by Jas Jain
October 2, 2005

The 1980-82 Double-Dip recession in the US was the worst since 1950 and would have qualified as a depression prior to 1920s. However, since there was no formal definition of a depression the economists stopped using the term depression for what is otherwise a deep recession.

�The median [US house] price rose to a record $220,000, up 15.8% from August 2004. That was the biggest 12-month increase since a 17.2% rise in July 1979.�

For many of the recent data on the housing boom � price gains, new housing starts, sales volume, etc. � one has to go back 26 years to find comparable numbers. In terms of price gains, the current boom is a bubble compared to the late 1970s because the inflation-adjusted price gain today is much greater than in July of 1979 when the inflation rate was 11.26%, compared to 3.64% today. The real price gains are at least 6% higher than 26 years ago.

All booms end. What if 2006-2008 turns out similar to the period 26 years ago? Let us look at some of the similarities and differences between the two periods:

1. In both periods, during 1976-81 and today, inflation expectations were high, i.e., for inflation to rise rather than fall. This usually prompts people to �invest� in housing, a good long-term hedge against inflation. It is a little known fact that stocks are also a very good long-term hedge against inflation. However, stocks do poorly while inflation is rising and then do spectacularly well when it is falling; housing shows a reverse characteristic. Thus, we have two good long-term inflation hedges whose short-term behavior is very different; even reverse at times.

2. We know what happened to the inflation expectations of the late 1970s (we have had 25 years of falling inflation, if we look at the long-term trend; although the last 10 years are relatively flat if we ignore short-term fluctuations). Could the same happen to the current inflation expectations?

Yes. And why not. When 99%+ of the population and overwhelming number of mandarins see rising inflation ahead what do you suppose is likely to happen?

3. For the record, none of the major asset markets � real estate, stocks, and bonds � saw the coming collapse of the inflation rate, from 15% to 4% in three years, but the bond market was one year ahead of the stock market.

Most clueless were the �city people� in Californica who were buying land in the outlying areas. Many developers went bust. Yes, today, I mean NOW (at the late stage of the current boom), you can buy some of the lots at the same price as people paid in late 1970s! Two and half years ago, some lots were selling at 1/5th the price of what people paid 25-30 years ago. This phenomenon has repeated itself many times in the US, especially, in Californica and Floridicula, where land in outlying areas is more than plentiful. I know a person who sold such lots at 5 times the price he paid just two years ago (on e-Bay!).

4. The total household debt, as a percent if incomes, is twice today.

Overall, the mortgage debt, as a percent of incomes, is more than twice what it was 26 years ago; for the most leveraged borrowers it is 3-4 times. When lenders are more irresponsible than the borrowers and the regulators are pussyfooting around them, some or other economic reality will assert itself and stop the game in its track. I know of one very efficacious economic reality that will do the job in the most efficient manner possible � Deflation. Think about it. Yes, the falling inflation trend has not yet run the course. We don't need a 10% fall in inflation from here to create an economic mayhem; a mere 2.5% drop in core inflation would do the job and a 5% drop would be surgical precision � all the debt-built dominos will collapse to the ground like the building in Las Vegas that are demolished.

5. The first leg of the Double-Dip recession of 1980-82 began six months after the peak in the US housing price appreciation. We may have the history repeating itself, with even more rapidity. The second leg was lot more painful than the first and this time around, with twice the debt load, it would be four times more painful.

The economy that lives by the Housing Bubble would die by the bust of the Housing Bubble. One mistake that no one should make during 2006-08 is to time the bottom of anything, including the economy. Fifty-five years of accumulated economic sins take a long time to wash. Only ignorant people believe in the power of governments to prevent depressions. For an American to have faith in such government powers is moronic.

© 2005 Jas Jain
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Jas Jain

Tehachapi, CA USA

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