Sourced from Business Spectator:
Most Read Today
Commentary News
United States of Indignation
SCOREBOARD: Hot houses
Castles in the air
Bligh proves the Rudd formula
Curious Rubicon revelations
Super funds eye climate risk: survey
OZ Minerals enters trading halt ahead of Minmetals announcement
ASIC bans Sydney broker over 'rumourtrage'
Local stocks rise 1.1% on banks, miners
US set to unveil bank rescue plan
CONCRETE DETAIL
by Christopher Joye
RSS feed
Posted 17 Mar 2009 10:42 AM
Keen vs. Robertson: Round V Ding a ling, ling! It’s on for young and old folks. This is the big one. A fight to the bitter end. These blokes take no prisoners. They will fix their bayonets and bravely bound over the top. For in a world of lonely wolves, tis safer to be feared than loved (free coffee for the first to guess where I got that from).
One man will find himself standing forlornly atop Mount Kosciuszko in the depths of a sure-to-be-chilly winter, reputation irreversibly damaged (possibly destroyed?), adorned in a t-shirt exclaiming, “"I was hopelessly wrong on home prices. Ask me how." The other will bask in the unique public glory of being proclaimed a prophet—he who read the mystical economic tea leaves in the most uncertain of times to accurately divine what was thought to be an unknowable future…A triumph of Herculean proportions befitting a new economic king.
In the red—no connotations implied!—corner we have the curmudgeonly, never-say-die 55 year old anti-establishment academic who has emerged in a blaze of publicity on the back of his portentous projections from the humble halls of the University of Western Sydney. He’s a heterodox, an iconoclast, the doomsayer who managed to trade out of his property for a profit, a former arts/law graduate who switched across to the dark (dismal?) side late in life, the scion of a former…bank manager—for crying out loud, this is the guy who was the first to call a two per cent cash rate!
And he is adored—nay loved—by his legion of impassioned, apocalyptic fans who are collectively baying for homeowner blood…Down with the evil homebuyers, Keen’s acolytes cry. (For the record, Steve is a great bloke!)
In the blue corner we have the brooding, hard-bitten, would-be Robin Hood from Strathburn Station in far north Queensland, where they build ‘em tough as trucks. A graduate of the Gulf of Carpenteria's (or thereabouts) finest academic institution, from where he was plucked by the RBA’s all-knowing recruiters and thereafter inducted into the secret central-banking society from which few actually ever emerge (Yale’s Skull and Cross Bones has nothing on these guys). He is a pig-shooting, barramundi-catching, witch-hunting, monetary policy sage with the best forecasting track-record in the business. In fact, his interest rate calls are soooo goddamned good, and his defence of the RBA soooo goddamned blind, that there is a rumour running around town that “rate cut Rory” is actually the Guvnor’s love-child.
(Here I dare anyone to risk Rory’s wrath by asking him whether the RBA has the right to target asset prices (yes, not just CPI), as appears to be their latest wont, despite the Bank’s chequered performance in every major crisis it has confronted: take the 1987 crash—by keeping rates too low for too long in response to Black Tuesday, they allowed inflation to run amok (headline CPI averaged c. 7.3 per cent between Dec ’87 and Mar ’89 yet mortgage rates remained unchanged between Sep ’87 and Feb ’89); recall the 1990-91 recession we had, care of the RBA, to have—well, mortgage rates were eventually jacked up in response to burgeoning inflation in the late ‘80s, and rose to an incredible 17 per cent by Jan ‘90. Yet in spite of the onset of the worst recession since the 1930s they were stunningly slow to come down, averaging 13.7 per cent between 1990 and 1992 while unemployment increased inexorably to 11 per cent; finally consider what transpired during the 2007-2008 global financial crisis—yes, this was the only central bank in the developed world that hit its unassuming households with 6-7 official and “de-facto” rate hikes in the midst of the crisis because of misplaced concerns about inflation. And when mortgage rates peaked at 9.6 per cent in August ‘08 and the RBA was forced to commence an embarrassing 180 degrees turn in September, a compliant commentariat had the temerity to describe them as “ahead of the curve”—give me a break. If these guys can’t accurately forecast inflation, how on earth are they going to target much more volatile asset prices? Governor Kohn certainly seems to agree).
Assuming you (wisely) choose not to travel down this particular path with the man from Far North Queensland for fear of literally getting both barrels, the pithy response you’ll receive when questioned about the son-of-Stevens claims is “I will neither confirm nor deny”.
With our combatants so defined, let’s quickly recap the “back-story”: on Thursday last week Rory Stevens (nee Robertson) sent out an excellent note taking his Western Sydney adversary to task over a “school-boy error” (nb: this is the edited version):
“Q: Will downtrend in full-time employment push Oz home prices sharply lower? A: Nope.”
“**Many are big on the idea that Australian home prices obviously will fall sharply over the next couple of years… For multi-million-dollar houses, that's a given. But not for the homes of ordinary Australians. Why? Well, for starters, look what happened in the early-1990s recession…Average house prices across Australia's state capitals rose - not fell - by about 2 per cent per annum in nominal terms as that early-1990s recession and jobs disaster unfolded.”
“**Now that mortgage rates suddenly are nearly 4pp lower, the ratio of household-interest payments to disposable income has dropped from about 15 per cent to near 10 per cent. That is, Australian households on average now devote about $1 of every $10 of after-tax earnings to interest payments, down from about $1.50 about 10 minutes ago. By the way, does 10 per cent sound very scary to you? In any case, Australian households' debt burden just dropped dramatically, something that didn't happen in the US or the UK when it mattered. [Dr Steve Keen amongst others continues to make the schoolboy error of comparing debt to income (a stock to a flow - apples to oranges) and misses the main game.]”
