Steve Keen Predicts The Coming Crash:

Steve Keen is an economist who predicted the 2008 GFC. He has also foreseen the USA property bubble and tried to raise warnings of one in Australia right now. We were lucky to be able to chat to Steve about upcoming events and what he sees happening.

To learn more about Steve please go to http://www.debtdeflation.com/blogs/

Steve can you tell us a little bit about yourself for the readers?
Sure, I’m an associate professor of Economics and Finance at the University of Western Sydney. I particularly look at the level of private debt. In 2005, I realised a major financial crisis was coming. Because the level of debt was blowing out compared to the level of income quite drastically and it just couldn’t be sustained. I thought someone had to raise the alarm. At least in Australia I was that somebody.

Now you have said many times, house prices are way overvalued?
Yes, and when I have said this there is an entire industry making a fortune because of rising house prices. I was a bit like Satan to them and they had to go for the antichrist. I don’t enjoy being treated that way so I came right back at them and that was how I got my public prominence. I really believe house prices should be lower by around 20%.

A lot of people believe that rising house prices are a given. They sum up that rising population equals rising house prices.

But one of the true reasons why house prices have been going up is because debt has been rising faster than incomes. And we have been doing it for forty years. But we can’t keep doing it for 400 years. At some point it has to break and my gut feeling was when I saw the figures back in 2005, that it would just be temporary. We have had a few breaks in the past but they have turned around and this was going to be a big one. In terms of the global financial system, I was right. In terms of the Australian property market, people say I was wrong because house prices rose again.

However they tend to ignore one little factor, that the dealer slapped his hand on the table. The dealer being the government bringing in the first homebuyers’ boost which tilted the market back at that stage.

Let’s look just at mortgage debt. If you look back to 1990, we had a level of household debt to Gross Domestic Product of roughly 17%. So for example, if total GDP was a trillion dollars, then mortgage debt was 170 billion. Fast forward to today and this level of debt is 90%. So if there is a trillion dollars, we owe 900 billion.

So we have ridden a bubble and now we are going down the other side of that bubble. It was the same process which applied in the USA, Spain and most of the OECD. But we have just delayed the whole process by restarting the bubble by the government’s interjection back in 2008.

If the bubble has already broken in the USA. How does our bubble compare to the USA; is ours bigger?
It’s funny because our bubble started to burst prior to the USA bubble busting. But then we restarted our bubble. It fell again and our bubble started once more. We really have a very high level of valuation. You have to remember, that house prices fell 5 percent in 2008 prior to the government bringing in the first homebuyers’ boost.

We have more and more bad news from the retail sector. Just yesterday, David Jones said their revenue per store has fallen off a cliff?
Well retail is off because people are in too much debt. I remember seeing a Sydney Morning Herald article just two days ago, which said we just lack confidence. No we don’t, we just had too much confidence in the past which got us into too much debt. I have been saying this for 18 to 24 months. The retail area is going to suffer because households are redirecting too much money to pay down their debts, rather than spending.

Plus at the moment, there is all this talk about savings that we are supposed to be doing right now; it just doesn’t add up. The way savings are measured is they are the residual between house disposable income and consumption. But consumption doesn’t include debt service. So-called savings are a large amount of people servicing their large amount of mortgage debt and trying to reduce it. This is why retail is suffering.

People are carrying a debt burden at least 5 times the same amount as in 1990. Given this enormous difference, they are trying to at least keep it manageable or under control, if not reduce it. Therefore, they are not spending.

When the USA housing bubble burst, did it burst with a sharp fall in house prices?
No that’s not how a bubble works. What tends to happen is you have accelerating house prices. You get a bubble going and there is like an exponential shape to the curve. But when you get to the house prices where new buyers turned off by the level of debt they have to get into to actually enter the market. Or you get in the USA case where people who should never have been leant money in the first place and they are forced into liquidation. What you start getting is a tapering. So let’s take the Australian case where we didn’t have as much “Ma and Pa” lending as the USA had. But we have driven the prices up to a level where first homebuyers can no longer consider entering the market.

We have reduced the stock of first homebuyers from might be 25 and up and earning the average wage to people who are 35-40 and up and earning 20 percent above the average wage. Basically we have reduced the number of entrants so there are less people turning up to buy. But your flow of sellers remains constant initially. So what this means is the stock of unsold houses expands. As this stock of unsold houses expands, vendors don’t want to cut their price at the start. As more and more places turn up for sale and there are more and more open inspections and less and less people turning up at these open inspections, you really get an overhang of unsold properties on the market. What you don’t get is people bidding up prices, because instead of having 6 bidders at an auction you start getting one and two bidders at auction. This cuts out the pressure on the buyer’s side of rising prices, even if they did have the money to buy.

After a little while of this, it becomes commonsense that house prices are just not going to move. So people start dropping their prices by 5% or so and try to get in there. And it’s just a cascade effect from there.

But the danger in the Australian market is that 30% of the market are in there as investors. Meaning they are speculators gambling on rising house prices. If these people start to see that house prices are not rising, they go from being on the buy side of the equation to the sell side.The house price obsession didn’t kick off until the 1980s. Prior to the ‘80s a house was a place you bought to live in, not to gamble on its price rising?
 
If you had any advice to my readers on closing, what would it be?
Largely to get out of debt. If you have a secure income and your debt is manageable, then there should be no problem. If you have an income which is dependent on economic conditions. Or you have a large investment property mortgage where you are dependent upon cash flow to service that mortgage then just reduce your debt.

Thanks for your time, Steve. It looks like there might be fun times ahead.