Thursday, March 9, 2017

Are We in an Economic Bubble?

I bring this question up because I see it asked often in the financial media. And it is answered often.

For example, an advisor recently wrote:
In my client note this morning, I harped on investors and speculators making up over 35% of all US home sales last year, which is astounding in itself. There is little doubt this is what a bubble looks like this time around.
But this is a confused way of looking at things. Who is to say that the percentage of speculators and investors involved in home sales couldn't climb to 70%?

Indeed, I could imagine a scenario where homes were 100% investor owned and this wouldn't indicate a bubble.

This brings to mind a conversation I had in New York City many years ago with the great economist Murray Rothbard, with regard to interest rates and the dollar. At the time the prevailing argument at the time was that interest rates couldn't climb any higher because they had never been so high. But when this was brought up by a third party at dinner, Murray and I looked at each other and  Murray said, "Who says rates can't go higher?"

His point being that these benchmarks taken out of the context of the entire economic picture don't mean very much.

So a lone number like 35% percent of homes being sold by speculators doesn't mean much.

Further, from an Austrian School business cycle theory perspective, a crash in assets classes is a result of former money expansion in the capital goods sector. So whenever a central bank starts to expand the money supply, it is the start of the bubble being blown up and it doesn't end until money growth slows to a point where the bubble can't be kept afloat, There is no specific time period that can be placed on how long or how large the bubble will get, all we know for sure is that the bubble starts when a central bank prints the first new dollar not backed up by savings.

There is no other measure of when the general capital goods market is in a bubble.

So given that the Federal Reserve has been printing aggressively since the 2008 financial crisis, we are in a bubble. And it started when the then chairman of the Federal Reserve opened the floodgates for newly printed money in the fall of 2008, but this information tells us nothing about when the bubble will burst.



  1. Can't they keep inflating the bubble until the public strongly objects to the noticeable price inflation? Don't they only have to induce a new buyer to buy an asset with the expectation that another buyer will pay more with a new and bigger funny money loan next year? I never thought the public would put up with .5% interest rates on savings for a decade. The rabble will apparently put up with anything.

  2. Hhhhhmmmm...I'm not so sure. You are of course correct that 35% can got 45, 65 or even 100%. But in practical terms everyone who buys a house as an investment and not a residence probably intends to sell it in the near future. Which means he has to sell it to another investor or to an actual homeowner. After a while, investors bid up the price to the point where homeowners are no longer able or willing to buy, which means they have to find another investor. Sooner or later, at a certain price point, they dry up too.

    Add to that, invariably a certain portion of investors are highly leveraged and don't have the option of holding their investment indefinitely. This is especially true in easy money, low interest rate environments.

    All of which sounds like a bubble to me. Now when the bubble will burst I have no idea, and it can double or triple in size before it does. What I can say, though, is the higher the percentage of investors in the home industry, the closer we are to the bubble actually bursting.