Saturday, 18 July 2015

The geopolitics of house prices

The geopolitics of the current house pricing puzzle suggests New Zealand should pay attention to the history of the Asia Pacific region.

If the central issue of high Auckland housing prices is the result of Chinese citizens buying New Zealand houses, then the question needs to be asked: why are Chinese buying Kiwi houses?

Understanding how similar the experiences of both Japan in the 1980s and China today offers an important perspective on the New Zealand housing problem, a perspective which might send shivers down the collective business community.

A few decades ago in the 1980s, Japan was the focus of breathless headlines about an impending economic shockwave tipped to upend the United States as the leading global power. In today’s world, replace the word “Japan” with “China” and the articles could almost be rerun without skipping a beat.

At the beginning of that decade what started as a trickle of Japanese investment into the United States turned into a torrent as Japanese corporations and citizens bought real estate, land and other assets on an enormous scale after both countries agreed to revalue their currencies.

Auckland University Asian studies senior lecturer Dr Rumi Sakamoto says in the early 1980s the US suffered a huge trade deficit and the US dollar was overvalued. At the so-called Plaza Accords, the US dollar was artificially depreciated in relation to the Japanese Yen. The yen soon rose in relation to the US currency.

“This started a bubble economy in Japan. Japanese exports suffered, the reserve bank rate reduced and low interest loans were used to buy real estate because the Japanese believed the widespread ‘land myth’ [that the price of land predictably rises].

“There wasn’t much point keeping Japanese money in the local banks because of the low interest rates, so people and companies started to play with shares and investments offshore,” Dr Sakamoto says.

In the United States during the 1980s, rich Japanese citizens began buying property in Pebble Beach, Hawaii and other exclusive neighbourhoods. There were still expectations that Japan would grow into a serious geopolitical force, potentially challenging the US for supremacy on the Pacific Ocean. There was even talk of a potential military clash with Japan.

Everyone knows what happened to Japan in the years ahead. Japan’s economy collapsed and the country entered the “lost decades” from which it is still trying to recover.

“The state of the overvalued economy was clearly a problem, and the Japanese government decided to pop the bubble. Law changes made it harder to buy and sell land in Japan, raising the official bank rate from 2.5 to 6%. As a result, the Japanese economy cooled down and entered a recession,” she says.

But many of the Japanese who purchased property in the US during the height of their country’s economic rise largely safeguarded their wealth during the collapse back home. However, leading up to the later years of the 80s, the question was apparently never asked whether those wealthy Japanese knew something about Japan’s economy that Western investors didn’t.

Federal Reserve Bank of San Francisco senior economist John Krainer says house prices in Hawaii were driven primarily by purchasers from the US mainland for most of the 1975–2008 period. But, during Japan’s “bubble economy” in the late 1980s and immediately thereafter, house prices in Hawaii were driven primarily by demand from Japan.

“For most of the 1975–2008 period, Hawaiian house prices appear strongly correlated with the wealth of US households, indicating demand from mainland buyers drove prices. But house prices in Hawaii rose sharply during the 1980s when Japan had its bubble economy, and shortly thereafter.

“During that period, we conclude that Hawaiian house prices were determined almost entirely by Japanese demand,” he says in a 2011 paper co-written with University of California, Berkeley, professor of economics James A. Wilcox.

What is happening in China’s economy today is more opaque than the 1980s Japanese experience, but the lesson should be clear.

If Chinese businesspeople wish to park their hard-earned money in New Zealand rather than reinvest in their own country, what exactly should that tell New Zealand businesses about the state of the Chinese economy in 2015?

Perhaps, rather than speedily and unthinkingly amending laws and regulations to fight a non-existent problem in the Auckland housing sector, New Zealand would better off ensuring diversification of its assets overseas.

Perhaps the Chinese citizens now buying houses in Auckland and expensive real estate in the US – who grew up and made their fortunes inside China – know something about the direction of the Chinese economy that New Zealand and other Western investors don’t.

“Japan’s economy grew phenomenally well but in reality it was all empty. The price of land and stock was not realistic. At one point, the land value of the Imperial Palace (one square kilometre) was more than the land value of the whole of California!” says Dr Sakamoto.

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