“**Meanwhile, Australian housing credit continues to grow at a steady 0.5 per cent per month, or a 6 per cent annualised rate. So much for abrupt and painful household-sector leveraging. In fact, most Australian households who are "deleveraging" are doing so in a PAINLESS fashion, simply keeping their monthly mortgage repayments unchanged despite the 40 per cent reduction in their interest bill since August.”
“**Regardless, Dr Steve Keen continues to forecast a 40 per cent fall in Australian house prices, a view so extreme as to remain EXTREMELY unlikely.”
Associate Professor Keen then reciprocated in kind with an amusing and seemingly erudite tale entitled, “Rory Robertson Designs a Car”. In a long missive, he commented:
“OK, for those who don’t know where this came from, one irritation I’ve had to deal with when debating the financial crisis with neoclassical economists is the proposition that my comparison of the level of debt to GDP is erroneous, because I am comparing a stock (the outstanding level of debt) to a flow (GDP, which records the monetary value of output produced per year in an economy). I’ve had this said to me by an RBA Deputy Governor, as well as numerous economic commentators. Most recently, Rory Robertson repeated the same claim in a newletter…”
“Every time this furphy has been thrown my way, I’ve tried to explain why this specific ratio does matter. Anyone who is not an economist (a neoclassical economist, that is!) has got it almost instantly. But neoclassical economists, who know nothing about dynamic analysis, keep coming back with this “comparing a stock to a flow is like comparing apples to oranges” nonsense.”
“While one has to be very careful in dynamic analysis to differentiate stocks from flows, there are many, many times when the ratio between them matters. But getting that through to economists who have no significant training in dynamics at all proved simply impossible.”
“So I’ve given up on serious discussion: maybe satire might get the point through (sorry Rory, but in a schoolyard sense, you did ask for this one!). Stock to flow comparisons matter because they tell you the capacity of your system to maintain a flow. They abound in engineering, which is a discipline in which dynamic analysis is central.”
“Economists don’t get it because their discipline is still overwhelmingly dominated by static thinking.”
“The ratio of Debt to GDP is a comparison of dollars to dollars per year…Does this matter when assessing the health of an economy? You betcha. Especially when that economy has been booming along on an orgy of debt-financed speculative spending. The ratio tells you how many years it would take to reduce debt to zero, if all of GDP were devoted to doing that.”
And rest assured the man who eats boars for breakfast was none too pleased with this response. Last night inboxes around the world were electrified with this devastating critique (minor edits):
“**Last Thursday, I again highlighted the fact that the ratio of Australian household-interest payments to disposable income has dropped from about 15 per cent to near 10 per cent....(see the RBA's chart here).”
“**That is, the burden of servicing household debt has dropped dramatically over the past six months, something that didn't happen in the US or the UK when it mattered. The 80 per cent of local home-buyers with floating-rate mortgages now are enjoying four-decade lows in rates around 5-6 per cent, lower than anyone even hoped for when they bought their homes.”
“**Interest rates have shifted from the main downward pressure on home prices to being a strongly supportive factor. While some see the level of household debt as unsustainable (on debt-to-income measures), most households that are "deleveraging" actually are doing so in a largely PAINLESS fashion, simply by keeping their monthly mortgage repayments unchanged despite the 40 per cent reduction in their interest bill...”
“**With debt servicing now much easier for most home-buyers, I went on to observe that "Dr Steve Keen amongst others continues to make the schoolboy error of comparing debt to income (a stock to a flow - apples to oranges)", thus missing the main game of a sharply lower debt-servicing ratio.”
“**Needless to say, Dr Keen does not accept the assessment that a "schoolboy error" lies at the heart of his pessimistic forecast of a 40 per cent drop in Australian home prices. But instead of addressing the key point that debt servicing just got much easier for most home-buyers, Dr Keen responded by inventing a silly story about cars and fuel consumption - to make a point that completely missed the point…”
“**Regardless, there remains a large hole in Dr Keen's analysis (big enough to fit a bus?)C. Barely six months ago, he was highlighting the uptrend in the household sector's interest-to-income ratio as the key force that would bring house prices crashing down.”
“Quoting Keen: In 1990, servicing mortgages cost three cents of the household dollar — now its 15 cents, even with lower interest rates. ...This is because of the sheer size of the debt — that's the pressure that's going to be pushing house prices down and it's actually the same kind of pressure that is in the US (see here); (The Age back in October also reported: "...Mr Keen said the lower end of the [housing] market was already collapsing". Really?)”
“**Now that his debt-servicing ratio has crashed towards 10 per cent from 15 per cent, Dr Keen has nothing to say on the matter. Furthermore, with the ratio now trending lower, Dr Keen has stopped publishing the debt-service chart that once was at the centre of his analysis. (Between November 2006 and May 2008 the debt-service chart was regularly published in DebtWatch; for example, see Figure 21 in the February, April and May 2008 reports, and Figure 12 in the November 2006 report, see here.)”
“**Someone unkind might wonder if Dr Keen is steering clear of key facts that directly contradict the scary story he likes to tell. Pauline Hanson might be inclined to issue a "Please Explain"? In any case, contrary to Dr Keen's ill-informed claim in the quote above, the situations in Australian and US housing and mortgage markets are very different, like chalk and cheese (see charts 4-15 in the attached PDF file).”