Mish's Global Economic Trend Analysis

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• House of horrors: Prices Falling in 8 of 16 Measured Countries; Is the US Undervalued?
• Merkozy Proposes Quick, New, Drastic "Stability Pact" to Fight the Euro Zone Sovereign Debt Crisis; Maastricht Treaty Trashed by Committee
• In Fiery Protest Against Fractional Reserve Lending, Disgruntled Ex-Employee of Chairman of Rural Bank of New Zealand Sets Car on Fire in Mall

House of horrors: Prices Falling in 8 of 16 Measured Countries; Is the US Undervalued? Posted: 26 Nov 2011 08:02 PM PST The Economist is frequently a mixed bag. Here is an article on the global housing market that pretty much hits the right spot. Please consider House of horrors, part 2 The bursting of the global housing bubble is only halfway through. MANY of the world's financial and economic woes since 2008 began with the bursting of the biggest bubble in history. Never before had house prices risen so fast, for so long, in so many countries. Yet the bust has been much less widespread than the boom. Home prices tumbled by 34% in America from 2006 to their low point earlier this year; in Ireland they plunged by an even more painful 45% from their peak in 2007; and prices have fallen by around 15% in Spain and Denmark. But in most other countries they have dipped by less than 10%, as in Britain and Italy. In some countries, such as Australia, Canada and Sweden, prices wobbled but then surged to new highs. As a result, many property markets are still looking uncomfortably overvalued. The latest update of The Economist's global house-price indicators shows that prices are now falling in eight of the 16 countries in the table, compared with five in late 2010. Home Price Indicators To assess the risks of a further slump, we track two measures of valuation. The first is the price-to-income ratio, a gauge of affordability. The second is the price-to-rent ratio, which is a bit like the price-to-earnings ratio used to value companies. Just as the value of a share should reflect future profits that a company is expected to earn, house prices should reflect the expected benefits from home ownership: namely the rents earned by property investors (or those saved by owner-occupiers). If both of these measures are well above their long-term average, which we have calculated since 1975 for most countries, this could signal that property is overvalued. Based on the average of the two measures, home prices are overvalued by about 25% or more in Australia, Belgium, Canada, France, New Zealand, Britain, the Netherlands, Spain and Sweden (see table). Indeed, in the first four of those countries housing looks more overvalued than it was in America at the peak of its bubble. Despite their collapse, Irish home prices are still slightly above "fair" value—partly because they were incredibly overvalued at their peak, and partly because incomes and rents have fallen sharply. In contrast, homes in America, Japan and Germany are all significantly undervalued. In the late 1990s the average house price in Germany was twice that in France; now it is 20% cheaper. This raises two questions. First, since American homes now look cheap, are prices set to rebound? Average house prices are 8% undervalued relative to rents, and 22% undervalued relative to income (see chart). Prices may have reached a floor, but this is no guarantee of an imminent bounce. In Britain and Sweden in the mid-1990s, prices undershot fair value by around 35%. Prices in Britain did not really start to rise for almost four years after they bottomed. .... Jingle mail American prices fell sharply, even though homes were less overvalued than they were in many other countries, because high-risk mortgages and a surge in unemployment caused distressed sales. In most other countries, lenders avoided the worst excesses of subprime lending, and unemployment rose by less, so there were fewer forced sales dragging prices down. America is also unusual in having non-recourse mortgages that let borrowers walk away with no liability. An optimist could therefore argue that our gauges overstate the extent to which house prices are overvalued, and that if markets are only a bit too expensive they can adjust gradually without a sharp fall. It is important to remember, however, that lower interest rates and rising populations were used to justify higher prices in America and Ireland before their bubbles burst so spectacularly. Another concern is that Australia, Britain, Canada, the Netherlands, New Zealand, Spain and Sweden all have even higher household-debt burdens in relation to income than America did at the peak of its bubble. Overvalued prices and large debts leave households vulnerable to a rise in unemployment or higher mortgage rates. A credit crunch or recession could cause house prices to tumble in many more countries. Implications That analysis is about as good as mainstream media gets. However, The Economist fails to address the global implications. What happens if home prices plunge (and they will) in Australia, Belgium, Canada, France, New Zealand, Britain, the Netherlands, Spain and Sweden? How will those central banks react? Except for France which has no direct control, I will tell you how. Central banks will cut interest rates and/or launch various quantitative easing programs. All other things being equal, that is net US dollar supportive. Moreover, if prices and transaction volumes collapse in China (and they will), what will that do to the demand for commodities? In turn, what would falling demand for commodities in China do to the economies of Canada and Australia? The Economist asks "Since American homes now look cheap, are prices set to rebound?" That is a good question. The Economist answers (correctly) "Average house prices are 8% undervalued relative to rents, and 22% undervalued relative to income (see chart). Prices may have reached a floor, but this is no guarantee of an imminent bounce." However, The Economist fails to discuss the possibility that US rents are artificially high due to people seeking rental properties after being foreclosed on. Moreover, income statistics are very skewed. Most of the gains in income are on the "high end", not people in financial trouble. Still, as I said, this article is about as balanced as one can expect from mainstream media. It provides much opportunity for further commentary (both positive and negative) from bloggers. The Economist correctly states "The bursting of the global housing bubble is only halfway through." However, it's the non-discussed ramifications that are important. Mike "Mish" Shedlock http://globaleconomicanalysis.blogspot.com Click Here To Scroll Thru My Recent Post List Mike "Mish" Shedlock is a registered investment advisor representative for SitkaPacific Capital Management. Sitka Pacific is an asset management firm whose goal is strong performance and low volatility, regardless of market direction. Visit http://www.sitkapacific.com/account_management.html to learn more about wealth management and capital preservation strategies of Sitka Pacific.

