What can we learn from Norway’s massive housing bubble?
During the 00’s many countries inflated massive housing bubbles. The readers of this blog are well acquainted with the issues surrounding the US housing bubble, but Spain, Great Britain, and Ireland, among others also inflated painfully deflating housing bubbles. Norway inflated a housing bubble during this period, but after a brief pullback, they went on to inflate an even larger and more potentially damaging one.
As strange as this may sound, I believe the root cause of this enormous problem is good governance and sound fiscal management. Unlike nearly every other government, Norway has managed its budget and resources well. Norway has massive oil reserves in the North Sea, and they have been carefully saving and investing the taxes they gain from the sale of oil to benefit future generations. They are looking ahead to a time when this resource runs out, and rather than creating a government dependent upon continued oil revenues to make ends meet (think Venezuela), they are acting as if this revenue could go away tomorrow and prudently saving and investing it.
Since they are doing such a good job of managing their resources and their government expenditures, Norway has become widely regarded as a safe haven for foreigners looking for a place to park money. With limited investment opportunities to own assets subject to Norwegian currency, many foreign investors are turning to the residential real estate market. Unfortunately, for the next generation of potential home buyers who actually live in Norway, the influx of all this foreign capital is raising the price of houses out of reach of ordinary citizens. Quite literally, foreigner are pricing natives out of the housing market.
Could it happen here?
Many have noted the influx of foreign money in the United States housing market. With the attempts to deflate the Chinese housing bubble, many Chinese are looking for perceived safe havens to preserve their wealth. Some are undoubtedly investing in Norway, but many are investing right here in California. The house I currently rent is owned by Chinese investors who paid cash, so I know first-hand that some of this is going on.
Could foreign investors drive up housing prices to where ordinary American citizens can’t afford to buy? I don’t think so.
Norway is a much smaller housing market than the United States. Cash investors can — for a time — make Norway’s house prices so high that citizens can’t afford them, but eventually, those investors will want to sell and repatriate their money, and when they do, they will either need to sell to another investor, or they will need to sell to a native. When they sell to natives, prices will have to come back down to levels the natives can afford. The same would be true here in the United States. And since our market is so much larger, it’s much more difficult for foreign investors to really move pricing. Perhaps they can exacerbate short-term movements, but I don’t think they can inflate and maintain a bubble selling to themselves for very long.
In its latest assessment of the Nordic economies, the IMF singled out Norway’s housing market as especially worrying. Prices for residential real estate in the oil-rich country paused only briefly during the world financial crisis, before soaring higher. The average Norwegian hjem has doubled in price over the past decade, leaving its Nordic neighbors—and most of the developed world—in the shade.
By the IMF’s reckoning, only Canadian houses are more overvalued. (Must be something in that brisk arctic air.) An analysis by the OECD in May also ranked Norway second only to Belgium in terms of frothy property markets. By the OECD’s and the IMF’s reckoning, Norwegian real estate is overvalued by around 40%.
Other ”safe haven” countries in Europe, like Sweden and Switzerland, have imposed restrictions on mortgage lending when their property markets overheated. Norwegian economic officials planned similar moves, but may not get around to putting them in place. Ahead of September 9th parliamentary elections, the leading parties have rejected the bubble talk. In fact, they claim that banks ought to be lending more to home-buyers, particularly first-time ones, and are proposing looser standards so they can do so.
Adding fuel to the fire…
Erna Solberg, the leader of the Norwegian Conservatives and favourite to become the next prime minister at Monday’s elections, said earlier this year that Norway was not in a housing bubble.
She wants to reverse planned rules that make it more expensive for Norwegian banks to hand out mortgages. “The banks say that when they evaluate whether or not to give a loan, they will see it in a long-term perspective. The new rules make it harder for the banks to have that flexibility. We need to change that back to what it was,” she told Bloomberg last month.
Norway has proposed tripling the risk weighting on mortgages for banks to 35 per cent, which would be the highest in the Nordic region. Banks such as DNB have warned that this would lead to higher loan costs. The Financial Services Authority has also lowered the non-binding limit on the loan-to-value ratio of mortgages to 85 per cent, making it difficult for some young people to get on the property ladder. …
The IMF said inflation-adjusted house prices rose by 6 per cent a year from 2010-12 while household disposable income advanced by 3.8 per cent from 2008-12, ahead of an average of 0.8 per cent in other western economies.
House prices cannot rise faster than inflation on a sustained basis. Although the wage growth in Norway is impressive, home prices are rising at an even faster rate.
When this bubble finally pops — and it will — it will be Norway that looks to the US and other countries that are reflating their housing bubbles for lessons. They will suspend accounting rules, modify loans to kick the can, lower interest rates to zero, and print money to paper over the problem.
The unintended consequences of printing money
When you look at what happened to Norway, the root was the perception of Norway as a safe haven. This was a result of good fiscal management. We in the United States are also perceived as a safe haven, but we are doing everything possible to destroy that status. What would happen if we stopped printing money and started being fiscally prudent?
Well, for starters, even more foreign capital might flow into the United States. Rather than being the catalyst that causes all asset classes to devalue, higher interest rates could be the catalyst that brings in the foreign capital that saves us from ourselves. Norway and Canada have proven that sound fiscal management can attract foreign money. Unfortunately for both countries, it also resulted in massive domestic housing bubbles in residential real estate that have yet to pop.
[idx-listing mlsnumber=”IV13179891″ showpricehistory=”true”]
6712 LONGFELLOW Dr Buena Park, CA 90620
$380,000 …….. Asking Price
$170,000 ………. Purchase Price
4/1/1988 ………. Purchase Date
$210,000 ………. Gross Gain (Loss)
($30,400) ………… Commissions and Costs at 8%
$179,600 ………. Net Gain (Loss)
123.5% ………. Gross Percent Change
105.6% ………. Net Percent Change
3.1% ………… Annual Appreciation
Cost of Home Ownership
$380,000 …….. Asking Price
$13,300 ………… 3.5% Down FHA Financing
4.67% …………. Mortgage Interest Rate
30 ……………… Number of Years
$366,700 …….. Mortgage
$105,146 ………. Income Requirement
$1,895 ………… Monthly Mortgage Payment
$329 ………… Property Tax at 1.04%
$0 ………… Mello Roos & Special Taxes
$79 ………… Homeowners Insurance at 0.25%
$413 ………… Private Mortgage Insurance
$0 ………… Homeowners Association Fees
$2,716 ………. Monthly Cash Outlays
($430) ………. Tax Savings
($468) ………. Principal Amortization
$23 ………….. Opportunity Cost of Down Payment
$115 ………….. Maintenance and Replacement Reserves
$1,956 ………. Monthly Cost of Ownership
Cash Acquisition Demands
$5,300 ………… Furnishing and Move-In Costs at 1% + $1,500
$5,300 ………… Closing Costs at 1% + $1,500
$3,667 ………… Interest Points at 1%
$13,300 ………… Down Payment
$27,567 ………. Total Cash Costs
$29,900 ………. Emergency Cash Reserves
$57,467 ………. Total Savings Needed