# Is house price inflation delayed general price inflation?



## walk2dewater (19 Sep 2006)

General price inflation is a vicious cycle of expectations;  I expect higher prices so I am willing to pay but in turn I demand higher prices for my labour/products.  In recent years expectations have been low and we've grown acustomed to year-on-year price stability.  But has the property bubble and the emergence of a widespread class of "property lottery winners" altered expectations?

E.g.
*Person A saves €50,000 from wages over 5yrs.
*Person B spends all his paycheque but is 'given' €100,000 from property price growth in 5yrs

Q1: Do Person A and B have different perceptions of the value of a euro in their pocket today?
Q2: Do Person A and B have different euro value expectations going forward?


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## CelloPoint (19 Sep 2006)

Eh, are house prices considered as part of the annual inflation figure?

D McWilliams says house price inflation is not included...

[broken link removed]

"But it might come as a surprise to you that the inflation rates that the Government is using to measure the Irish cost of living do not include the price of houses."


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## room305 (19 Sep 2006)

CelloPoint said:


> Eh, are house prices considered as part of the annual inflation figure?



Well the official inflation figure is only a government attempt to measure something that is notoriously tricky to measure anyway. Actual inflation tends to exceed the official measures.

Funnily enough, our decision to include mortgage costs rather than housing costs means that even with falling house prices, higher interest rates will mean the housing component of the inflation calculation will be increasing.

It is clear W2DW that hyper-inflation in house prices has devalued the euro. Last year, my one bedroom bungalow "earned" more than I did. Many (if not most) property owners are in the same situation.

This has definitely led to increasing prices in services. How many times have people referred to the money they are paying for houses as "monopoly money". Even luxury cars seem less of an extravagant purchase in such circumstances. About five years ago, my neighbour bought a Porsche. I could never get over the fact that he owned a car that cost more than his house. Now, brand new, there are very few cars that exceed the cost of a typical house.

Given the amount of debt people are willing to take on, I can only assume that expectations of vastly increased future earnings are also very much entrenched. Hell, we even have a government backed, price/wage spiral in the form of a "benchmarking" agreement!

Inflation, as I have always understood it, comes in two waves. The first wave affects things we own (e.g. houses) and tends to be popular (among owners at least). When this wave isn't tackled, it starts to filter down into things we have to buy (e.g. food, essential services etc.). This wave is enormously unpopular and difficult to tackle and sparks demands for increased wages to meet the increased cost of living.

I think the second wave is starting to really bite now. Funnily enough, even in cases where manufacturers are driven to wall because profit margins are so tight, the Irish people tend to see all price rises as a result of "lack of competition". Some kind of PD effect perhaps?


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## walk2dewater (19 Sep 2006)

walk2dewater said:


> *Person A saves €50,000 from wages over 5yrs.
> *Person B spends all his paycheque but is 'given' €100,000 from property price growth in 5yrs


 
[the arrogance of quoting oneself, anyway..]

Let's say, Person A is German and Person B is Irish. Furthermore, Hans has his money sitting in a savings account, while Sean has his in bricks' n' mortar with hefty mortgage.

How does each of them feel about an 6-7% ECB rate Dec 07?


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## room305 (19 Sep 2006)

walk2dewater said:


> Let's say, Person A is German and Person B is Irish. Furthermore, Hans has his money sitting in a savings account, while Sean has his in bricks' n' mortar with hefty mortgage.
> 
> How does each of them feel about an 6-7% ECB rate Dec 07?



What do you think? An increasing cost of leverage with no corresponding (in fact possibly a decreasing) return on investment ...

I await the day when the answer to every financial problem isn't to take on more debt.


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## baby_tooth (19 Sep 2006)

CAN BE SUMMIZED BY THE "ADABTIVE EXPECTATIONS HYPOTHESIS".

Sorry, caps.

Hans, has historical experience of stable house prices, decent infrastructure, stable economy...etc...with low inflation which drives and at the same time is driven by the same reasons such as stable prices, economy etc...


Paddy, on the other hand has historical experience of doulbe digit capital appreciation, as alas, the irish tend to have short term memories, and alot of current capital appreciation seeking "investors" have very little historical experience of anything else...Add in the whole cyclical inflation problem, where paddy needs more money from his building job to afford to buy the house he wants, and as such, his customers must pay him more to obtain his services. As these ppl must pay him more, they must also seek more money in return.

So this "expectations" is what can be construed to drive alot of inflation.

For example:
With the recent IBEC-Union wage agreement, alot of the propsed wage increase are construed on the basis of the expectations of the various bodies with regard to, say for example, oil prices.
Wages and in turn prices rise, or prices and thus in turn wages rise in expectation of this oil increase, even if such increase may not materialise.

As for house prices, Ireland uses the CPI index which uses a weighted average of mortage costs and rental costs. So if prices double but rates drop by x % then inflation stays still.

There was an attempt by Bertie to try and get us to adopt the HICP which has the ability to distort the inflation figure even more. 

Commonly accepted moot economist point that CPI understates inflation whilst the "GDP Deflator" overstates inflation.


An interesting article here:

[broken link removed]

Bear in mind the objectivity of the sponsor of said article.


Excuse spellings.


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## baby_tooth (19 Sep 2006)

something that may make further interesting reading...well worth a quick glance.


