Posted on 08/25/2005 11:56:51 AM PDT by hubbubhubbub
Yesterday on CNBC’s “Closing Bell” my bullish opponent in a "Bull vs. Bear" debate rebutted my argument that Americans saved too little by claiming that the methodology used to calculate savings was flawed as it omits the accumulation of home equity. This foolish argument, which amounts to nothing more than Wall Street’s attempt to rationalize away a chronic problem, reveals a complete lack of understanding of the concept of savings, and the important role that savings plays in a free market economy.
Savings represent foregone consumption deferred to a future date. It amounts to a personal sacrifice, the deliberate postponement of immediate gratification. The saver makes his savings available to finance capital investment, which ultimately leads to increased productivity and rising standards of living. In fact, savings are the life blood of a market economy. Without savings, capital formation is impossible, and true economic growth can not take place.
While it is true that home equity may be an asset to an individual homeowner, its existence in no way adds to society‘s stock of savings. Home equity does not require the homeowner to forgo anything. Nor does it free up any resources to finance capital formation. In fact, the only way a homeowner can tap his equity is by accessing someone else’s savings. He either has to sell his house, in which case a buyer uses his own savings (or borrows someone else’s) or he refinances, in which case he access someone else’s savings himself. Therefore, not only does home equity not represent savings, its existence actually represents a potential claim on society’s legitimate supply of savings. To the extent that it is used to finance consumption, it actually crowds out savings which might otherwise have been used to finance capital formation.
The main reason American homeowners can access their home equity is that foreign savers are willing to lend them the money. Once foreigners come to their senses, mortgage credit will evaporate, and home equity will vanish along with it. Unlike legitimate savings that are permanent, provide real security, earn interest, and represent future purchasing power, home equity will prove ephemeral, disappearing as quickly as it appeared. From an individual perspective, counting home equity as savings is analogous to a gambler counting his chips while still seated at the card table. Having a big stack in front of you means nothing if by the end of the game you’re busted.
Going from the sublime to the ridiculous, yesterday on Bloomberg Television, an “expert” proclaimed that there was no housing bubble, and chastised the press for irresponsibly scaring potential home buyers out of big profits. His conclusion regarding the absence of a bubble was based on his defining a bubble as “too much supply with wide-spread job losses.” Since in his opinion none of these criteria were met, there was no bubble. How can he detect that which he can not even define? The proper definition of a bubble is “Speculative buying of appreciating assets, without regard to underlying investment returns (in the case of real estate that would be rents), solely on the anticipation of future price appreciation.” This definition describes today’s real estate market precisely. What this expert actually defined were two potential pins which might ultimately prick the real estate bubble, not the bubble itself!
However, I would argue that an over-supply of housing already exists, as many properties are now owned by investor/speculators, who have no intention of actually living in the properties themselves, and for which no rental demand actually exists. Other units are occupied by owner/speculators, intent on selling before the rates on their ARMs rise to levels they can not afford. When these properties come to the market, and no greater fools remain to buy them, the artificial “housing shortage” will turn into a glut. As job losses follow, perhaps this ‘expert” will finally see the housing bubble just after it bursts. In fact, with judgment like that, he may be the ideal candidate to replace Alan Greenspan as Fed chairman.
If you missed my latest CNBC “Closing Bell” appearance you can view it on my web site at http://www.europac.net/video.asp beginning Friday, August 26th, along with a recent “Squawk Box” appearance available today. While there, make sure to download my free research report “The Collapsing Dollar: The Powerful Case for Investing in Foreign Equities,” also available at www.researchreport1.com
Peter D. Schiff, President Euro Pacific Capital, Inc. 10 Corbin Drive, Suite B Darien, Ct. 06820 phone 203-662-9700 toll free 888-377-3722 email schiff@europac.net web www.europac.net
So if I buy gold and save it, that's not really savings?
True home equity, based on non-inflated real estate prices, is still a stable asset. Always has been. If you can borrow against it, why not?
And not all equity lenders are foreign. In fact many aren't. Some are.
What if you borrow at 6% and then invest and make 9-10% in the stock market? Was that savings? If it wasn't savings, then did the wealth come out of "nowhere?"
You can pretty much "spend" gold like money. Schiff's point is that no one can "spend" any part of the value of their houses unless a lender with real money in hand is out there willing to loan it out in lieu of the house's value.
Hmmm. If I save, Uncle Sugar takes some of it from me, as the penalty for being frugal.
Excellent analysis.
If interest rates reach a point where it pushes a lot of this type of mortgage holder to sell, then there could be impact on the market.
However, it depends on how many we're talking about. If only 5% of mortgage holders are forced to sell, no big deal. 15% starts to cause me some concern.
