Obsession with the Opposition. For the life of me I cannot understand the attention being paid to the policy of the Liberal and National Parties on an emissions trading scheme. Surely what Brendan Nelson and/or Malcolm Turnbull think about the subject is irrelevant until we know what the Government itself is proposing. That is some months off yet when, apparently, we will have a White Paper to replace the present Green Paper which will be followed even further down the time track by actual legislation. When it actually gets to a bill before Parliament, the views of the Opposition will start being relevant but only if agreement cannot be reached between Labor, the Greens and the two minor party Senators. In the meantime it is all just meaningless words.

A lesson from Doha. Prime Minister Kevin Rudd declares the collapse of the Doha round of trade talks to be a “body blow” to the global economy. That is true enough but it should also get him thinking about the contingency plans if global warming is occurring and the nations of the world cannot reach agreement on what to do about it. Agreeing on ways to expand world trade are easy compared with deciding which countries should play what part in limiting carbon dioxide emissions. Yet divisions between the US, India, China and Brazil about access to agricultural markets in the developing world could not be bridged. What chance that agreement can be reached on how under developed nations can catch up with developed ones when it comes to industrialisation? Work should now be under way on a Green Paper to be followed by a White Paper to be followed by legislation covering the adjustments that will be needed in Australia if and when the world heats up because there was no international agreement on how to stop it.

Pinching ideas from a Walkley winner . I have been an admirer of the writings of Kenneth Davidson since the days when we shared an office in the old Parliament House and I was rewriting as page one leads for the Daily Telegraph his learned economic commentaries destined for well back in the finance pages of The Australian. Ken is, I think, the only journalist ever to win a Walkley Award for a story that appeared unheralded right up the back of the book! It has never been his style to sing his own praises but I did think this morning that an enterprising editor would have made more of his piece House prices are a bubble waiting to burst. I’m sure I would have taken the egg beater to it and landed it on page one with a real shock, horror headline.

The column is based on West Sydney University economics professor Steve Keen’s regular Debtwatch newsletter which suggests the doubling in real terms in house prices in the past decade is a bubble waiting to burst. According to Keen, writes Davidson, the bubble is based on speculation financed by debt. Keen claims it is effectively a “Ponzi scheme” where dividends are paid out of new rounds of capital injected into the scheme instead of the non-existent profits. The scheme collapses when there are no new investors to pay the dividends.

On Keen’s own website you will find this graph which illustrates the history of Australian house prices:

The professor comments:

This has all been on the basis of speculative, debt-financed purchasing — effectively, a Ponzi Scheme. Debt-financed purchasers of housing lose money on the cash flow from their investments — indeed, the peculiarly Australian institution of negative gearing promotes loss-making investments in real estate.

The only way that an individual speculator profits from real estate speculation is by either selling to someone with a higher income — who can therefore afford a higher purchase price — or by selling to another individual with a similar income, who takes on sufficient debt to buy the property at a price that exceeds the speculator’s purchase price plus accumulated net losses from debt servicing. That is a recipe, not just for an asset price bubble, but for exploding debt levels compared to income. Lenders have unwittingly contributed to this Ponzi Scheme, and the focus of regulation upon deposit-taking rather than lending has equally unwittingly allowed this to happen.

Unfortunately, while an individual can escape from an excessive debt servicing burden by selling a property for a profit, the country as a whole cannot do that. The ultimate source of revenue for paying off debt is the sale of commodities and the incomes this generates, and the debt bubble that has built up under the current regulatory regime poses an enormous challenge for future economic policy by driving up the debt to GDP ratio.

The ratio of debt to GDP gives a simple measure of the debt burden, by showing how many years worth of national income would be needed to eliminate the debt. Though, as noted above, eliminating debt entirely is not desirable, reducing it to a level where it reflects predominantly productive uses of debt is desirable. On the long term data, this implies a reduction in debt from its current level of 1.65 years of GDP, to of the order of half a year of GDP.

A substantial reduction of debt will occur (if not necessarily that absolute scale) because most of the debt accumulated in the last twenty years financed wasteful speculation on asset prices rather than real investment. The vast majority of the increased debt taken on since 1990 was incurred by households, and most of that borrowing financed not the construction of new housing, but speculation on the price of existing houses…

Since, by the early 2000s, less than 10% of money borrowed for housing finance the construction of new dwellings, 90% of that money was borrowed for the purposes of speculation rather than investment.

We have now reached the end point of that speculation, when it is simply not possible for future buyers to take on more debt than current “investors” have done.

Therefore existing speculators will start to lose money on their real estate positions, leading to a fall in Australian housing prices and ultimately a fall in the debt to GDP ratio. As that takes hold, spending will also fall precipitously, as the change in debt starts to detract from aggregate spending, rather than supplementing it.

There is evidence that this process has already begun.

The Age brings us … last week’s footy today! I am grateful to one of my vigilant readers for drawing to my attention yet another example of the joke that is the internet service of The Age. Every day the paper sends out to subscribers a little email that supposedly summarises what is available on the website. Here are extracts from this morning’s offering:

Note the sports headlines. They cover stories not previewing this week’s games nor even reporting matches from last weekend but are stories from 20 July. As my informant commented to me: “The Age website is a joke. It’s unbelievable to think a media company of this size can treat the Internet so casually.” 

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