This morning (August 25) a blog post by a U.S.-based economist caught my attention.
“Real estate price bubble is the work of media, not foreign money” reads the title of a short essay by Brendan Brown, an executive director and chief economist of Mitsubishi UFJ Securities International.
He argues that while foreign money is present and plays a role in real-estate markets such as Vancouver, that role measured directly is not large enough to account for the sharp price gains observed in recent years. Instead, Brown suggests, it is mostly Vancouver locals’ exaggerated perceptions of the role of foreign buyers that explains much of what has happened to the market.
“Commentators overwhelmingly cling to the notion that any big swing in price stems mainly from a specific cause, which is their job to discover and reveal,” Brown writes. “In doing so, they resort to powerful exaggeration. An example is today's popular hypothesis regarding sky-high prices, whether for real assets or bonds, easily summarized as ‘the foreigner is coming!’ Superficially, the theme that U.S. housing prices are being driven higher by investors from other countries seems to make sense, but is largely balderdash, even though embraced by financial journalists and their audiences.”
Brown goes on to largely blame the media for this perception, combined with psychology that makes readers quick to “follow intuition based on mental shortcuts”. (I recently discussed very similar themes with Alfred Hermida, director of UBC’s graduate school of journalism, for an article titled "Revisiting real estate, race, and how the foreign-buyers narrative came to dominate Vancouver media".)
“The desperate global search for yield weighs the scales even more heavily in favour of thinking fast,” he explains. “All with the predictable result: Many investors and commentators, encouraged by each other's narratives, focus excessively on the recognizable attributes of the flows (who is transacting at present prices) while ignoring or under-weighting the harder question of who is holding the stocks, and why.”
Brown discusses Vancouver as a specific example of this phenomenon.
Estimates suggest that around 10% of the sales (by value total) have been to Chinese buyers in the past year (when prices in Canadian dollars rose by over 30% for prime properties). Total sales (both to Chinese buyers and buyers not from China) including net new constructions have amounted to between 5% and 10% of the total stock of residential buildings. Assume that the Chinese maintained their present pace of buying, the rate of increase in their ownership of the outstanding stock would indeed be slow even allowing for their concentration on the high-end of the market. How often do the speculative narrators (whether agents, investors, or counselors) tell and retell the same story of "purchase by a Chinese billionaire," thus reinforcing the distortion of vision in the overall marketplace?
Beyond the obvious, many present owners become infected by the speculative fever egged on by the narrative that an influx of foreign buyers will only continue to rise and will drive prices still higher, ignoring that stocks hold greater importance than flows. The power of the flawed speculative narrative to attract present owners and new domestic investors (many highly levered) stems mainly from the yield famine. Present owners could make a big cash profit in re-arranging their housing in response to current high prices in Vancouver but they fear becoming victims of the income famine
To conclude, Brown warns about the sort of potential market crash that so much focus on one aspect of the market can precipitate. He does not express concern for what effect a withdrawal of foreign money might have on a market, but rather what could happen once an “excitement about foreign demand” subsides.
Update (August 26): Brown also holds the positions of associated scholar at the Mises Institute and adjunct fellow at the Hudson Institute. He is the author of two books: Euro Crash: How Asset Price Inflation Destroys the Wealth of Nations and The Global Curse of the Federal Reserve: Manifesto for a Second Monetarist Revolution.