The 18-year real estate cycle continues to march on right on schedule. There has been a boom-bust real estate cycle since the early 1800s, with a period of about 18 years. Some doubters point to the more irregular cycle that occurred after the Great Depression. The cycle was interrupted by World War II, but resumed during the 1950s. Then there was a short upswing of real estate prices after the recession of 1973, fueled by the high-inflation of the 1970s, which ended with the recession of 1980.
But, perhaps by coincidence or maybe not, the next real-estate-based recession came in 1990, 17 years after the 1973 recession. With neither a full-scale war nor high inflation since 1990, the resumption of the 18-year period would put the next recession this year, in 2008.
On July 2007, I published a booklet entitled The Depression of 2008, in which I explain the business cycle based on a synthesis of the Austrian-school and the Henry-George cycle theories, a geo-Austrian synthesis. The Austrian theory is based on money, capital goods, and interest rates. It lacks the land factor, which the Georgist theory supplies while the Georgist theory needs to include interest rates and capital goods. Thus, the integration provides a powerful synthesis. I also include the role played by the secondary mortgage market in spreading the pain of the real estate crash to the whole financial industry.
If we test the geo-Austrian theory with the historical data, we can see that the data fit the theory. Every real estate boom has been followed by a major recession and depression. That is why for the past ten years I have been confidently forecasting a recession around 2008 following the collapse of the real estate bubble.
In the July 2007 conference FreedomFest, I gave a talk on the “Why my Georgist Economics predicts a Depression in 2008." FreedomFest puts all the sessions on CDs, and they are still available. (Note: I don’t get any royalties from the sales.) The very next month, on August 2007, the stock market cracked. The real estate bubble had burst, the subprime mortgages were defaulting, and the value of real estate debt was crumbling. Brokerage firms, hedge funds, and banks subsequently lost billions of dollars, losses they could have avoided if those financial grand poobahs understood the real estate cycle.
Some economists have scoffed at the real estate cycle, saying that “real estate is local.” Sure, there are wide local differences, but real estate is bought and constructed with borrowed money, so the financial aspect makes real estate national and global, and there are also economy-wide general trends. For the USA, housing permits, housing starts, and housing completions have all plunged, and many durables — furniture, appliances, office equipment — are linked to real estate, making real estate about a third of all economic investment, much of which is linked to debt.
Now we are engaged in a great financial crisis. A debt bubble was erected on the real estate bubble. Now hundreds of billions of dollars’ worth of bonds could default, and “collateralized debt obligations” (CDOs), “credit default swaps” and leveraged debt holdings increase the problem by an order of magnitude. Bond insurance claims could fail as previous high ratings are exposed as faulty. That implies higher interest costs for cities borrowing with municipal bonds, while falling land prices and falling sales reduce government revenue.
Employment and manufacturing growth have slowed. Several financial institutions are forecasting a recession, and some economists and financial analysts even think that a recession has already started. The economy has become the prime political issue of campaign 2008.
Federal chiefs are proposing a $150 billion program to “stimulate” the economy. This is like injecting drugs into a tired athlete. He might get up and run a little more, but the drugs do not deal with why the athlete got exhausted in the first place. If a taxpayer gets a rebate of a few hundred dollars, he might use it to pay taxes or to pay down his debt, and that would provide no stimulus. If he spends it, some will go to imports, and some of the domestic spending will just draw down inventory. So the effect of any money handouts will be very limited.
Manufacturing and construction are losing jobs and are at the brink of a waterfall because of high real estate costs, dried-up credit, and pessimistic expectations. Retail sales are weak. The falling US dollar has made US exports cheaper, but export growth will not solve the credit crunch and will be swamped by the effects of the real estate bust. Moreover, the US dollar could rise as US goods have become cheaper paid in foreign money.
The Federal Reserve has hugely expanded the money supply to lower the short-term interest rates, and will continue to lower interest rates, but this will fuel further price inflation and does not eliminate the credit risks and mortgage defaults. The federal and state governments could freeze the scheduled increases in adjustable mortgages rates, which would reduce defaults, but that is not a free lunch, as it further reduces the payouts from mortgages that banks and other financial institutions facing bankruptcy depend on.
The government chiefs are basically putting duct tape on a collapsing economic structure. The candidates for president only talk about immediate relief, and are not confronting the structural issues. The federal administration and Federal Reserve still declare (as of this writing, January 20, 2008) that the economy will have low growth but not a recession. The government chiefs and many economists and financial analysis just don’t understand the business cycle.
The only way to eliminate the business cycle is to let interest rates be set by the market and to stop subsidizing land ownership. We need to let the money supply be set by market demand instead of by central-planning monetary socialism, and we need to tap land rent or land value for public revenue, instead of punishing the economy with taxes on labor, capital, and goods.
A crisis is a time when people are willing to change, and the explanation of the cause and cure of the business cycle makes a good teaching tool, but the question is, will people listen?
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FRED E. FOLDVARY, Ph.D., (May 11, 1946 — June 5, 2021) was an economist who wrote weekly editorials for Progress.org since 1997. Foldvary’s commentaries are well respected for their currency, sound logic, wit, and consistent devotion to human freedom. He received his B.A. in economics from the University of California at Berkeley, and his M.A. and Ph.D. in economics from George Mason University. He taught economics at Virginia Tech, John F. Kennedy University, Santa Clara University, and San Jose State University.
Foldvary is the author of The Soul of Liberty, Public Goods and Private Communities, and Dictionary of Free Market Economics. He edited and contributed to Beyond Neoclassical Economics and, with Dan Klein, The Half-Life of Policy Rationales. Foldvary’s areas of research included public finance, governance, ethical philosophy, and land economics.
Foldvary is notably known for going on record in the American Journal of Economics and Sociology in 1997 to predict the exact timing of the 2008 economic depression—eleven years before the event occurred. He was able to do so due to his extensive knowledge of the real-estate cycle.