Amongst economist, there has developed a clear divergence of opinion as to where the market will go from here over the next 5 years and out into the long term future.
To simplify what is a very complex technical debate let’s call the two competing views the Business as Usual and the Reversion to History models. The debate is over a very simple equation r>g.
The supporters of the Business as Usual view, loosely followers of Simon Kuznets and Francis Fukuyama, believe that there is economic evidence to show that market forces first increase then decrease economic inequality. For them, the future will bring a continuation of the economic trend starting around 1920.
The supporters of the Reversion to History view, loosely followers of Thomas Piketty, believe that there is evidence to show that the trend of data between 1920 to 1970 was a temporary anomaly and that the world trend evident between 1770 to 1920 is reasserting itself. They believe the future will look more like the period 1870 to 1920 than the period between 1920 to 1970.
Looking at the data from 2008 to 2014, it is not at all clear which view will prove to be most prescient, so we offer you our view of what market trends might develop under each scenario.
To give you the best chance of making sense of today’s French mortgage market trends this edition of our French Mortgage Market Trends will be structured into 4 sections:
Section 1: French mortgage market trends and the r>g debate.
Section 2: French mortgage market trends under the Business as Usual scenario.
Section 3: French mortgage market trends under the Reversion to History scenario.
Section 4: French mortgage market trends most likely scenario.
Market Trends | r>g
The factual outcome of the r>g debate, i.e. the actual future outturn, will be pivotal to the market trends that we will experience over the next 25 years.
If the Business as Usual scenario comes about we will experience a return to economic growth and a probable return of inflation.
If the Reversion to History scenario comes about then we will move into a world of slow growth and very low inflation.
Watch the following video on the debate staged at the Graduate Center of the City University of New York and make up your own mind as to the probability of either outcome.
Business as Usual
The Eurozone Crisis has clearly not been “business as usual” and the crisis just seems to roll on and on. Again speculation has returned to the Grexit.
Hopefully, its end is in sight and the conclusion is not difficult to foresee: the smart money has already placed its bets on recovery.
But in most people’s eyes French market trends are just not yet trending so there are still property bargains to be picked up across France helped by low French mortgage rates and a greater supply of French mortgage funds..
What is difficult to forecast is how and over how long the final phase of the debt deflation will play out before “normal service” is resumed.
Because our market trends page is intended to be a long term not a short term view I’m going to focus on what we expect to see in the long term, 5-10 years out.
Reversion to History
Under this scenario the Eurozone Crisis is more likely to end in persistent deflation than a return to growth and inflation.
The economic picture that we saw across the Eurozone throughout 2014 will be the new normal and it will persist into the medium term
Interest rates will be low in nominal terms but high in real terms because inflation will be even lower.
The French property market will become a two speed market with high prices and high liquidity in the most desirable areas, such as Paris 16, but falling prices and minimal liquidity across large areas of France.
French mortgages will remain cheap and readily available to the wealthy.
The banks will probably raise the bar in respect of French mortgage qualification criteria.
On a macro-economic level it is likely that the global and Eurozone economies will evolve quite closely to the Reversion to History scenario.
However we think that on balance French mortgage market trends are likely to track closest to the Business as Usual scenario.
This is because the French housing market will become increasingly central to the French political agenda and that French domestic economic policy will dictate French market trends in the short to medium term.
- Historically low Euro € interest rates, but they will rise back to normal levels over the medium term despite the latest ECB statement.
- Even in the UK and the US the recovery does not have much of a “feel good” factor yet, but this upturn may be the start of the 6th Kondratieff wave and run for 40+ years.
- Impossibility of getting a sensible real return on savings deposit accounts.
- Increasing French mortgage affordability as the Euro falls into 2015 and beyond.
- French housing market now past the bottom, with house prices again rising again in 2 of the 3 housing sectors.
- Basle III beginning to bite through a tightening of bank capital adequacy requirements.
- Eurozone will finally stabilise, perhaps with the issuance of ECB Euro Bonds and market confidence in the Euro will return.
- 85% + probability that we will see significant inflation after 2015.
- Normal French mortgage lending has returned allowing buyers to chase property.
- A return to inflation post 2015 as the central banks’ quantitative easing washes through the global economy will drive property prices rapidly higher in money terms.
- Basle III and the latest ECB guidance has changed the European bank lending horizon for the next 30 years. All French banks have responded with product and rate changes during 2014 but it will be months before the fallout has worked its way through the financial system.
Our economic viewpoint is that the news from the meetings of the European Central Bank and the Bank of England continue to confirm our analysis and our forecasting models, but doesn’t bring us any closer to agreeing with their overall view as to where the economy is now. The uncertainty we have centres around the long term effect of Basle III which is likely to decrease world GDP by between 0.05% to 0.15% per year for the foreseeable future.
We see a global economy that is pulling out of recession faster than the commentators are predicting and which is in danger of being over-stimulated to such an extent that we will be impelled into a future round of high inflation, especially property price inflation, and higher nominal interest rates. Certainly the recovery will be lumpy and markets will oscillate but nonetheless we should begin to see the economy lurch fitfully towards recovery.
Here’s the evidence:
In 2007-08 the Central banks were slow to recognise the onset of recession and initially intervened too little and too late. At the time they were criticized for “driving in the rear view mirror”; we think they still are. They are more focused on Q4 2008 than on Q4 2016. Throughout 2011 inflation was higher than expected despite the recession so expect UK inflation to push upwards in 2016 unless the next government precipitates an economic meltdown through ideologically driven cuts.
