House prices
have exploded over the last few years, especially in rich countries like Canada,
the United States and Australia, where house prices
far outpaced other prices. And, crucially,
the average income of most people. As a consequence, fewer
and fewer people are now able to afford a roof
over their head in these countries. So how did houses get so expensive? And how does that rhyme with the fact
that some pretty well respected economists claim that housing
has actually become more affordable since the 1990s, because mortgage rates
have dropped to historically low levels? sadly, if you just watch the regular news,
you can find almost any explanation you like, ranging
from increased immigration to increased urbanization to increasingly expensive
building materials to outdated zoning laws
to increase speculation. In fact, I'd argue that there are now
so many explanations out there that it is frankly,
all getting a bit confusing. So to fix that,
to provide a bit of clarity, if you will, I once again turned to the science
of economics and boiled it down to three theories that actually have
some solid evidence to back them up. A construction failure,
excessive speculation, and the general financialization
of housing. Together, I found that these three stories can explain the housing crisis
in any country. For example, they can explain
while most rich countries house prices exploded, those in Japan, Korea
and until recently Germany decreased. They can also explain how a single city
in New Zealand has made housing more affordable, in spite of rising house
prices in the rest of the country. And last but not least,
these theories can explain why in China, a country where millions of apartments
are sitting empty, housing is still unaffordable for most. But to make sense of these three theories,
we first need to recognize that the housing market is not like any other,
because a house is at the same time a so-called consumption goods
and a so-called investment goods. So what do I mean when I say. A house is a consumption good? First, let's
start by stating that obviously people don't tend to eat their house,
but they do live in it. And as they do,
our house gradually becomes worth less as it gets dirty, damaged,
and generally degrades over time. Therefore,
you could say that over the years, people slowly consume their home
as they live in it. Now, if a house was just a consumption
good, then the economic forces that determine its price
should be a really simple function of how many new people there are
and how many houses are built. And this brings us to our first theory,
which is that construction has just not been able to keep up
with the number of people that need new houses to live in, causing prices
to obviously go up. But is there any evidence to back up
that first theory? Well, to answer that question,
we first need to talk about what evidence we should actually be looking at
in this theory. This is quite simple. We should look at how many houses
are being built on the one hand, and then at how many houses
would roughly be needed for new people. So let's give that a go
for some of our biggest housing offenders Canada, the United States and Australia. As you can see here in this chart,
the construction of new houses compared to 1997 has been roughly stable, although notably for Australia,
it has actually increased. But for Canada it has decreased a bit,
And for the United States, it has really slowed down
after the 2007 housing crisis. So far, so good. However, sadly, on the demand side,
it is pretty much impossible to find out precisely how many houses are needed
by a changing population. Of course, we can look at the total population,
revealing that largely due to immigration, the population of all of these countries
increased by quite a lot over the same time period,
especially in Canada and Australia. So if we then look at new houses
being built as a percentage of the population, we can clearly see that
there has been a long term downward trend for all of these countries. However, while this chart shows that new house construction per population
level has clearly gone down, it does not prove that this means
that there are not enough houses in total. Given that we don't know how long houses
have lasted in this period. What's more, just looking at the change in
population is not enough because
even if the population remains the same, it could be
that more houses are actually needed. Because on average, people now tend to live in smaller households
in these countries. Finally, given
that people in these countries have tended to move from the countryside to cities,
it could be that while the total number of houses
has seemingly remained adequate, a lot of more houses in the countryside
have effectively become useless because nobody
wants to live there anymore. So while all of these trends mean
that more houses would need to be built for the population,
we've already seen that fewer houses have actually been built per person. So why did these economies build
less and less? Well, they needed to build more and more
to accommodate that rising population. Well, the most prominent
economic explanation I could find for this has been the rise
of the so-called NIMBYs, which refers to people that live by the motto,
not in my backyard, which means that while they may be in favor of new homes
in general, they'd rather have that. These would be built
in the backyard of someone else. And yeah, look, I'm going to be honest. Would I be super, super happy
about a big new high rise building being built next to my sunny garden? No. Would I then go to my local council
to block that development? Well, I hope not, but I recognize that this is easy to say
if it is not actually happening to me. In any case,
it means that the housing market is suffering from what economists
call a collective action problem, in which individual actions from NIMBYs
in this case, while rational from a personal standpoint,
lead to a collective outcome that is undesirable, in this case,
a housing shortage. Therefore, economists like Noah
Smith have argued that the only way to get out of the housing crisis is to prevent NIMBYs from being able
to block new housing construction. For example, by moving the power
to build from city officials to provincial or even national leaders,
or by removing laws that allow NIMBYs to block
or at least severely frustrate, new housing developments,
which, as we have recently seen in the city of Auckland, New Zealand,
can really help solve the housing crisis. You see, while rent in Auckland
used to be much more expensive than in the rest of New Zealand, the city
overrode Nimby concerns by up zoning roughly three quarters of city land,
which means that on this land, low density single family homes could be replaced
