The Financial Times has some interesting international material on housing bubbles. “British and American policymakers appear to regard the recent period of house price inflation in their countries with equanimity. As long as neither inflation nor unemployment soars suddenly, we are told, the current level of house prices is sustainable and economic growth is not threatened,” the pink ‘un reports.

Inflation’s OK for now in Australia – and that will help interest rates. But what might happen? The FT continues:

Nout Wellink, president of the Dutch central bank, last month warned that a hangover from the property boom could well exacerbate the next downturn. Both the Dutch experience and the history of housing booms suggest that this counsel deserves to be taken seriously. However, it is probably already too late for the leading Anglo-Saxon economies to escape lightly from the consequences of their property bubbles.

In the late 1990s, the Netherlands had one of the most successful economies in Europe. At the time, both Dutch house prices and household credit growth were rising at double-digit rates. As homeowners cashed in on their burgeoning home equity, the Dutch savings ratio collapsed (from more than 13% of income in 1997 to less than 7% three years later).

The Dutch housing market cooled after interest rates began climbing in 1999. The following year, house-price inflation came to a halt. Household credit growth slowed simultaneously – mortgage equity withdrawal fell from US$13 billion in 1999 to US$5 billion in 2002. This had an adverse effect on consumption. As consumer confidence dipped and unemployment climbed, the Dutch began to save more. Three years after the end of the housing boom, the economy contracted…

Contrary to popular perception it is not necessary for house prices to fall to create a serious problem for the economy at large. When house prices merely cease rising, the rate of credit growth normally slows, inducing householders to save more and spend less. At best, this produces a mild drag on the economy, as has been the case in the Netherlands. At worst, the economy undergoes a severe slowdown with soaring unemployment and a painful recession – as occurred in Japan, the UK and Scandinavia in the early 1990s.

But it is not just borrowers who are hurt by a housing market collapse. Rising levels of bad debt inflict damage on lenders’ balance sheets. This often leads to a credit crunch and sometimes to a full-blown banking crisis…

More cheerful possibilities here.

Peter Fray

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