# Is property investment becoming a Pyramid scheme



## jister (7 Oct 2004)

After reading this article in the Irish independent this morning I believe it must be turning into a Pyramid scheme:



A large chunk of economic growth is being driven by the construction industry - but how will that growth be affected when the building sector turns down?

THERE is no doubt now that over 80,000 new dwellings will be completed this year. In the last three years, one dwelling has been built for every ten adults in the country, including all those who already had one. What on earth is going on? 

Yet prices, while not galloping ahead at their previous breakneck speed, appear still to be clipping along at around a 9pc annual increase. Even more amazing, and perhaps alarming, are suggestions from estate agents that we might get a similar pace of building next year as well. 

It is a little early to be definite about that. But given what we know about planning permissions and registrations, it seems unlikely that fewer than 70,000 more units will be built next year. 

This must be more dwellings than there are people to live in them, or else all the statistics about population and household formation are complete nonsense. They may be a bit wrong, but they can hardly be that wrong. Indeed, Davy Stockbrokers reckons that around half the new homes built in the last seven years must be empty, or being used as second homes. 

This also seems hard to believe, although it is clear that a lot of people have acquired second properties for themselves, and there are reports of vacant and unsold properties, at least in certain areas. Like all these kinds of things, we will not know for sure until the fat lady sings - either an aria on the joys of a soft landing, or the Gotterdammerung of a price collapse. 

But, if we may not be sure what drives the house-building boom, we have a very good idea of what is being driven by it - a large chunk of economic growth. This was very clear from last week's figures for such growth in the second quarter of the year. 

The scale of house-building in 2004 translated into a 20pc increase in construction in the April-June period compared with the same period last year. It is a spectacular rate of growth, and all the more spectacular when one considers the importance of construction in the whole economy. 

On CSO figures, construction made up a quarter of the 4.1pc year-on-year growth in national income (GNP). On other figures, it is even higher. If we take a shorter snapshot, starting in 2003 rather than the CSO statistical base of 1995, then half the growth came from construction - most of it housing. 

Nothing wrong with that, per se. Construction, after all, is the very essence of output. What could be more solid than bricks and mortar, followed by furniture and fittings? It is a lot easier to understand than the contribution of software writing, never mind fund management. 

But it does make it necessary to take a more careful look at those buoyant growth figures. They seem to confirm forecasts that, for the year as a whole, the economy will grow by at least 5pc in real terms, which is about as good as it gets. 

However, while we may not know what the property market is doing, still less where it will peak, we do know that building cannot continue at this pace for ever. Just as Celtic Tiger growth rates would have made the Irish economy the size of the United States' in 25 years, so 80,000 units a year would eventually see every adult living alone in a place of their own, in rather less than 25 years. 

When construction does turn down, it will produce a significant drag on growth. This is one of those rare, but useful, moments to recall what "growth" means. It is not the actual level of income or output, but the increase from one year to the next. If house-building falls from 80,000 a year to 70,000, it is still 70,000 extra homes, and an extraordinary level of output, but it is negative growth. Such are the ways of statistics. 

As the chart shows, there has always been a strong connection between construction and GNP, but the building industry is now so big that negative growth there would knock a good chunk off national growth. 

Nothing short of disaster would produce a fall in national figures. But, without the contribution of construction, annual growth in the second quarter would have been 3pc on the CSO measure, and 2pc if based on last year's performance. And remember, anything less than 80,000 houses next year and there is no contribution from that sector. 

So it is worth looking at the other components of growth up to June. Suddenly, things look a good deal more pedestrian. In particular, the rise in personal consumption, at 2.2pc in real terms, was a lot less impressive than many had hoped. 

Consumption - the main driver of the economy - had been muted for the previous twelve months. Analysts still hope for something better in the second half of the year. Retail sales figures - and my Henry Street indicator mentioned a few weeks ago - suggest their hopes may be realised as people become more confident about job prospects and the general economy. 