by high density apartment buildings. And lo and behold, ever since then, the rent to income ratio
in Auckland started to drop, while the same ratio continued to increase
in the rest of the country. A very promising result indeed, from which
especially countries with a lot of low density zones like Canada, Australia
and the United States could learn a lot. So to conclude, the first theory
that the housing crisis is simply a consequence of construction, failing
to keep up with housing demand makes basic economic sense
and, in my opinion, has a lot of convincing evidence
to back it up. However, before we call it a day
and definitely say that our global housing crisis is caused by NIMBYs
who are blocking new housing developments, or that if we cannot build more, we should limit
the number of new people coming in. We need to talk about a piece of data that is contradicting our first theory
in several economies. After all, if a housing shortage
is the primary problem, one would expect that in countries
with increasingly unaffordable housing, the number of vacant properties
would decrease. However, as you can see here,
for the United States in the early 2000, even though we know that in this time
period property prices exploded more and more properties were left empty. Similarly, in China,
a country with some of the most expensive house prices relative to income
that is in the world, an estimated 7.2 million homes are now sitting
empty, slowly degrading. This phenomena suggests that
if we want to understand housing markets, we need to recognize the second function
of housing, and that is that for many. A house is an investment. Which we will get
into after getting into the much simpler economics of cloud backups,
which has got recently gotten much cheaper thanks to a very competitive offer
from Backblaze, the sponsor of this video. Whether you have a PC, Mac
or a business computer, no one can afford to lose
all of their data all at once. To prevent such a catastrophic event,
Backblaze offers unlimited backups for Mac, PC
or for businesses, workstations for just $99 a year,
where all of your business data can be protected automatically
and managed through a centralized admin. Backblaze retains all files
and their versions for up to a year, and has successfully restored
over 55 million customer files already. So if you do lose your data
or are a victim of a ransomware attack, Backblaze will have your back
by giving you immediate access to back up data via an app,
or even by shipping you an actual physical hard drive
with all your data directly to your door. So if you want to have that peace of mind
and support my show at the same time, consider subscribing to their,
no risk, fully featured free trial
at backblaze.com/moneymacro. That is, after hearing
about how a house as an investment can explain this
strange situation in China where a house price explosion
went hand in hand with a construction boom that led to millions of apartments
sitting empty. A situation that is really not unique,
as it also happened in, for example, Ireland, Spain, and indeed
the United States in the early 2000. You see, while a house to live in obeys
the simple rules of economics, where increasing prices tend to either
lower demand or given that everyone still needs to live somewhere,
not affect demand that much. The economics of housing as a speculative
investment works a bit differently. After all, a speculator
wants to make money with money. So if house prices are going up
for a while, the housing market actually becomes more attractive for speculators
who recognize that once there is upward momentum in prices,
this likely will continue. Therefore, speculators will start pouring
in even more money into the sector. Now, of course, these new speculators
will then drive up prices even more. Which again attracts more speculators
and so on. Luckily, though, increased house prices
will make it more profitable to build houses. And so a speculative housing
bubble is often accompanied by a big construction boom. However, given the positive feedback
loop in many of these cases, even this increased supply
is not able to keep up with demand for new investment properties. And because prices are increasing
so rapidly, it often makes sense that speculators don't even bother
renting out the place in the first place. Especially given that laws
designed to protect renters often make it difficult to sell an investment
property quickly. Which brings us to the second theory,
which is that houses are unaffordable due to a speculative housing boom,
a theory that can be tested by looking at how many apartments
or homes are left vacant. But before we do that,
I want to stress that this only works. Of course, in areas where prices are
increasing or very high, at least already. Because actually, if you look at countries
or areas that are experiencing population decline, you will of course
also see increased house vacancies. Still,
if we look at house or rental vacancies in some of the booming housing markets
that we've talked about so far, we can see that
it's actually at an all time low. Indeed, unlike in 2006,
in the United States, vacant properties are actually pretty low here, as you can see in this graph,
as they aren't as well in other countries, although there's one exception, Canada,
where I could not find any real time data. But I found reports that record
numbers of apartments are sitting empty in major housing hotspots
like Toronto and Vancouver. So does that mean that with the exception
of China and some Canadian cities, excessive housing investment
is not the main problem right now? Well, not so fast,
because we haven't talked about our third theory yet,
which has been advanced by doctor Josh Ryan Collins from University
College London. His theory is that the main reason
that you cannot afford a house right now is because of cheap money, mainly in
the form of low interest rate mortgages. And according to him, this all started
with good intentions in the 1980s when politicians wanted
to make homeownership more accessible and therefore liberalized mortgage
markets. However, if we look at home ownership
rates, ever since, it's not clear that this actually worked. But as Doctor Collins states,
since the majority of mortgage loans financed the purchase of existing
rather than new property, the inevitable result is house price
inflation. Simply put,
imagine that you have a fixed population of people and a fixed housing supply. And now imagine that these people
just move house from time to time, and then imagine what happens
if you allow all of these people to borrow a ton of money
to fund their housing purchases. Well, this may make it easier
for first time buyers at first. Over time, the prices of houses will of
course go up and so will household debt. Indeed, in his paper,
