A housing-price bubble, according to Roubini and Shiller? Facts about Swedish housing prices and disposable income (updated June 2014)

Updated June 15, 2014 with the latest available data: April 2014 for housing prices and 2014Q1 for disposable income. Updated July 29, 2014, with a figure showing nominal housing prices and nominal disposable income separately.

New Ekonomistas post (in Swedish). Here is an English translation.

In a post on Project Syndicate,  Noriel Roubini warns about a Swedish housing-price bubble. He writes:

Signs that home prices are entering bubble territory in these economies include fast-rising home prices, high and rising price-to-income ratios, and high levels of mortgage debt as a share of household debt.

According to the Swedish daily Svenska Dagbladet, November 7, the Nobel laureate Robert Shiller says:

I believe people here in Sweden have an illusion that rising prices is a long-run trend, it is reminiscent of a bubble.

But what are the facts about Swedish housing prices? Are they rising fast, in real terms and in relation to disposable income? The fact is that they have fallen relative to disposable income and were in April 2014 still 7 percent lower relative to disposable income than six and a half years ago, in the fall of 2007.

In an earlier Ekonomistas post (English translation), I have shown that, since the fall of 2007, real housing prices have increased very little and that housing prices relative to disposable income has not increased at all. Now I have updated with the most recent data. Housing prices relative to disposable income were in April 2014 actually still 7 percent lower than they were six years ago.

Above, we see that aggregated nominal housing prices have increased by 23 percent in 6 1/2 years, since the fall of 2007. This is a nominal annual growth rate just above 3 percent, not particularly large.

Why compare with the fall of 2007 (more precisely, August 2007, when the index is set to 100)? Well, by then, the large effects of the abandoned wealth tax and the strong limitation of the property tax should have had their impact on housing prices. Furthermore, a substantial part of the transformation of rental housing to condominiums had taken place. It was also a year before the financial crisis became acute, the Riksbank’s policy rate was not far from 4 percent (what was considered the normal level), and mortgage rates were not particularly low.

Above we see that aggregated real housing prices (aggregate nominal housing prices divided by the CPI) have increased since the fall of 2007. The increase is about 14 percent. This is a real growth rate of about 2 percent per year during the last six and a half years. This is not very much.

Nominal housing-prices-and-disposable-income-1406

Above we see two figures, one showing nominal housing prices and disposable income separately, the other showing nominal housing prices in relation to disposable income (nominal housing prices divided by nominal housing prices). We see that aggregated housing prices in relation to disposable income (nominal housing prices divide by the annual nominal disposable income) are actually 7 percent lower than they were in the fall of 2007. Nominal disposable income has increased by 31 percent from the fall of 2007 through the first quarter 2014, and thus more than  the increase of 22 percent of housing prices. After a recovery during the last few years, prices of flats are now back at about the same level as they were six years ago. Real prices of flats have increased since 2007, but real disposable income has increased as much.

These data hardly indicate that there is a housing bubble, in particular since housing prices have not risen faster than disposable income.

In their classic 2003 article, ”Is there a bubble in the housing market?”, Case and Shiller discuss what defines a bubble (pages 299-300):

The term “bubble” is widely used but rarely clearly defined. We believe that in its widespread use the term refers to a situation in which excessive public expectations of future price increases cause prices to be temporarily elevated. During a housing price bubble, homebuyers think that a home that they would normally consider too expensive for them is now an acceptable purchase because they will be compensated by significant further price increases. They will not need to save as much as they otherwise might, because they expect the increased value of their home to do the saving for them. First-time homebuyers may also worry during a housing bubble that if they do not buy now, they will not be able to afford a home later. Furthermore, the expectation of large price increases may have a strong impact on demand if people think that home prices are very unlikely to fall, and certainly not likely to fall for long, so that there is little perceived risk associated with an investment in a home.

If expectations of rapid and steady future price increases are important motivating factors for buyers, then home prices are inherently unstable. Prices cannot go up rapidly forever, and when people perceive that prices have stopped going up, this support for their acceptance of high home prices could break down. Prices could then fall as a result of diminished demand: the bubble bursts.

But the mere fact of rapid price increases is not in itself conclusive evidence of a bubble. The basic questions that still must be answered are whether expectations of large future price increases are sustaining the market, whether these expectations are salient enough to generate anxieties among potential homebuyers, and whether there is sufficient confidence in such expectations to motivate action.

Thus, important characteristics of a bubble are that homebuyers have excessive expectations of large future price increases; that first-time homebuyers buy housing that is too expensive for them in expectations future capital gains and that they are worried that if they don’t buy now, it will be to expensive later; and that homebuyers believe that it is unlikely that housing prices will fall. Furthermore, a bubble is fragile. If prices don’t continue to increase, the bubble bursts.

Case and Shiller report that American homebuyers expected annual price increases over the next ten years of 13 percent in Los Angeles, 16 percent in San Francisco, 15 percent in Boston, and 12 percent in Milwaukee. An increase of 12 percent per year means a tripling of value in ten years.

It is difficult to see that that the Swedish housing market fits this description. I am not aware of any data indicating that Swedish homebuyers would have such unrealistic expectations. Housing prices relative to disposable income are now 10 percent lower than six years ago. Housing prices have also fluctuated and fallen substantially during this period. The largest fall in real terms was 10 percent for houses and 20 percent for flats from the fall of 2007 to late 2009. The Swedish housing market seems robust and not fragile, in contrast to a bubble.

(In my previous post (English translation) on this issue, I hade by mistake divided nominal housing prices by real instead of nominal disposable income, which resulted in too high a ratio after 2007 between housing prices and disposable income. The post has now been corrected.)