The same may not be true of industry, where production statistics and the monthly NCB survey suggest performance remains modest. The CSO put year-on-year growth at 2.9pc to the second quarter. Export growth of 6.6pc is flattered by comparison with the disasters of this time last year. The fact is that exports have grown just 5pc in nine months of "recovery". 

How does one square this solid, but hardly exciting, performance against the buoyant tax revenues revealed on Monday, and forecasts of a new tiger cub delivering 6pc growth over the next several years? Well, house-building is a real boon for the Exchequer, in everything from stamp duty to VAT on furniture. 

As for the outlook, it must be said that the figures for jobs growth are highly encouraging, and this is swelling both government coffers and national income. One of the great unanswered questions is how the economy generated so many jobs in the early stages of recovery. If it continues to do so, the optimists may well be proved right in the end - or as near as makes no difference.


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## techman (7 Oct 2004)

*re pyramid scheme*

I read the article this morning and I agree with alot of what it says. From anecdotal evidence over the last few years I have noticed how much economic activity in Ireland is now construction related. The construction industry was probably the biggest creator of jobs over the last few years. If the construction boom had not continued after 2001 then we would have had a real recession. As I said before in another thread the natural end to the boom in construction should have been in 2001. Up to 2001 the housing boom was been driven by first time buyers however since then it has been driven by speculation and people buying second homes for investment. Up to 2001 the sexy occupations were in software and technology, the lifestyle magazines were filled with stories about the dot com millionaires. Of course we all no where that went. Now the sexy occupations are in the construction industry, home improvements, architecture and gardening and today this is what the lifestyle magazines are full of.
          The construction boom is based on confidence, confidence that someone else will be prepared to buy your property for a higher price than you paid for it. This is what lies behind all pyramid schemes including the dot com one. It is also true that the end of the property boom has been predicted for a long time now by many respected commentators and it hasn't happened yet. In a way this is actually fueling the boom. As soon as someone such as the economist says that property is due for a fall there is a plethora of people from the bank of ireland to the association of auctioneers out to shoot it down. All these people have vested interests in maintaining the boom. The property boom is far far more dangerous than the dot com boom because so much of the economy is now involved in it. Indeed it can be argued that the dot com bust hasn't happened yet it is waiting for the property crash. We are still waiting for the 2001 recession and every year it is delayed will make the consequences graver and graver


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## Morph (7 Oct 2004)

*Pyramid Scheme*

Less then two weeks ago the International Monetary Fund (the IMF) warned that Ireland is at greatest risk of a sharp fall in prices of any country in the world!

money.guardian.co.uk/hous...24,00.html


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## Morph (7 Oct 2004)

*Oil leaps to a 21-year high*

Might this be seen as the trigger which created the housing market crash?

Oil leaps to a 21-year high
www.thisismoney.com/20041...83275.html


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## jister (7 Oct 2004)

*boom boom bust*

At the moment there are 80K houses being built per annum. If it falls to 60K per annum then there will be a lot of builders out of work and they will have to cut their labour rates etc. etc. Once a downward spiral starts it may be very difficult to stop it.


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## owenmorie (8 Oct 2004)

A comparison to pyramid scheme does not seem very vaild, but I would compare it to the shoeshine telling me to buy buy buy.

Take a look at the Housing Statistics bulletin from the Department of the Environment web site, March Quarter 2004 (It's in the July press releases section). It states that second hand House prices FELL for those three months. Only by ~1.6% but it was a fall. New house prices rose by less than ~2%. This is certainly not the 12% self fullfilling prophecies on the Irish Independent's breaking news from the estate agents.

Nobody wants to say the emperor has no clothes. The next Housing statistics bulletin should be out in about three weeks. I'm looking forward to it.


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## Guest (8 Oct 2004)

> Nobody wants to say the emperor has no clothes. 

Didn't The Economist magazine accuse the Emperor of peregrinating in his nip a few years ago but he's been well dressed all the while?


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## owenmorie (8 Oct 2004)

Even a stopped clock is right twice a day!


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## Guest (8 Oct 2004)

Only once in the case of a stopped 24 hour digital clock.