Anybody got any numbers?
Gold has no intrinsic value except what society places on it. There was an interesting novel that made this point many years ago - Instant Gold.
Once the market was glutted, gold became worthless.
Did not see the show referenced, but one must cite data to make statements like the above. (1) Is there a lot of real estate owned by investors? Probably (2) Is there no rental market for them? I would not know, most investor/speculators do rent when holding real estate. Are these homes vacant? Owning and holding homes vacant never makes much sense, I will not complain when investors such as these lose their shirts.
As far as home owners, they represent the majority of home owners, and they are happy owning their homes as long as they also have jobs. So the housing "bubble" is linked to plentiful jobs, not the cause of such jobs. (OK some contractors are building houses but it would be foolish to assume that builders of homes can create their own jobs market.
What really makes a bubble is bad government. As it stands now, the government is not granting large tax rebates to housing speculators (at least not large depreciation schedules). The government is keeping money supply high, which makes loan rates affordable. If the loan rates rise, the housing bubble will deflate concurrently. There may not be a massive sell off in the nature of a bubble burst. Simply calling something a bubble does not make it so.
Finally, there is the story that Rockerfeller got out of the market before the great depression because his shoe shine boy was talking about getting into the market. When everyone is trying to get into the housing market, it could well mean that the big gains are already tallied. So it is possible that the author is right about speculators buying into the housing market at this time. But renters may still be in the market to stop paying rent as long as their jobs look secure.
Well, gold has important industial and ornamental uses that paper dollars just don't have. Whether those uses justify trading 450 of those paper dollars for an ounce of the stuff is an open question. But if gold makes a run to $3,000/ounce as the gold bugs predict, it will be because the dollars have become virtually worthless - not because gold has gotten more valuable.
Gold is a hedge, not an investment in the traditional sense.
This is fascinating stuff. Seriously. I love this bit because its a reality I'm living with now (refinancing tonight, incidentally):
"I would argue that an over-supply of housing already exists, as many properties are now owned by investor/speculators, who have no intention of actually living in the properties themselves, and for which no rental demand actually exists. Other units are occupied by owner/speculators, intent on selling before the rates on their ARMs rise to levels they can not afford. When these properties come to the market, and no greater fools remain to buy them, the artificial “housing shortage” will turn into a glut. "
You know what's cool about the Freerepublic? Our members submit and comment on articles like this. I never see anything like the liberal sites I lurk at. But they do hate Bush...they really, really hate him. And us. They hate us and Bush. Daily.
Thanks again for the post.
Is there a housing bubble? Alan Greenspan probably had it about right when he said it was more a series of isolated "bubblettes." There is indeed over-speculation in some geographic areas (Florida, California) that is leading to an excess of rental properties in the market place. However, the laws of supply and demand have not been repealed, and they will cause those markets to adjust to reality over time. There have similarly been some bad practices by lenders and borrowers -- interest only mortgages and low or no down payment mortgages being the worst of them. Banking regulators are starting to crack down on these, and some folks who have used these questionable tools are going to get burned. But civilization is not going to crumble.
The real estate market is a classically cyclical market. We are probably at or just past a market peak, and I have no doubt we are on a downslope. But, I can remember 10 years back when sellers of condos and townhouses in and around DC routinely had to bring money to closing because they had negative equity. Those same condos and townhouses fetch a pretty price today, and those who bought on the up cycle are doing just fine.
It is always good to remember a few basics. Buy quality. Avoid the allure of the quick profit. Invest for the long term. You'll do OK.
Savings is money deposited in bank accounts that earn interest. The money multiplier effect of the savings will result in more money in the economy. If I deposit $100 in my bank account, the bank is required to keep 20% of that money available for withdrawals, but can loan out the remaing $80 to someone. The interest paid to me is my fee for allowing the bank to loan my savings. Now, if the borrower deposits that $80 in his bank account, the bank keeps $16 and loans out the remaining $64 to someone who deposits it into his account, and so on. Utlimately, that $100 deposit will theoretically result in a $500 boost to the economy.
That's what distinguishes true savings from equity. You can't reinvest the equity the way you can cash.
-PJ
It seems that this guy wants us to limit the measurement of savings to cash in banks.
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Exactly. To take his argument a step further, we should print more money because that is "real"; versus home equity. Money only represents value, a surrogate in a bartering system, equity is the real value of something physical. Guy has it backwards.
you are right. national net worth is around 50 trillion and an all time high.
this argument is goofy. It says that money put in the back yard as gold ( 2% int a year) is worth more that cap gains on an S&P 500 investment at 11% over a 25 year period.
Putting one's own money into a home is savings, including paying off the mortgage. The run-up in value of a home is (capital) appreciation.
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