Lessons from Japan’s Housing Bubble – V

All the king’s horses and all the king’s men, could not put the Housing Rubble up again.

The accompanying image depicts house prices post the Housing Bubble. By 2004, the Japanese housing bubble had become completely obliterated. More than $20 trillion (1999 dollars) were wiped off with the combined collapse of the real estate market and the Tokyo stock market.

A class-A property in Tokyo’s financial districts were less than 1/100th of their peak, and Tokyo’s residential homes were 1/10th of their peak, and even at this time they were considered to be listed as the most expensive real estate in the world.

One of the main reasons for the failure in containing the housing bubble was the late intervention of the Japanese central bank, the Bank of Japan, which stepped in late-1989, when it was too late and rates were stratospheric.

As with any desperate moves, the action it took was far too heavy and too fast, raising benchmark interest rates from 2.5% to 6% over 15 months. This was too much for Japan's over-inflated land and stock markets to handle, and economists say that this pulled the rug out from under both markets at the same time.

The Japanese housing bubble was a result of the availability of cheap money, at low interest rates, while the US sub-prime crisis was a result of inflation driving up the interest rates, which forced the Fed to cut benchmark interest rates from 5.5% to 2.5%.

Primarily, it is the availability of excessive funds sloshing around in the economy that causes bubbles. In Japan, business corporations themselves indulged in real estate speculation, so when markets collapsed, it wiped out company balance sheets, crippled the nation’s banks, and gave the overall economy a blow to the chin. This appears to be very similar to what is currently happening in India.

Read the first story in this series: Why is India's Housing Bubble Similar to Japan's

This article has been developed from the October 2005 issues of the New York Times. You can read it here

Lessons from Japan's Housing Bubble - III

Bubble Indicator: Mad Rush for Home Loans and Huge Debt

The rush to use housing loans to fund home purchases and retail borrowers becoming very comfortable with taking on huge debt is an indicator that a bubble may be in place.

During Japan’s housing bubble, banks came out with exotic loans that required very little money upfront and promised extremely low EMIs for the first few years.

Surprisingly, despite having seen this taking a toll on the Japanese, US financial corporations did not hesitate to devise similar debt options, to fuel the housing boom in the US, and consequently these loans were responsible for what is now famous as the Subprime crisis.

Japan’s exotic loans included the so-called three-generation loan, a 90- or even 100-year mortgage that permitted buyers to spread payments out over their lifetimes and those of their children and grandchildren.

Perhaps the one redeeming factor in India is that home loans are conservative products of 15- and 20-year tenures, given only after a 5-10% down payment is made. Loans in India conform to stringent qualifying mechanisms, which may be one reason why many believe that there may not be a bubble in place.

It can be argued that a lack of exotic loans has in fact prevented a blow-up, but this does not mean it will be enough to prevent it. To take things in perspective, salaried individuals in India have been a conservative lot, who until 1991 were expected to buy a house with their savings.

This continues to be the general line of thinking, but people have become more aggressive and speculative. It is not unknown to find 25-year-old ITES employees to splurge of large homes using home loans. This has also caused the average age for home purchase to fall to 32, while in 1991, when the Indian economy opened, the average age of a home purchaser was around 38.

Nonetheless, the prime driver for real estate in India continues to remain the stock markets. One must not forget that in 1995 the per-sq-ft rates for homes were the same as in 2006. New highs were made only in 2007, driven by the large sums of monies made available to real estate companies, either through listing, or through private equity funding.

The boom of 1995 was without cheap credit and private equity, which counters the argument that the lack of exotic loans in India has prevented a housing. It is worthwhile to note that floating-rate interest loans in India are a form of exotic loans, where the EMI could increase if the RBI increases the repo rates – the rate at which the RBI lends to banks.

But when property prices dropped in Japan, homeowners found themselves saddled with loans far larger than the value of their real estate. Many fell into bankruptcy, especially those who lost their jobs or took pay cuts as declining property prices helped to incite a broader recession.

Read next story in this series: Marooned in Distant Suburbs

This article has been developed from the October 2005 issues of the New York Times. You can read it here

Lessons from Japan's Housing Bubble - II

Myth: Prices will keep rising forever.