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## oilean (8 Oct 2004)

If a 24 hour digital clock is stopped in the woods will it still make a noise if a bear shits on it?


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## Jose (8 Oct 2004)

"The next Housing statistics bulletin should be out in about three weeks. I'm looking forward to it."

Owenmorie, why exactly are you looking forward to it? Are you expecting a drop in house prices??

I guess you were to slow to purchase a few years ago when even the dogs on the street were able to make easy money by buying property


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## jister (8 Oct 2004)

*bulletin*

I'm looking forward to it too. I don't care if my home is devalued by 50% - its paper value means nothing to me.


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## owenmorie (8 Oct 2004)

*Re: bulletin*

Yes I was too slow a few years ago to buy property, but anyone with a second or third house would do well to remember that you haven't made (or lost) any money until you have sold.


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## Jose (8 Oct 2004)

*Re: bulletin*

Owenmorie,

If you do not own any investment properties why are you looking forward to the housing bulletin so much?

Why is it that (some) people who have not invested in property cannot wait for prices to fall?? Good old Irish begrudgery perhaps!


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## piggy (8 Oct 2004)

*Re: re pyramid scheme*

*Indeed it can be argued that the dot com bust hasn't happened yet it is waiting for the property crash*

You wouldn't be saying that if you worked in IT.


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## piggy (8 Oct 2004)

*Re: boom boom bust*

*At the moment there are 80K houses being built per annum.*

According to this report "2002 and 2003 were the 8th and 9th consecutive years of record housing output with 57,695 and 68,819 completions, respectively throughout the state...

...Output remains high in 2004 with 35,957 units completed in the first six months."

Not 80,000 a year at all.

*THERE is no doubt now that over 80,000 new dwellings will be completed this year*

How exactly does the Indo _know_ this?


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## owenmorie (8 Oct 2004)

*Re: boom boom bust*

It's not begrudgery, I want to move up and the extent to which I can do so.............


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## piggy (9 Oct 2004)

*Re: boom boom bust*

*It's not begrudgery, I want to move up and the extent to which I can do so.............* 

It might not be begrudgery but it certainly sounds like it.
Praying for a market crash is rather selfish in that it ignores all the other people who have property as an investment - such as for their retirements.

I have only recently bought - and as I'm single had to do so with a friend, to get myself on the ladder. I would not have wished to see the market plummet before I bought. What I would be happy to see, even now, is the market level off.


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## rainyday (9 Oct 2004)

*Re: boom boom bust*

Some might say that praying for the market to stay level is actually the selfish approach - aimed at protecting your own investment at the expense of those less fortunate who have not been able to get into the market yet.


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## Repaymentator (10 Oct 2004)

*Re: boom boom bust*

That would be a harsh thing to say. If it stays level for a few years affordability should start to return as wages increase due to inflation.


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## piggy (11 Oct 2004)

*Re: boom boom bust*

*Some might say that praying for the market to stay level is actually the selfish approach* 

Hi rainy,

I'd have to say I agree with Repaymentator on this.

First of all, I'm not _praying_ for the market to level off at all. If I had a preference...that would be it.
In my opinion, it'd be the best solution all round. But not the one which would necessarily suit _me_ best.
Stating the obvious here but houe prices can only do three things. Go up, down or stay where they are. 

Going up just makes it harder for people to get on the ladder.
Going down, or crashing would be disastrous for the whole country.


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## rainyday (11 Oct 2004)

*Re: boom boom bust*



> Going down, or crashing would be disastrous for the whole country


Absolutely not. My mortgage repayments won't change, regardless of whether the paper value of my house goes up or down. A price drop will make it considerably easier for FTB's to get onto the ladder. How will a price drop of say 20% be a 'disaster' for the whole country?


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## TirOileain (11 Oct 2004)

*Re: boom boom bust*



> Praying for a market crash is rather selfish in that it ignores all the other people who have property as an investment - such as for their retirements.



