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When the Bubble Bursts

Surviving the Canadian Real Estate Crash
Nov 07, 2017baldand rated this title 4.5 out of 5 stars
Hilliard Macbeth has written a wonderful book on a distinctly unpleasant subject, the great Canadian housing bubble and how households can protect themselves against the consequences when it pops. Hilliard is revising his book now, which has lost none of its pertinence, since the bubble has gotten bigger and may have started to deflate. However, as he convincingly argues, with a bubble so large it will take house prices years to unwind, and the financial markets to adjust, so his revision will still be pertinent when it comes out. The third chapter of Hilliard’s book discusses housing bubbles around the world in the current century. There were some problems with his overview. As he notes the Spanish bubble peaked in 2007 then rapidly deflated. However, he does not note, as he should have that the UK bubble also peaked in 2007. In the UK the price correction was completed in the first half of 2009, and then the Bank of England and the Treasury Department started blowing another bubble. This comes through more clearly if one looks at real housing prices deflated using the CPI instead of nominal prices. From peak (September 2007) to trough (March 2009), real prices fell by 22.4%. Since then they have risen steadily, but as of August 2017 had still not recovered to their September 2007 peak level. (Nominal prices surpassed their September 2007 peak as of August 2014.) Hilliard pretty much ignores the role of monetary policy in general and the choice of inflation indicators in particular in allowing housing bubbles to develop. Both the UK and Spain had central banks with target inflation indicators that excluded housing prices, and for the same reason: the UK targeted the UK Harmonised Index of Consumer Prices, while the ECB targeted the euro area HICP, the MUICP. Eurostat itself realizes the problem and is working towards incorporating an owner-occupied housing (OOH) component based on the net acquisitions approach in Europe’s HICPs. Oddly enough, the first official consumer price series in the world with a net acquisitions approach to OOH, excluding mortgage interest, was calculated by Statistics Canada in 1985, the NP1 series. (I know, because I was responsible for it.) I noted at the time that this was a more appropriate consumer prices for central bank purposes than the official CPI, which adopts an accounting approach to OOH. In spite of that the Bank of Canada went with the official CPI as its target indicator when it became an inflation-targeting central bank, and up to the time this book was written, had shown a dog-like loyalty to the existing approach to measuring OOH in its target inflation indicator. The Bank of Canada has never asked StatCan to update its NP1 series, which, quite bizarrely, was last updated in 2003, almost six years after the Reserve Bank of New Zealand had switched to a target inflation indicator with an OOH(NA) component, five years after the Reserve Bank of Australia had done the same thing, and a couple of years after Eurostat began its first pilot study of an OOH(NA) series for European countries. (Pace the Bank of Canada, Eurostat has NEVER had such a pilot study restricted to euro area countries.) A 2009 Bank of Canada study by Richard Dion and Patrick Sabourin looked at switching to a net acquisitions approach but endorsed the status quo. It has never been published. So with a huge head start over all other countries in the world towards developing a target inflation indicator for central bank use that would protect against housing bubbles, Canada has fallen well behind most countries in the developed world. This should be dealt with in Hilliard’s upcoming revision.