Too many homebuyers, lured by sleek advertising and media-generated hoopla, buy properties that they can rationally ill-afford, given their financial background and potential. However, their eyes are usually centered in to a future where they expect to sell their newly-acquired properties at huge profits, while allowing rentals to pay for their EMIs. However, when prices drop, buyers get financially battered and in worse cases even completely wiped out.

Human beings have a congenitally designed to not learn from the past. During a bubble, people don't believe that prices will fall, even though it has been proven wrong so many times before.

Another indicator of a bubble is the unbridled bidding for worthless land.

At the peak, an empty three-square-meter parcel (about 32 square feet) in a corner of the Ginza shopping district in Tokyo sold for $600,000, even though it was too small to build on.

Prices were highest here in 1989, with some fetching over $1.5 million per square meter ($139,000 per square foot), and only slightly less in other areas of Tokyo. Plots only slightly larger gave birth to bizarre structures known as pencil buildings: tall, thin structures that often had just one small room per floor. Such structures later become reminders of a different era, like the aftermath of a boisterous party.

Another indicator of a bubble is the acute scarcity of affordable housing. In Japan too, during the housing bubble, the focus was only on building commercial property and luxury apartments. In India too, currently, especially within the city limits of Mumbai, a standard 2-bed room apartments cost no less than Rs 1 crore.

By 2004, a prime “A” property in Tokyo's financial districts were less than 1/100th of their peak, and Tokyo’'s residential homes were 1/10th of their peak, and even at this time they were considered to be listed as the most expensive real estate in the world. At the end of the Japanese housing bubble, some $20 trillion (1999 dollars) was wiped out with the combined collapse of the real estate market and the Tokyo stock market.

Read next story in this series: Mad Rush for Home Loans and Huge Debt

This article has been developed from the October 2005 issues of the New York Times. You can read it here

Lessons from Japan's Housing Bubble - I

Why India's Housing Bubble Similar to Japan's?

A housing bubble is in place when property rates start rising at double-digit rates, and people start taking loans to invest in property, with the idea that the loan can be paid back easily and the property sold at a profit.

Once the bubble is burst, the property is worth a fraction of its purchase price and people get left behind with a negative asset, where the EMI is higher than what the asset can earn in a month. In such a situation, the balance outstanding loan cannot be paid off even if the asset is sold.

Japan is an excellent example of a housing bubble that went horribly wrong, and it has a glaring similarity to what is happening in India. Read on and identify the similarities:

• The Japanese real estate market boomed from 1985 to its peak sometime in early 1991.
  
• During this time, Japan’s property prices rose much faster and more steeply as speculators used paper profits from a booming stock market to invest in property, insupportably leveraging the prices of both higher and higher.
• The biggest speculators in Japan's frenzy were deep-pocketed corporations, and they pumped up the commercial property market at the same time that home prices were inflating.
• Japan suffered one of the biggest property market collapses in modern history. At the market’s peak in 1991, all the land in Japan, a country the size of California, was worth about $18 trillion, or almost four times the value of all property in the United States at the time. A commonly-quoted claim was that the land beneath the Imperial Palace in Tokyo was worth more than the entire state of California.

Then came the crashes in both stocks and property, after the Japanese central bank moved too aggressively to raise interest rates. Both markets spiraled downward as investors sold stocks to cover losses in the land market, and vice versa, plunging prices into a 14-year trough. In 2005, the land in Japan was worth less than half its 1991 peak, while property in the United States has more than tripled in value, to about $17 trillion.

Homeowners were among the biggest victims of the Japanese real estate bubble. In Japan’s six largest cities, residential prices dropped 64 percent from 1991 to 2004. By most estimates, millions of homebuyers took substantial losses on the largest purchase of their lives.

By 2004, a prime “A” property in Tokyo's financial districts were less than 1/100th of their peak, and Tokyo’'s residential homes were 1/10th of their peak, and even at this time they were considered to be listed as the most expensive real estate in the world. At the end of the Japanese housing bubble, some $20 trillion (1999 dollars) was wiped out with the combined collapse of the real estate market and the Tokyo stock market.

Read next story in this series: Myth: Prices Will Keep Rising Forever

This article has been developed from the October 2005 issues of the New York Times. You can read it here