Those who invest in property for whatever reason take a risk in doing so. I don't see why those who are buying for the first time should feel one ounce of guilt, by hoping that prices fall significantly. Nor do I think there is anything wrong with hoping for high capital appreciation on a property investment. And why would those who invest in property for retirement feel the pinch if prices fell?


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## piggy (11 Oct 2004)

*Re: boom boom bust*

*How will a price drop of say 20% be a 'disaster' for the whole country?* 

I'm no economist but this article provides some insight into how a price crash would affect the economy (albeit in England).
business.scotsman.com/eco...1276932002


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## rainyday (11 Oct 2004)

*Re: boom boom bust*

Hi Piggy - The article says very little - other than saying that some households will get pushed into negative equity, and there may be some dampening of consumption.

Nothing quantifiable here - maybe a bit of dampened consumption wouldn't be such a bad thing here - might make it a bit easier to get some value for money, or to get a tradesman or whatever. I still don't see what the problem is?


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## piggy (11 Oct 2004)

*Re: boom boom bust*

Hi rainy,

Like I said I'm no economist so I'm basing my hypothesis on what I've read. You could be right...but there are those that believe that a sharp price reduction/correction could be very bad for an economy.

www.thisismoney.com/20040...77280.html

_*"A sharp decline in house prices can be costly for the economy. Evidence suggests that housing price declines tend to be protracted and are often associated with declines in economic activity and financial instability"*_


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## LondonIrish (11 Oct 2004)

*boom boom bust*

a property crash would not be an enjoyable experience for anyone. everyone in the country would be effected. for a start a huge amount of paper wealth would evaporate and a lot of people would find themselves with repayments on assets that may never see their purchase price. ok, so initially this will only really effect those who have extended themselves but the implications for the whole economy would be very serious. For a start construction accounts for a disproportionately large share of GDP and GDP growth. So economic growth would slow considerably. Every business in the land that relies on consumer spending would feel the pinch (and not just restaurants!). Furthermore all these consumer businesses do not exist in isolation from the rest of the economy, the invisible hand will be felt everywhere. 

Moreover, why would anyone buy property if prices fall 20% - why not wait for a 40% fall (some Japanese prices fell 90%!). Confidence would leave the housing market & labour mobility would be severely effected. Do not count on hoards of FTBs rushing into the market - you could find a lot of them out of work as the economy slows and even if they did have a job a lot of people would not be inclined to get into debt in a downturn if they cannot avoid it. Not to mention that the banks are now carrying a huge load of bad mortgage debt & do you think that they are going to be in a position to increase their exposure to the residential property sector (assuming they have not gone bust).

Think of the effects of the unwinding of the tech boom in the US but on a much greater scale. Moreover, as the economy slows tax receipts fall thereby preventing the government from boosting consumption via spending (not to mention the fact that the EU budgetary rules could severely limit the the gov's room for manouvre). With fewer jobs immigration would slow thereby further dampening domestic demand.

I know that if you have a small mortgage and have managed your finances prudently you may think that this will just be a spectator sport but a general slowdown in the economy would hit almost everyone's wallet. You  could be stuck in your home for a long while - unable to sell it to part-fund your retirement. 

In sum a property crash could easily precipitate a much deeper slowdown (our could easily be a casualty of one).


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## sfag (12 Oct 2004)

*a pyrimad scheme is what it is*

The way it works is like this.

Real life example.
Someone pays 700,000 for a 1300 sq ft semi because they sold their old house for 400,000. They justify the new price by subtracting the equity in their old house from the new price.  They only owned the old house for 4 years and bought it for 80,000. 

At no times do the purchasers consider the price of the new house - they only consider how much they have to borrow and how much the repayments are and do the sums on that basis. 
Both prices are inflated but the new higher one can only exist if the cheaper price is attainable by the buyers. 

That is a pyramid I'm a afraid - just like the dot com boom when company A would go up in price only because it started to look cheap against company B when went up in price the previous month; one valuation being entirely relative to the other. 
It is worth remembering that the cost of building a 1300 ft semi is around 150,000. That leaves the tiny site worth 500,000.