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## baby_tooth (19 Sep 2006)

sorry, forgot to include link

[broken link removed]


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## whizzbang (19 Sep 2006)

walk2dewater said:


> [the arrogance of quoting oneself, anyway..]
> 
> Let's say, Person A is German and Person B is Irish. Furthermore, Hans has his money sitting in a savings account, while Sean has his in bricks' n' mortar with hefty mortgage.
> 
> How does each of them feel about an 6-7% ECB rate Dec 07?



Interestingly I was talking to a few Germans recently about house prices and they both asked "what about when the prices go down?" when we were talking about the cost relative to people's incomes. They aren't in the country 2 weeks and they both saw the madness of it all!

I think a lot of us need to get a bit of perspective.


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## Duplex (19 Sep 2006)

baby_tooth said:


> sorry, forgot to include link
> 
> [broken link removed]


 

Not pleasant reading.


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## Maine (19 Sep 2006)

baby_tooth said:


> sorry, forgot to include link
> 
> [broken link removed]


 
Great post.  House inflation in the real world drives wages.  FTBs buy houses on basis of increases to come in their wages.

Hence as above wages are increasing, toys and tvs have not because they have been coming from China.  It takes time for corporations to base their decisions on higher cost and the construction industry / public sector has pulled in spare workers hence we have not yet seen rise in unemployment.  Dell going to Poland shows how US co's are worried about investing here in case inflation goes through the roof.


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## walk2dewater (19 Sep 2006)

baby_tooth said:


> An interesting article here:
> 
> [broken link removed]
> 
> ...


 
From p5
"*Disney et al. (2002)* performed a similar analysis for the UK. They found a marginal propensity consume out of housing wealth of between 0.01 and 0.03. "
Disney indeed...
and, from p10 - first para in conclusions:
"the recent increase in housing wealth has not been used to fund personal consumption "

This paper is only 3yrs old but reads hopelessly outdated. Marginal propensity to consume out of household wealth 1-3% in UK and maybe Ireland? You must be joking. Where is the money coming from to pay for the dime-a-dozen '06 luxury cars? Hardly out of savings. Mr & Mrs Bought-a-property-before-2004 are hardly walking into the dealers and forking over €50,000 saved up from a series of paycheques. And why do you think hardly any '06 BMWs, Audi's or Mercs bought in Ireland are basic stripped down models? Are these buyers making hard decisions, sacrificing automatic trans so they can afford leather seats? They are in their ar5e, they're getting the full spec cos it "free money" mortgage equity withdrawl.

When the dust settles on this global phenonemom several things will appear obvious in hindsight:
(1) Asset price inflation, and in particular the common man's asset of choice his home, feeds into generalised price inflation. This happens because,
(2) those participating in the asset bubble value money in their pocket less (full spec luxury car phenomenon) and future money even less again, this means that,
(3) those left out/not participating in the asset bubble watch the purchasing power of their savings and paycheques erode and are, in effect, impoverished. Thus, inflation expectations of non-participants in the bubble also rises, bringing us to,
(4) the end result is the price of money [ECB OM rate] has to go to extreme levels to force a sea change in sentiment. This is necessary so as to re-establish stable expectations about the usefulness of cash money as a store of value now and in the future.

[Im answering the questions in my orig post ]


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## baby_tooth (19 Sep 2006)

so to summise,

ppl have experienced massive nominal increases in wealth vis-a-vie house prices, and as such consider themselves to be wealthier and go on a spluge.

but i think the most ppl fail to realise that this increase is only in a nominal term. if they sell and go and buy another they have to pay out what they have gained on the sale.

throw in equity releases and this equates to loss in real income that, currently, is being accelerated in its magnitude on the basis that property prices are increasing. So take 40k out today, still have to pay this back on sale of house. If you go to purchase new house, say it has increased by x percent in nominal terms, then a new house would have increased by a similar x percent and the cost of the equity release in turn increases.

This geometric sequence, tied in with loose leveraging laws/standards, stands to make thing all the more interesting when mid term funding for rish banks starts to tighten...as international commentary downgrades their status. I'm sure alot of ppl have read up on the tulip mania in holland, as well as what drove the 1929 crash to greater depts....borrowing today on future earnings, drives up todays cost, in turn hitting inflation and driving up the repayment costs...

sorry if my train of thought is getting abit waffley-theroritcaly economicly....

quite worrying.


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## walk2dewater (19 Sep 2006)

baby_tooth said:


> so to summise,
> 
> ppl have experienced massive nominal increases in wealth vis-a-vie house prices, and as such consider themselves to be wealthier and go on a spluge.
> 
> ...


 
or to summarise further, if ECB et al don't start reining in inflation expectations/rates soonish we're heading for worthless euros.  The process is already well underway in the US.


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## baby_tooth (19 Sep 2006)

worthless euros....

exactly.

know i'm getting off topic, but isn;t everything linked said the butterfly as it flapped it's wings ;-)

most of europes economics are doing ok, no major trade deficit..and yet euro to dollar and gbp is pretty stable....someone is keeping euro cheaper than it should be...ie taking a punt on it at the cost to europe.

prob combo of ecb with political / export constraints.. and outside influences.

but wonder to what extent euro is being purchased by mid east countries.....china is buying it in...as are alot of african countires,...makes induction none to easy.


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