Doctor Collins shows the following graph, which indicates that in advanced
economies, both mortgage credit as a percentage of GDP
and real house prices. That is, house prices corrected for inflation
shot up after the reforms of the 1980s, as well as after interest rates
continuously dropped since then. Finally, Doctor Collins points out
that Anglo economies like Australia, Canada, the UK and the US were the first
to implement these reforms and were also the first to start experiencing these very excessive
house price increases, while on the other hand, economies like
Korea and Germany, which did not follow this trend at first saw falling
house prices during this same time period. That being said, since this paper was written,
it has become clear that household debt in quite a few countries, like for example,
the Netherlands and the United States, has stopped rising and instead
started to fall after the crisis of 2007. While in these countries, house prices
have again shot up something we would not expect if the mortgage explosion alone
was to blame for the housing crisis. Which suggests to me
that in these countries, a construction block by NIMBYs, for example,
is the most likely explanation behind the rise in prices. Well, a mortgage explosion remains
a big problem in Australia and Canada. However, before we finally call it a day, by mentioning which of these three drivers
is the most important for our country, we still need to talk about the study
I mentioned at the start of this video, in which economists from the IMF and Bank
for International Settlements now claim that houses have actually become more affordable, not less. You see, if we accept that a house
is for a large part, an investment for which we get into debt,
then it makes sense to take into account the cost of that. That that is. If you want to know if a house is affordable these days,
we have to look at its price, but also at the price of a mortgage,
which is the interest rate. And indeed, IMF economists
that looked at an average of 40 countries, they find that while on average,
house prices have gone up by quite a lot since the 1980s, interest rates since then have gone down by a lot as well. For example,
while the average mortgage rate in the United States is around 7% today,
it was around 19% in the 1980s. So could it be that actually my video
title is wrong? Houses are now more affordable than ever,
thanks to a relatively low mortgage rate. Well, yeah, actually, when these economists combined
these two effects into the affordability index that you see here,
they did indeed find that houses have become more affordable
since the 1980s. For buyers that financed their purchase
with a mortgage. Which may sound strange, but just to illustrate
how big of a difference low interest rates make, let's imagine that you want to buy
a $100,000 studio apartment that is fully funded by a 30 year
mortgage. If the interest rate is 7%
like it is today, this means that your monthly payment
will be around $660. However, if the interest rate is 19%
like it was in the 1980s, your monthly payment would now
be a whopping $1,500 per month. And this actually resonated with me, as when I asked my parents
who bought a house in the late 1980s. I did find out that while they got it
for a much lower price than I did a couple of years ago, their monthly costs were indeed
actually fairly comparable to mine. Given that they paid
a much higher interest rate on this lower purchasing price. So while it is
tempting to just point at higher prices as evidence
that houses are now less affordable, I do think that lower monthly costs
are a very serious argument to consider when discussing whether or not
we are in an affordability crisis. On the other hand, focusing on average
mortgage payments alone is quite controversial for three reasons. First, it implicitly assumes
that everyone can just get a mortgage, which is typically not the case
for the most vulnerable people in society. Second,
we should not forget that this graph here is an average of all houses
in 40 countries. Which means that lower house prices
in advanced economies like Japan and Korea are mixed in with higher house prices
in countries like Canada and Australia. Finally, as mortgage rates
have shot up in the last few years, even the mortgage based housing
affordability graph shows that houses have again become much less affordable
in a short amount of time. Really,
getting some people into a lot of trouble. Which is why I think we still need
to answer the question why you can't afford a house anymore? Using the three economic theories
that we have so far discussed, namely theory number one, that NIMBYs
are preventing house construction from keeping up with population
growth, or theory number two, that we are in another housing
bubble or theory number three, that cheap mortgages and low interest
rates are to blame for all of this. But which one of these
is the real culprit? Well, that depends on the country
that you are in. The good news is that given
that we don't see a lot of empty homes these days, except maybe in China
and some Canadian cities, most countries,
I would say there is no housing bubble. Finally, while I do think
that the mortgage explosion has played a big role and is still very relevant
today in Australia Canada. I think the evidence is strongest
now in these last few years for the Nimby housing supply constraining theory
being the biggest problem right now in most economies. So if you want to solve this crisis,
I think that in most countries, we need to think about putting measures into place that allow for more house
construction. Of course, the exact measures
will differ per country. For example, in low density places like
the US, Australia, New Zealand and Canada. Up zoning in cities
will likely be the way to go, whereas in European countries like
the United Kingdom and the Netherlands, the only solution might be
to expand cities into land that was previously reserved
for nature or parks. That being said, I do think it makes sense
to introduce or keep in place empty speculative measures like the underused
housing tax that they've just introduced in some Canadian cities, for example,
to prevent another bubble. And finally, even if a mortgage explosion
is no longer contributing to house price growth in many countries right now, I do think that we need to have
a serious conversation about whether or not we should reverse
some of the lenient mortgage standards that have contributed to permanently
higher debt and house prices all around the world, and to, in a way, make housing
more of a consumption good again. But yeah, that is my take.
What do you think? Let me know in the comments below, or consider helping me
make my monthly mortgage payments by supporting the channel
on Patreon or as a member.