The situation I'm quoting is real and is the way the house boom has been created – (that and the restrictive planning permission – but that’s another story)


I for one would like a 50% reversal in prices – otherwise my children are going to be living with me for ever. Then big question is how badly will it effect the economy. Might not be so bad at all. After all we might regain our competitiveness due to cheaper rent and all the glorious knock on effect that will have.

Ps there are certain groups in society that don’t have to beg banks to give them money. Professions such as solicitors and doctors can borrow any amount they want due to the fact that they operate in a protected environment that will always make money regardless of whether the economy is on the way up or down. This adds to inflationary pressure at the top end of the market which then has a knock on effect at the bottom. 
This is how doctors or solicitors can and do move from 1st job & no house  to 1 million  euro houses in 5 odd years with as little as 2 house moves.


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## TirOileain (12 Oct 2004)

*Re: a pyrimad scheme is what it is*



> At no times do the purchasers consider the price of the new house - they only consider how much they have to borrow and how much the repayments are and do the sums on that basis.



Right you are. These days it's "buy if you can afford", or "the price of the house doesn't matter, affordability is all that counts". I'm always flummoxed by why this type of advice is so widely accepted, how can the capital portion of a loan not be important? Just because you can afford something that doesn't make it worth it. 

The pyramid analogy is a poor one though. The mathematics are completely different, and pyramid schemes are always doomed to failure, boom cycles are not.


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## rainyday (13 Oct 2004)

*Re: a pyrimad scheme is what it is*

Consume, Consume, Consume

Maybe our society (as opposed to our economy) would be a better place if there was a little less *consuming* and a little more living.


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## mollser (13 Oct 2004)

*boom*

Must admit, the construction argument used to start this thread is one of the most pursuasive i've heard for a while. It rears its head again in todays indo...


"FORMER Taoiseach Garret FitzGerald has warned of the danger of a building slump which could cost thousands of workers their jobs and severely dent economic growth. 

Speaking at an Economic and Social Research Institute (ESRI) conference on the background to the December Budget, Dr FitzGerald said forecasts of continuing growth of 5pc a year were under-estimating the risk posed by the booming house market. 

Over 80,000 houses are due to be built this year, to add to more than 70,000 completed last year, and with little sign that the pace will slow by much in 2005. 

This is far in excess of the estimated need for new homes, which analysts say is 50,000 a year at most. 

"In these circumstances, even a small fall in house prices could produce a huge fall in the level of building, as developers and builders respond by cutting their output. That could happen at any time in the next couple of years," Dr FitzGerald said. 

"With over 200,000 people working in construction, it could have a severe effect on employment. House building is also contributing one fifth of total economic growth. 

"Any fall below this year's level of building means a reduction in growth," he said. 

Ulster Bank economist Pat McArdle also challenged the ESRI forecast which sees Irish output (GDP) growing by 5.4pc next year, after a 5.2pc increase this year. 

"Why should Ireland grow faster when most of the rest of the world is seen as slowing down?" he asked. 

Senior ESRI researcher Danny McCoy said the US economy was still expected to grow by 3.6pc and the eurozone by 2pc. "That should mean good growth for an open trading economy like Ireland." 

Brendan Keenan
Group Business Editor"

www.unison.ie/irish_indep...e_id=11534


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## mollser (13 Oct 2004)

<rant> IMNBAM (I may not be a moderator) but a yellow-card reprimand (and © content removal) is due  for  as was done .</rant><!--EZCODE BR START--><!--EZCODE BR END--><!--EZCODE BR START--><!--EZCODE BR END-->Ever considered what kind of mentality is required to _believe_ in an economy based largely on the construction sector?


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## tyoung (14 Oct 2004)

*The construction economy*

Davy's web site made the point today that industrial production was down sharply in Sept. and consumer spending is sluggish leaving construction as the main growth area of the economy.
  Can anybody spell malinvestment?
  I think the epidemic of one and two bedroomed hutches springing up all over the country will be this generation's Ballymun Towers.


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