QE (quantitative easing) is claimed to be a new policy tool and the commentators are speculating that it may not work. We know from the Monetarism experiment of Milton Friedman and the Chicago school in the 1980’s that reducing the money supply suddenly and significantly can bring an economy to a screeching halt in months, as happened in the UK and US. So if the technique works when it’s called monetarism and the money supply is reduced, it’s perverse to believe it won’t work when it’s called QE and the money supply is increased. The only imponderables are how long the policy will take to have an effect and how big the overshoot will be. There are already worrying signs of asset price inflation.
The corporate banking sector has recovered rapidly, an early indicator that the corporate sector is recovering. There are still areas of weakness, but with banks typically paying between 0.0% to 0.5% on deposits and charging around 26% for overdrafts their financial position is improving by the day. The sovereign debt crisis of 2011 is the second leg of the debt deflation cycle, of which the banking crisis of 2009 was the first leg, and we will not be back into “normal” territory until it has finally worked its way through the global economy.
Global stock markets are already pricing in a recovery on good days and discounting economic Armageddon on bad days. Extreme volatility is always a sign that the markets are at a major trend turning point.
Purchasing managers’ indices around the world are starting to indicate that the de-stocking cycle has ended and output volumes are rising above 50, the level which indicates positive growth. The smart money is now betting against renewed recession, but is betting on a protracted period of “stagflation”.
Smart professional analysts are hurriedly re-reading their textbooks on the Kondratieff wave theory and the commentators are re-discovering Bob Beckman, “a man whose predictions were 25 years ahead of their time”, and his seminal book “The Downwave: Surviving the Second Great Depression” (now selling on Amazon at £77.95 plus delivery!). Both point the way to a long period of recovery and growth, the 6th Kondratieff wave.
There will undoubtedly be setbacks in the coming months but overall we stand by our present long term economic viewpoint.
The Long View
Our view, formed from analysing all the recessions back to the late 1800’s, is that we’re been through a couple of tough years with a noticeable “feel bad” factor and sentiment won’t improve much anytime soon. But over 90% of people will keep their jobs, the £ Sterling will recover to around €1.35-€1.40. The coordinated policy from the US Fed, European Central Bank and the Bank of England has already ignited a bout of asset price inflation beginning around 2013. For the first time in a long time, the advice to those seeking the French lifestyle and those wanting a good investment is now the same – buy French property on a Euro mortgage.
Surprised? Well, here are the investment facts.
The Fed has maintained its key interest rate in the target range of 0% to 0.25% and in an acknowledgement that interest rates can’t go lower has injected hundreds of billions of dollars by way of “quantitative easing” (or printing money if you’re not an economist). However, though the key rates are being held low, the rate for emergency loans has now risen 0.25%to 0.75% and this probably marks the low point in the global interest rate cycle. In Europe the key rate is lowest at 0.15% but in the UK the key rate is still 0.5% with £200 billion of quantitative easing. It’s going to be difficult for money to get much cheaper, unless the banks decide to pay you to borrow and we don’t foresee that ever happening.
House buyer’s conclusion – Lock in these low rates for the whole of the next interest rate cycle while you can.
Jobs and Wages
Unemployment has probably peaked and was very painful for those that lose their jobs or who were forced to take jobs with much poorer employment conditions. Against that, over 90% of us stayed employed and though the growth in our pay packets stalled we still actually have a surprising amount of cash to spare because near term price inflation in many consumer product categories is very firmly in check. The pound in your pocket is going to go further, even though you have fewer of them.
House buyer’s conclusion – This is not the doomsday scenario, the vast majority of you will lose neither your jobs nor your purchasing power.
The pound is presently very low and the dollar depressed. What happens next is going to be a weakening of the Euro. We expect Sterling to stabilise around €1.35-€1.40 by the end of 2016 though it may overshoot in the short term to around €1.67. If you are Buying Euros we can help you get the Best Exchange Rates by sourcing your Euros at money market rates – much cheaper than buying over-the-counter.
House buyer’s conclusion – Don’t pay cash, take a mortgage and repay when the Euro has fallen.
The French market did not inflate to the same unsustainable levels as the Anglo-Saxon markets. Prices have fallen but are again on the way up and market liquidity is recovering.
House buyer’s conclusion – Prices at this level offer outstanding long term investment value and as these low prices won’t be around for long delaying a purchase in the hope of a future lower price is now plain unrealistic.
“Quantitative easing” means quite simply “we’re going to print money like there’s no tomorrow, until we have inflation running out of control again”. Anyone remember the 1970’s when house and gold prices took off because they represented the only tangible value? Anyone heard of the Zimbabwe dollar? – They’re printing money right now! Printing money (i.e. increasing the money supply) will ease the economic situation in the short term but it won’t increase the real stock of wealth so eventually real asset prices (gold, land, property etc.) will go up.
House buyer’s conclusion – Property will soon return to being the best hedge against inflation that most of us have access to.
Overall Investment Strategy
The people that make money from investing are often those that take a “contrarian investment view”. Contrarians buy when prices are depressed and sell when prices are high. So let’s pull the threads together and see what the facts suggest. Historically low interest rates, a 90+% probability that you won’t have been personally affected by the recession, increasing mortgage affordability as the Euro falls, a housing market just past the bottom and the probability that we will see significant inflation after 2016. There may even be a return to 1970’s style “Stagflation” which will drive property prices rapidly higher in money terms.
House buyer’s conclusion – Is that a “buy signal” or is that a “buy signal”?
Most economic forecasting models are what is known as econometric models and use techniques such as:
- Simultaneous equations
- Economic base analysis
- Shift-share analysis
- Input-output models
- Grinold and Kroner models
They are generally good at predicting a continuing trend but much less helpful at predicting turning points in the economic cycle.
We, by contrast, use
- Neural networks
- Monte Carlo simulation
- Box Jenkins models
running on long term time series data which we find produce very accurate probability forecasts and are especially good at forecasting changes in the direction of a trend.
If you would like to discuss our methodology please feel free to contact us.