That's when investors followed the housing market again. So, consequently, what we have - this is the key one I want to come down to in a moment. The key relationship is – that's the chart you can see right now. And I'll explain the logic when we are actually in the interview. But what actually drives the market is acceleration of mortgage debt. So what I'm graphing here, the blue line is change in house prices in America and the red line is the acceleration, not the change, the acceleration of mortgage debt as a percentage of GDP. Okay, can you see the relationship? Ryan: Yup. It seems to be in line with each other. Steve: Okay. Yeah. One drives the other, so econometrics on this then it's definitely the case. Accelerating mortgage that drives change in house prices. Bryan: Yeah, where the red line preceded the blue line. Steve: Yeah. This is now looking at the – this is real house prices in America versus Australia since 1986. So America had this big bubble and crash and now, some real house prices are still high compared to what they were back in 1986, but not that much higher. Australia's real house prices have doubled, almost tripled over that period of time. That's the same chart I showed you for Australia a moment ago. Now, what's been driving it, this is the next chart. This the ratio of mortgage debt to GDP. So guess which one is America. Ryan: I can still see the same graph as before. Oh, wait. Hold on. Alright, Australia is the blue line, obviously and it just keeps going up. And America's dropped during their burst, basically. During the crash. Steve: Yup. So we manage to avoid that, but only by taking on more debt. So, consequently, at some point, and we're approaching it now, I think. The growth in debt will stop and when it does, house prices will fall over. The only thing that's likely to keep them up have been Chinese buying. Ryan: Yup, which is being stunted by the Chinese government, isn't it? Steve: Yeah and by the Australian government, funnily enough. I thought they would have any balls about that, but they finally got some. Ryan: Okay, cool. Let's start the interview and we can go through all this during the interview. Just so you know, my audience tends to be kind of newer investors so they might own 1 property. They might be looking to get into the market. A portion of them own quite a few, but the majority of my audience is more entry level investor. Steve: Yup. Okay. How many viewers do you have? Ryan: I've got a blog, video and podcast. Combined, probably 150,000 a month. Steve: That's pretty solid. That's a good audience. Ryan: It's a pretty good audience that I've grown over the years. Steve: That's impressive, actually. Ryan: Okay. So, I will do like an intro before our interview and then we'll just flow on. I'll do that when you're not here, so I don't waste your time. Yeah? So, I'm excited to have with me today Steve Keen. Steve, thanks for your time today, I really appreciate it. We're here to talk about the potential, I guess, what you consider the definite property bubble that is happening in Australia. Can we start by explaining to everyone why you think there is a property bubble and what you have to back this up? Steve: Okay. Most people, when you talk about house prices, their instant answer is it’s all a question of supply and demand. And I say, "Okay, I agree with you and I'm going to show why there is a bubble." which makes me very unpopular. So the usual, if you think about how can you make this supply and demand case is say, well, if it's supply and demand, if supply is tight, therefore, it's just demand for housing driving up the price, then that's not a bubble. That's the usual logic. Nobody ever goes and explores the demand side and that's what I do. So, if you look at the demand side, what is the demand for housing? Leaving aside the Chinese buying, which it was an important extra factor in the last 3 or 4 years. Demand for housing is fueled by new mortgages. Most people who want to buy a house, they're taking out a mortgage for at least 85% of the 95% of the purchase price. So, the new purchases are taking a 95% of the purchase price. They can really regard demand, in money terms, as being new mortgages. Ryan: Yes. Steve: Which is change in mortgage debt. Ryan: You're saying that because people are purchasing property with a high percentage of debt rather than a larger deposit. They're using the bank's money to purchase property, not their own. Steve: Exactly, yeah. Now, in Australia's case, we're looking at average loan to valuation ratio to at least, on average, at least 80%. Possibly 90%. So, I'm just ignoring the component that comes from people's deposits and saying most of that demand you can say is new mortgage debt. Imagine how much demand there would be if people stopped taking out mortgage and used only the cash they had saved. Ryan: Yup. Well, not a lot of demand. It's pretty hard to – I'm not going to be able save $1 million to buy a unit in Sydney or something like that. Steve: Exactly. Okay. So the demand is new mortgages. How many physical buildings people can buy or apartments divided by the price. So that's your physical demand. If physical supply is people selling existing properties plus the new properties coming out of the market. Ryan: So you mean new builds. Steve: New builds and stuff like that. So you've got a physical number of new builds coming onto of the market. So you've got a relationship between the change in mortgage debt and per level of house prices. We're not going to go through the mathematics of doing the conversions I've done, but you can get a relationship fairly obviously. If there's a link between the level of house prices and the rate of growth of mortgages, then there's relationship between the change in house prices and the acceleration of mortgage debt. Ryan: Okay. So that goes over my head a little bit. So you're saying that as mortgage debt grows, house prices grow or are you saying that as mortgage debt accelerates in its growth, that house prices grow? Steve: As mortgage accelerates, house prices grow. So then to have maintain rising house prices, you've got to have accelerating mortgage debt.