Merkozy Proposes Quick, New, Drastic "Stability Pact" to Fight the Euro Zone Sovereign Debt Crisis; Maastricht Treaty Trashed by Committee Posted: 26 Nov 2011 04:43 PM PST German chancellor Angela Merkel and French President Nicolas Sarkozy proposed a "quick new stability pact" that allegedly will bypass the need for treaties. However, there is already disagreement over the role of the ECB. Please consider Germany, France plan quick new Stability Pact German Chancellor Angela Merkel and French President Nicolas Sarkozy are planning more drastic means - including a quick new Stability Pact - to fight the euro zone sovereign debt crisis, Welt am Sonntag reported on Sunday. The report, which echoed a Reuters report on Friday from Brussels, quoted German government sources as saying that the crisis fighting plan could possibly be announced by Merkel and Sarkozy in the coming week. The report said that because it would take too long to change existing European Union treaties, euro zone countries should avoid such delays be agreeing to a new Stability Pact among themselves - possibly implemented at the start of 2012. Desperate Logic Excuse me! There does not need to be treaty changes because a subset of the treaty signers can agree among themselves to trash it? Exactly what kind of desperate logic is that? Among the countries in the Stability Pact there would be a treaty spelling out strict deficit rules and control rights for national budgets. The European Central Bank should also emerge more as a crisis fighter in the euro zone. The ECB is independent and governments cannot tell it what to do. But the expectations on the ECB are clear, Welt am Sonntag wrote. "Based upon these measures, there should be a majority within the ECB for a stronger intervention in capital markets," Welt am Sonntag said. It quotes a central banker as saying: "If the politicians can agree to a comprehensive step, the ECB will jump in and help." ECB to Jump in and Help?! Excuse Me! Since when will Germany agree to that? Since when will the ECB agree to that? The European Commission, the EU executive arm, put forward proposals on Wednesday to grant it intrusive powers of approval of euro zone budgets before they are submitted to national parliaments, which, if approved, would effectively mean ceding some national sovereignty over budgets. This could lead to joint debt issuance for the euro zone, where countries would be liable for each others' debts. Germany strongly opposes the joint issuance idea fearing spendthrift countries would piggyback on its low borrowing costs - meaning no gain for the virtuous and no pain for the sinners. Maastricht Treaty Trashed by Committee I see Germany does not agree to that. Does the ECB? What about other countries that might not like to see the Maastricht Treaty trashed because a handful of countries agree to do just that? This is an incredibly slippery slope, and hopefully the German Supreme Court puts an end to the idea before it gets too much further along. As a side note, Merkel has lost her mind. Mike "Mish" Shedlock http://globaleconomicanalysis.blogspot.com Click Here To Scroll Thru My Recent Post List Mike "Mish" Shedlock is a registered investment advisor representative for SitkaPacific Capital Management. Sitka Pacific is an asset management firm whose goal is strong performance and low volatility, regardless of market direction. Visit http://www.sitkapacific.com/account_management.html to learn more about wealth management and capital preservation strategies of Sitka Pacific.

In Fiery Protest Against Fractional Reserve Lending, Disgruntled Ex-Employee of Chairman of Rural Bank of New Zealand Sets Car on Fire in Mall Posted: 26 Nov 2011 08:39 AM PST The New Zealand Herald reports Fiery protest Against Fractional Reserve Lending 'Endangered Public' A Bay of Plenty farmer who set a car alight in a protest in central Wellington this afternoon has been arrested and charged with arson. The 40-year-old man set his car on fire in Wellinton's Cuba mall at about 1.30pm. The man said in a video posted on Facebook that he was an ex-employee of the chairman of the Rural Bank of New Zealand. "I've learnt a lot of stuff since then, and I've had enough. I'm gonna make this car disappear," he said. He claimed that "fractional reserve lending is the root of all our problems" before walking to the boot of the car, which was filled with rubbish, with what appeared to be a lighter. There were shrieks from by-standers as he was thrown backwards from the force of the explosion that followed. He then threw flaming material back into the boot of the car before closing it. He announced to shocked witnesses that the car was full of petrol and asked them not to put it out. "I'm just waiting for police to turn up, I've made my statement." Plum cafe owner David Fenwick said he heard a loud bang about 1.50pm and ran out of his cafe to see what was going on. "Suddenly we heard an explosion, so I ran out the front and saw a red station wagon, and there was a fire behind it. I thought it was a street performance gone wrong." Mr Fenwick ran inside to grab a fire extinguisher, and with a neighbour shop employee, put out the pile of burning rubbish. "Unfortunately it took hold pretty fast....and the fuel tank exploded. And then it was just noxious smoke and a burning car in the mall on a lovely sunny day." The fuel tank explosion took part of the body work off, and the car was now a charred wreck with blown-out windows, he said. The man had spraypainted the message "what is fractional reserve banking...Google it" next to the car, he said. The YouTube video does not show the explosion or the man's statement. This Facebook video does. Warning: Harsh hanguage as the protester is blown backwards by the explosion he caused. Please see "Fractional Reserve Lending is the Root of Our Problems" I happen to agree with him. FRL is one of the root problems. However, he did not pick the best manner in which to protest, to say the least. Mike "Mish" Shedlock http://globaleconomicanalysis.blogspot.com Click Here To Scroll Thru My Recent Post List Mike "Mish" Shedlock is a registered investment advisor representative for SitkaPacific Capital Management. Sitka Pacific is an asset management firm whose goal is strong performance and low volatility, regardless of market direction. Visit http://www.sitkapacific.com/account_management.html to learn more about wealth management and capital preservation strategies of Sitka Pacific.

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